There are some questions that are always repeated among those people who have just landed in the exciting world of the stock market. In this article, we will answer two of the most repeated questions: when to buy and when to sell shares.
I anticipate that they are two of the most complex decisions that we must make when investing in the stock market, since they depend on multifactorial circumstances in which the opportunity cost intervenes at the time of deciding.
It is convenient that you pay attention to the factors that influence the purchase and sale of shares, I am sure they will be very useful when you start investing.
When to buy stocks?
When we invest long-term, the objective is to buy those shares that trade below their intrinsic value, with a wide margin of safety, and that meet requirements such as solvency or good business quality.
Therefore, to buy the best stocks it is important to respect the formula shown below:
Price < Value – Margin
The required safety margin will depend on the risk we want to assume for each operation. At a minimum, I recommend that you have a safety margin of 20%.
Company analysis
To invest in a company, it is very important to understand the business where we are investing. If we do not understand the business, it is preferable that we stay out of the operation.
To understand the business we must analyze the set of variables that we describe below:
- Competitive advantages of the company
- Risk benefit ratio
- Company solvency
- Management team
- Growth expectations
If after analyzing these variables, we observe that the company is risk-free and represents a good investment opportunity, we will proceed to carry out the key considerations before buying the shares.
Considerations before buying stocks
Before investing in the stock market, it is convenient to take into account the variables that can directly affect our investment, transforming it into a winning or losing operation.
- Company risk
- Broker commissions
- Diversification
- Position size
- Taxes
By taking these factors into account before buying the shares, we will avoid making some of the most common mistakes that greatly affect the bottom line of our investor earnings.
Example of when to buy stocks
We value a company’s stock at $80.
Our margin of safety is 20% based on our investment strategy.
Therefore, we calculate at what price the company would have to trade to have a 20% safety margin.
$80 x 0.2 = $16 → 80 – 16 = $64.
Solution: The company must trade at $ 64 to have a 20% safety margin, if we take into account that the company’s valuation is $80 per share.
When to sell shares?
The ideal is to buy shares that we never have to sell.
According to the famous investor André Kostolany, the ideal would be to buy shares in excellent companies, take some sleeping pills for 20 or 30 years, and by the time we wake up, we would already be millionaires.
Jokes aside, it is very difficult to find companies in which we can be invested forever, so we have to learn to sell stocks at the right time.
Variables to consider before selling
To decide whether we should sell the shares, in the next section we analyze the main variables that will affect this decision.
Opportunity cost (best investment opportunities)
We will sell the shares when there are other companies that offer us a better risk-return ratio. We will sell something undervalued if we have a better option.
Therefore, we will sell a share with a potential appreciation of 10% if we have an investment opportunity that offers us 40%, with the aim of maximizing profits.
Quote higher than its intrinsic value
We will sell the stock when it is no longer undervalued and becomes overvalued, or when it has reached its target price, that is, the intrinsic value and the listing price are the same.
This is the most common cause of sale, when the company no longer offers satisfactory profitability potential, we must sell the shares to find other opportunities in the market.
Changes in the company or sector
The company or industry may be exposed to legal, geographic or industry risks that negatively affect the growth prospects of the company.
To hedge the risk of these types of situations, we will sell the stock to buy other undervalued stocks that have less uncertainty and more potential for growth.
Personal needings
This is one of the most important and delicate points, because the most common is that we need money when there is a financial crisis, and when we are faced with this type of event, the shares are usually at very low prices. If we sell at this time, it is very likely that we will experience significant losses.
That is why we must invest only the money that we do not need in the medium and long term, and develop an emergency fund that allows us to survive for several months without having to sell any shares.
Probably wanna read:
- Importance of stock market analysis
- 5 reasons to invest in education
- Importance of investing in stocks
- The keys to managing the risk of your investment
