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Wheel and deal for share success
By Sam Barrett
If there's one certainty about investing in shares, it's that performance can vary greatly. Therefore, a measured approach to selecting shares for your portfolio will increase the likelihood of ending up with a profit.
"The first thing you need to ask yourself is what you want to achieve," says Keith Bowman, equity analyst at Hargreaves Lansdown. "Think about the level of risk you're prepared to take and whether you want to generate an income, capital growth or a combination of the two."
These factors can help determine where you look to select the companies you invest in. For instance, if you're an adventurous investor that doesn't mind volatility, overseas stockmarkets are worth considering. However, if you want to generate an income and don't want to take too many risks, then you might want to restrict your share investments to high-dividend stocks on the FTSE 100 or FTSE All-Share.
Once you've narrowed down where you're going to invest, you need to home in on the individual companies you want in your portfolio. "In the last couple of years, the amount of pricing information has increased significantly," says Tom Ryan, director of Barclays Stockbrokers. "As well as information on the company and director trading you can also look at data showing what people are buying and selling across the market."
Commitment and involvement
How much or how little you want to digest will depend on how much time you can commit and how involved you want to be. "Start out with what you're comfortable with," advises Ian Benning, product development manager at The Share Centre. For example, this could be based on news stories showing a company has won a new contract, or analysts' recommendations. "As you become more sophisticated you could look at things like the price/earnings (P/E) ratios," he adds.
One piece of data you might want to look at is the dividend cover. This shows how many times the dividend is covered by the company's earnings and can be an indication of its likelihood to pay the dividend.
"The higher the better," says Bowman. "If it's between 1.5 and two then this is really the bottom of the safety level." P/E ratios also give an indication of the company's performance. These show the share price divided by its earnings-per-share, with a high figure suggesting the company has good growth prospects. However, tread carefully, as a high figure can also indicate the share price has fallen.
Share tips, whether in the press or direct from analysts, can be useful too. But treat them with a degree of caution. Once a tip to buy a share has been published, people will buy it and push the price up so any profit may already have disappeared. Comparing a company with its peers will help to gauge its suitability for your portfolio. Every company in a sector will be influenced by the same pressures, but how they deal with them will determine which are the sound investments.
The big picture
You should also keep an eye on the overall portfolio you are building, as this will help to reduce the risk. "Look to invest in companies from a number of different sectors so you're not too badly affected if one sector performs badly," says Bowman. Knowing when to sell a share is just as important as knowing when to buy and this is where many first-time investors come a cropper. "Don't be too greedy," says Benning. "When a share has increased in value it's easy to think this will carry on indefinitely but a profit isn't a profit until you realise it by selling the share."
He recommends setting a target at which you're prepared to take the profit as this will force you to be objective. "You could consider top slicing so you capture some of the gain but leave some of your money exposed to potential future growth," he adds.
As well as setting a limit for growth, it's also prudent to set a limit for losses. If you've carefully selected a company to invest in, chances are you'll be convinced the share price will rise and you'll want to hang on until this happens. Having a price set at which you'll sell ensures you cut your losses, or at least review whether the share is still suitable for your portfolio.
It's also essential that you have time to invest. Although equities outperform cash over the long-term, the way share prices rise and fall means you need to be able to sit tight during the bumpier moments. Because of this, experts say you need to invest in a company for months, if not years.
There are plenty of tales of day traders making thousands of pounds by investing in companies for hours and days rather than months and years, but this is unusual. It also requires large amounts of money to cover all the dealing costs.
Finally, don't invest money you cannot afford to lose. Even with the most thorough research, companies have a habit of doing the unexpected, which could cost you money. But, with careful research and stock selection, investing in shares can be an enjoyable and lucrative way to run your ISA.
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