Every endeavor in life requires a strategy.
For every goal to be achieved, there has to be a detailed plan of how to achieve it. Successful investment in stocks revolves around an effective strategy. Though there are different ways to approach stock investing, it all boils down to four things:
Here, we look at the five common stock investing strategies adopted by most investors. It is hoped that by the end of this text, you should be in a better position to choose one that suits you.
Value investors are akin to bargain hunters.
It entails looking for investing in stocks that are undervalued i.e. stocks whose prices are below their intrinsic value. Famed investor Warren Buffett calls it the cigar butt approach to investing.
He describes it as finding a beaten-down company, “which sells so cheap that you think there is one good puff left in it”.
Value investors believe that some degree of irrationality exists in the market. This irrationality, in theory, presents opportunities to get a stock at a discounted price and make money from it when it appreciates.
Value investors tend to be long-term holders because they believe that one should buy businesses—not stocks. Investment choices are based on historical trends with decades of future performance in mind.
This entails maintaining your position during periods of market volatility and sell-offs.
Growth investing is investing in stocks that have strong potential for growth above the market average. The growth investor invests in stocks that he believes would appreciate in the future.
As such, he does not pay attention to profit but is interested in how the company reinvests its earnings to accelerate growth. Because growth companies do not pay dividends, growth investors anticipate that they will earn money on their investments through capital gains.
Growth investing should not be mistaken for speculative investing. It involves evaluating the sustainable competitive advantage of the company in the industry it operates in. Growth companies tend to have a founder’s first advantage due to their unique product lines, which puts them ahead of their competitors.
Some create niche markets, which gives them a pole position against their peers.
Momentum investing is a trading strategy whereby investors buy stocks that are rising and sell them when they have peaked.
These investors try to ride the wave in the market by using volatility to find buying opportunities in uptrends and then sell when the stock starts to lose momentum.
Momentum investors believe in ‘buy high, sell higher’. As such, they depend on technical analysis to determine entry positions, though they keep an eye on market sentiment and prevailing macroeconomics to determine which stocks are ‘about to boil’.
Because they are investing in volatile stocks, momentum investors have to monitor the market daily constantly.
Passive investing is an investment strategy which seeks to maximize returns by minimizing buying and selling. It is a buy and hold strategy whereby the investor buys stocks and holds them for long periods without trading them.
Passive investors believe that it is difficult to outperform the market, as such it is best if you invest in an asset that tracks the performance of the market.
Passive investing is cheaper than active trading because the investor does not incur trading fees or broker commissions from frequent trading. It is also less complex because the investor does not have to read charts, time the market or try to forecast where stock prices are headed.
You also incur less taxes since the assets are held for long periods with minimal trading. The most common vehicles for passive investing are index funds and Exchange Traded Funds (ETFs).
Dollar-cost averaging (DCA) is an investment strategy that entails making regular investments in a stock over a period.
Here the investor divides the total sum of money (s)he wishes to invest in a stock and makes the investment in installments. For example, if an investor wishes to invest $1000 in Apple stock, (s)he divides this into five amounts of $200 each which would be invested over a period.
This strategy aims at taking advantage of market volatility and corrections to reduce the total average stock price. As such, this strategy works perfectly when the investor buys during corrections and market sell-offs.
Even if the stock price does not decline below the entry point, the investor is still able to capture the prices at different levels, which effectively lowers the average per-share cost of the purchases.
This strategy also avoids the painstaking process of trying to time the market which most times leads to losses. Dollar-cost averaging is a disciplined approach that keeps an investor committed to saving while reducing the level of risk and the effects of volatility.
Choosing a strategy is more important than the strategy itself.
An investment strategy is a reflection of your personality and philosophy. It should align with your schedule and risk appetite. As such, the focus should be a balanced view between making a profit and management of your investment.
Any of the aforementioned strategies can generate a significant return if the investors applied it effectively and consistently.
Some investors have a hybrid investment strategy that combines two or more of the strategies outlined above. However, since the market is unpredictable, it is advisable to tweak your strategy from time to time if you find out that it no longer meets your investment goals
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