Factors To Consider Before Investing in Shares

Financial Goals

A prospective investor must decide on the financial goals to be achieved before investing. This is because investing decision should align with the short-term, medium-term, or long-term intended financial objectives. These goals should be specific, measurable, purpose-driven, unambiguous, and time bound. For example, your goal may be to buy a home, car, fund your children’s education, or earn stream of income at retirement. Generally, investors aim to maximize return on investment. Hence, the financial objectives should be consistent with your risk appetite.

Capital Investment

The amount of capital outlay available for investment will determine the size of the portfolio. Some categories of investment require a minimum amount while others a huge capital outlay. However, the higher the size, all things being equal, the higher the expected returns and vice versa. In addition, investment in shares will attract some incidental expenses such as professional fee, commissions, etc. Most importantly, you should:

• Identify and compare brokerage fees, commissions, account maintenance fees, bank charges, professional fee, and other costs associated with buying, keeping, and selling shares.
• Consider the implications of tax and inflation as it relates to shares acquisition and disposal.

Risk Tolerance

This represents the level of risk that one is willing and ready to undertake. Risk involves the possibility of losing the original investment or part thereof, due to the prevailing economic or market conditions. Generally, investing in shares is susceptible to market gyrations (fluctuations), which may negatively impact the value of your investment. It is a chance that financial losses may arise from the investment. That is why it is essential to incorporate the element of risk in the cash flow estimates when evaluating the investment proposal.

Imagine the financial outcome of some investors in 2008 during the economic meltdown. You should learn from other investors’ past mistakes. Shares are considered the riskiest asset. Hence, before investing in shares/ stocks:

• Assess your risk appetite in relation to the volatility of the securities.
• Consider your age, investment experience, financial condition, and the ability to withstand any unfavourable outcome.
• Consider your financial exposure to maximize return.
• Integrate risk management strategies, including hedging techniques, position sizing, etc. to minimise potential losses and protect your capital investment.

Company Fundamentals

If you have some targeted companies you want to buy their shares, consider analysing their audited financial statements, including income statements, statement of financial positions, and cash flow statements to assess their prevailing financial condition. Their management commentaries and additional disclosures may also help to gain some insight into the business critical activities. Before investing in shares:

• Carry out financial analysis to evaluate some key metrics, including revenue, gross profit margin, operating profit, EBITDA (earnings before interest, tax, depreciation, and amortization), net profit margin, return on equity, dividend capacity, and debt to equity.
• Consider researching the companies’ management team, competitive position, product offerings, corporate governance, brand awareness and recognition, and market shares.

Dividend Payment History

The historical patterns of dividend payment provide important information about future company performance and investment returns. A company that rarely pays dividend may not likely satisfy the financial goal of an investor that desires a regular income. Therefore, before investing in shares:

• Assess the company’s past dividend patterns, including dividend yield, and payout ratio.
• Assess the capacity of the company to pay dividend on a consistent basis through earnings, free cash flow, and future growth prospects. Because strong financial performance is a function of future dividend payment.
• Consider inflation and tax implications on the dividend income, and this should be consistent with your overall investment strategy.

Diversification

This is a risk management technique that mixes a wide variety of investments within a portfolio. It is an investment strategy designed to reduce exposure to risk by combining  several investments, including shares, bonds, real estate, etc. which are unlikely to all react to market conditions in the same way. As a result, volatility will be limited, since not all the asset classes, or industries will fluctuate in value at the same time. Usually, the essence of diversification is to minimize a potential risk to avoid a disastrous financial end.

Instead of committing your limited scarce financial resources entirely on stocks:

• Consider a mix of investments across asset classes, including shares, bonds, commodities, real estate, etc., as well as investing in different industries and geographical regions. This will make your investment portfolio more resilient to gyrations in the financial markets.
• Avoid over-investing in a single stock or industry to mitigate the risk of significant financial losses.
• Maintain a well-diversified investments. This will help you to achieve a more consistent returns over time.
• Rebalance your portfolio regularly to maintain diversification, and consistent with the prevailing market conditions.

Market & Economic Conditions

These have material effect on the value of an investment. Hence, it is important for a potential investor to be conversant with the dictate of the market and economic trends. Before investing in shares:

• Understand the prevailing economic metrics, interest rate changes, inflation expectations, including geopolitical tendencies that could affect stock market performance.
• Monitor the market and macroeconomic indicators, central bank policy statements, geopolitical developments, and global events that could influence market sentiment and investor confidence.
• Consider the current stage of the economic cycle, and how it could impact different industries and asset classes.
• Be flexible and adaptable to changing market conditions consistent with your investment strategy.

Regulatory Environment

The legal and regulatory environment can impact the value of an investment. When investing in shares:

• Understand the rules and regulations that affect investment practices, securities trading, and the stock market in general.
• Avoid compliance risks arising from tax laws, statutory reporting requirements, and disclosures.
• Be conversant with regulatory changes that could impact investment opportunities and market liquidity.

Valuation

This is the process of determining the economic worth of a company’s shares. Before investing in shares:

• Carry out fundamental analysis to determine the intrinsic value of the company’s shares relative to the current market price.
• Consider estimating valuation multiples, including price earnings ratio, dividend yield, and price to book value ratio to ascertain whether the company’s shares are underpriced, overpriced, or properly priced.
• Other non-monetary factors, such as intellectual property, proprietary technology, brand awareness, corporate governance, business model, and growth potential should be taken into consideration when carrying out the valuation.

Liquidity

The shares should readily be sold and marketable at a price close to the quoted market price. Therefore, ensure your targeted company’s shares can be easily converted to cash when the need arises.