The simplest definition of shares of a company is “ownership.” Anytime an investor purchases stock in a company, they automatically acquire a stake in that company. As a result, you are referred to as an equity shareholder in the business. Given that you possess the company’s stock (shares), you are qualified to share in its earnings. You should be aware, however, that if you decide to invest in any company’s stock, the rewards you could receive will only materialize if share prices rise.
If you are a serious investor, you would think about several factors before investing your hard earned money, just like you would with any business you might own or invest in. The same is true when investing in direct equity. Finding out if you are the right investor to make direct equity investments is the first important thing to determine, even before considering equity investing in a DIY fashion. Beyond the fundamentals of the traded companies, events occurring locally and globally impact how volatile the equity markets are. Hence, investment returns can be unpredictable here. Investors who lack the necessary knowledge and/or the ability to control their biases and emotions while investing should steer clear of the DIY approach, especially in the direct equity route. Given the volatility of shares and how frequently and quickly markets shift, direct equity requires patience and high-risk behavior.
Here are some questions that investors whole ask before investing in direct equity:
Finding The Why
What’s my objective?
Clarity of thought while investing is a requisite. What is this investment’s purpose, tenure and what are the goals you hope to accomplish financially? Stock markets are typically erratic in nature, and seasoned investors know that volatility is a given in the short term. Long-term market growth is not unprecedented, so seasoned investors are aware that you must stick with your investment through challenging times. As a result, you cannot be an irrational investor who sells a stock the instant a downward trend is apparent. Or, on the other hand, hold on to a stock that is spiraling because of an emotional connection. Therefore, it is crucial to understand why you are investing in direct equity and which asset classes are suitable for assisting you in achieving your financial goals within the given timeframe.
Once you have clarified your purpose and objective for investing in direct equity it is now time to dive deeper. Here are things you need to look for before investing in a stock of an organization.
The Growth Factor
What is driving the organization’s growth?
This is a good question to begin with. Organizations that have proven consistency in growth that stems from their core products or services will provide sustainable valuations in future. A quick glance at the P&L of the company will reveal its history of actual revenue and profits. Then ask the question: How do their sales, earnings, and profit margins stack up against those of their peers, industry benchmarks, and other stocks? You can get a sense of their growth rate and the returns provided to investors by taking a look at their historical growth chart and past performance.
Who is at the helm?
Today, businessmen like Adani, Ambani, Tata, and Godrej are linked to outstanding businesses that investors blindly invest in. For a company to stand out it may be defined based on the unique products and services it offers. However, for businesses operating in an extremely competitive market, the success of the enterprise depends on the caliber of management. Effective leaders who are visionaries, innovators, and forward-thinkers are capable of guiding an organization through good times and bad. From setting a corporate strategy to the allocation of capital these decisions lie in the hand of management. Their wisdom and choices hold the organization’s future in their hands.
The P/E Ratio
P/E=Share Price/Earnings Per Share
The price-to-earnings ratio (P/E ratio) is frequently used to value and compare stocks. That is the price you are paying for a share in relation to the amount it has demonstrated it can earn. If the price to earnings ratio is 10, you are paying Rs. 100 for a share that has a Rs. 10 potential earnings over the course of the following year. A high P/E typically means that investors anticipate faster future earnings growth than they would for businesses with a low P/E. A low P/E ratio may suggest that a company is undervalued right now or that it is performing remarkably well in comparison to its historical trends.
The Financial Leverage
Is the business in too much debt?
A good debt-to-equity ratio is typically one between less than and equal to 2. The emphasis should be on companies with manageable levels of debt and an adequate interest coverage ratio (IC). IC gauges how well the company’s earnings before interest and tax (EBIT) can offset the cost of borrowing money. A healthy balance sheet is one that has a higher interest coverage ratio.
Another crucial check are to be done on the valuations of an organization. Stocks with a large margin of that are markedly undervalued are a good asset to investment in.
There are benefits to direct equity investment, but it might not be suitable for everyone. The most crucial element is how comfortable you are taking risks. Consider your options before making direct equity investments if you are a novice investor. Investing in direct equity to learn the nuances of how to grow your portfolio’s is a great place to start, but it also requires understanding and expertise to prevent getting your fingers burned. If confronted with a dilemma in investing reach out to our experts at TBNG for guidance.