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Every investor should learn how to pick stocks before investing in the stock market. I am not talking about day traders. That is a different topic, which I will cover in the next topic. Right now I am focusing on investments that you want to make and hold for a long time.

Once you learn how to use these tools you will be able to compare stocks and be able to tell a good investment from a bad investment. Hopefully, this will save you some money along the way. When I started investing I did not know these tools, so I lost some money to stocks.

2 Types of Analysis

To answer the question of how to pick stocks you have to know that there are 2 types of analysis that you need to do before you put your money into stocks. They are called qualitative and quantitative analysis. Both of them are very important because when you know that the company does great things it also has to show that on paper with numbers, and when a company is great on paper it has to have great people and structure to prosper further.

Qualitative Analysis is a descriptive outlook on the company that can be observed. It is not set in numbers, so you have to rely on logic, gut, emotions, and most of all knowledge. When doing this analysis you look for trends that are going on in a particular industry or in the world. Common sources for it are news, management statements, and research analysts. It is recommended that you have a deeper knowledge of a company or industry before even going to it.

Quantitative Analysis is information about financial results. Your main source is a balance sheet, income statement, and statement of cash flows. In these 3 places you can find or calculate are the necessary ratios that you can compare to the market, industry, or other companies.

Qualitative Analysis

You might already have a lot of information about some of the companies because you work in a particular sector or industry, or maybe you directly use some of the company’s products. That is a great place to start. If you do not have knowledge of the industry that you are interested in at the moment then you must do a lot of research and read on the internet. If you do not want to do that at the moment then I suggest you do not put your money into it either.

Without knowing what the company does or how it is managed and how it is perceived by people you can answer the question of how to pick stocks.

1. Evaluate values, mission, and vision. When you are checking a particular company it is a good idea to check what the company values, what it wants to achieve, and how they imagine its purpose. Some companies might write some nice words on paper so, check if they actually do that. You can check by reading the news, or checking what management tells to the public. If they say one thing and do the other it is not a good example of a trustworthy company.

2. Use SWOT analysis. SWOT is an abbreviation of strengths, weaknesses, opportunities, and threats. You can do this analysis yourself and evaluate if the company is a good investment.

3. Porter’s 5 Forces. This analysis is used to evaluate companies position in its industry. The 5 forces are rivalry with industry, the bargaining power of suppliers, the bargaining power of consumers, the threat of new entrants, and the threat of substitute products. Once you do this analysis by comparing the company that is interested in its competitors it is quite clear which company has a better position.

4. Moats. Moats are the most important thing that can protect a company in a harsh market and even help it grow. If a company has a durable competitive advantage it is very unlikely that it will lose its value in the long term.

If you have heard about value investing that is promoted by Warren Buffet you know that moats have to be in your checklist of how to pick stocks.

• Low-cost and differentiated companies. Because the company dominates its current position against suppliers it can get better prices and thus make products cheaper. Companies can further their position by making good quality products at affordable prices. Companies that mass produce their products can achieve economies of scale where their manufacturing costs are much lower. It is a lot different if you manufacture 1.000 units or 1.000.000 units. Big companies can automate and robotize their processes to save money on their production.
• High switching costs. It is hard or expensive to switch from one product or service to another. For example, if you are a Gmail user would you willingly use outlook instead? It is quite hard to switch because you have to learn a new system and set up all the rules for emails from scratch.
• Network effect. When companies have an excellent network that is practically impossible for a new competitor to appear or at least it would cost so much that they would not even try. It can be an extensive distribution network used around the world or an electric grid for the utility industry.
• Brand. When customers have an attachment to a brand, they trust it. When you think about a product you automatically think of a brand. These brands can charge higher prices just because they are so well known. Companies that have a great reputation for their products or services can be carried far by their customers. Word of mouth is a powerful marketing factor.
• Secret. These companies have developed or created something that is protected by license. Usually, companies with this moat are drug development companies. It takes a very long time to develop drugs and they are protected by law for a lot of years.
• Government protection (Toll bridge). In some cases, governments allow monopolies or give money to companies that are of national importance. They do not care for competition that much, they just want some things done. In a lot of countries, utility sectors are protected by their governments, however, often governments also control the prices of these companies.

Quantitative Analysis

Moving on to the quantitative analysis as I mentioned before you will be relying on the ratios that can be calculated from the company’s balance sheet, income statement, or cash flow statements.

1. Compare ratios to the industry average and competitors. In order to understand if the current ratio is good for the company or not you will have to compare it to other companies. Ratios on their own do not matter much as they are often very different between different industries.

2. Some rations are more important for some industries than others. For example, inventory turnover is very important for companies that produce products but not as important for companies that provide services.

3. Some ratios are more important to some stock types than others. For example, if you are trying to evaluate a growth company you do not expect it to pay out dividends. So, all ratios associated with dividends are not important in this situation.

4. Focus on key ratios. There are hundreds of different ratios out there. You do not need to compare all of them. I will list only the important ones in this article.

5. Ratio categories. All of the ratios can be divided into a few categories: valuation (price), profitability, liquidity, Debt (solvency), and efficiency (operating). By doing this you can come across a lot of different scenarios. For example, you will find companies that have great prices, but their other aspects a very bad, so it also explains the low price.

Below I provide a table that you can save when you are doing an analysis of stocks. It helps you to answer the question of how to pick stocks.

A lot of the ratios do not have to be calculated. You can find many of them on Yahoo Finance website under the summary or statistics tabs. Some of them, however, you will have to calculate on your own. But you can find all the needed numbers under the financials tab. Yahoo Finance has an income statement, balance sheet, and cash flow statement in there.

However, I will provide the needed formulas so, you would understand these ratios better.

Valuation ratios

Valuation ratios help you to determine if the current stock price is fairly valued, undervalued, or overvalued and determine how to pick stocks.

Price to Earning Ratio (P/E)

To calculate you will need: an income statement, and the most recent stock price. You can look up these numbers also.

It shows how much you pay for 1 USD of companies earnings. The P/E ratio range is different in each industry. In general, it is a good start if it is below 25. For some industries, it can be lower.

PEG Ratio

To calculate you will need: an income statement, and the most recent stock price. You can look up these numbers also, but it would be a good idea to do it yourself.

Potential growth is quite subjective, as analysts calculate potential growth. As you know they are as accurate as a monkey picking stocks with darts. So, you might want to calculate this yourself by calculating the growth of the most important numbers for the last 10 years. If it is below 1, then it’s a good value.

Price to Sales Ratio (P/S)

To calculate you will need: an income statement, and the most recent stock price. You can look up these numbers also.

The ratio can be used with companies that do not have positive earnings or companies that are not profitable yet. Like Amazon or Tesla was for years. The good ratio is 1-2. Below 1 is excellent.

Price to Book Ratio (P/B)

To calculate you will need: an income statement, and the most recent stock price. You can look up these numbers also.

Book value per share = (Total assets – intangible assets – total liabilities) / number of outstanding shares

It shows what the company is worth if it sold its assets and paid all its liabilities. Often used by value investors and used when there are negative earnings. It might be hard to compare ratios with other companies as they might use different accounting rules. The good range though is 1-3. Below 1 is excellent.

Enterprise Value/Revenue Ratio

To calculate you will need: an income statement, and a balance sheet. For this one, you will have to calculate yourself.

Used for the early stage of the company or for high-growth businesses with negative earnings. You can use this ratio as an alternative to P/E, PEG, and EV/EBITDA ratios. I would say that this one is better than the P/B ratio because it ignores accounting issues. It is hard to compare companies that have different cost structures. I have to mention that the ratio ignores profitability and the generation of cash flow. Also, it is not suited when you want to compare different company phases (new company and old established company). The good range is 1-3. The lower it is the better.

Enterprise Value To EBITDA Ratio (EV/EBITDA)

To calculate you will need: an income statement, and a balance sheet. For this one, you will have to calculate yourself.

The ratio is also called EV multiple. Can be used instead of P/E. It is harder to manipulate these numbers by accounting. The good number is below 10. Some say below 15 is also good.

Price To Cash Flow Ratio (P/CF)

To calculate you will need: a statistics sheet. For this one, you will have to calculate yourself.

How much cash company generates relative to its market value? Can be used instead of P/E as cash flow is less manipulated than earnings. A value below 10 is good.

Price To Free Cash Flow ratio (P/FCF)

To calculate you will need: a statistics sheet. For this one, you will have to calculate yourself.

More rigorous from P/CF ratio. It is kind of the same as the previous ratio but more exact. Bellow 5 is good.

Dividend Ratios

Dividend ratios are important for you if you choose to invest in income stocks and evaluate how to pick stocks. If that is the case you are looking for old established companies that have been paying dividends for at least 10 years without missing a payment. It is best if these companies increased dividends in the last 10 years.

Dividend Yield

To calculate you will need: an income statement, and a most recent stock price. You can look up these numbers also.

Ratios show how profitable your investment will be from dividends. However, it is better to invest in companies that pay dividends consistently rather than in companies that have a higher dividend yield.

Dividend Payout Ratio

To calculate you will need: an income statement. You can look up these numbers also.

It shows the percentage of profits distributed as dividends. Usually, it is set in the company policy, so keep an eye on that. Less than 50% is awesome, 50-60% is good, and 60-70% is okay. Compare this ratio to the industry. For example, Real Estate Investment trusts (REITs) are required to have high payout rates.

Profitability Ratios

These ratios are important to evaluate the overall health of the company and how profitable it is. The rations help to answer the question of how to pick stocks. Companies with low ratios have a high risk of going bankrupt when the bear market begins as it is likely that these ratios will fall. If that happens stock price is sure to fall.

Return on Assets (ROA)

To calculate you will need: an income statement, and a balance sheet. You can look up these numbers also.

This ratio shows how good is company at using money. The higher number the better, but compare it to competitors.

Return on Equity (ROE)

To calculate you will need: an income statement, and a balance sheet. You can look up these numbers also.

The ratio shows how good the company is doing per invested money. The higher number the better.

Profit Margin

To calculate you will need: an income statement. You can look up these numbers also.

The ratio shows how much money is left after costs. The higher the better compared to the same industry.

Liquidity Ratios

Liquidity is very important for investors who are evaluating value companies. These are some of the most important safety tools. This ratio shows how a company can cover its short-term debts. If the ratios are bad, however, companies can reduce expenses (cancel training, lay off people, etc.), sell assets, take on more debt to cover the short-term debt, and cut or eliminate dividends to cover the debt.

All of these solutions usually have an impact on companies’ share prices. So, be aware of the numbers, because the last step companies can do are going bankrupt. If that happens you will lose all of your money from that investment. These ratios are very important to answer the question of how to evaluate stocks.

Current Ratio

To calculate you will need: a balance sheet. You can look up these numbers also.

The higher the ratio the better. But compare it to peers because the normality can be very different in different industries.

Quick Ratio

To calculate you will need: a balance sheet. For this one, you will have to calculate yourself.

This is a more conservative ratio than the current ratio because you look at more liquid assets. Likewise, the higher the ratio the better and you have to compare it to peers.

Debt Ratios

Debt ratios are very important like liquidity ratios and can help you to answer how to pick stocks. Having too much debt can lead to serious problems and eventually bankruptcy. You should always check if a company covers its debt with 2 years of earnings or less. More than that increases your risk too much.

Debt To Equity Ratio

To calculate you will need: a balance sheet. You can look up these numbers also.

If the ratio increases the company becomes riskier and can bankrupt because it cannot meet obligations. If the ratio is low then the company can sell some of its assets to pay out debt if it needs to do that.

Interest Coverage Ratio

To calculate you will need: an income statement. For this one, you will have to calculate yourself.

The ratio shows how easily a company can pay its debt. If the ratio is less than 1 then it is bad.

Efficiency Ratios

Efficiency ratios show you how good management is doing. Companies that have good efficiency ratios usually have more cash, and less debt, and can invest their money into growth instead of stock that collects dust in a warehouse. These ratios are also crucial to answering the question of how to pick stocks.

Asset Turnover

To calculate you will need: an income statement and a balance sheet. For this one, you will have to calculate yourself.

Similar to ROA it measures how well a company uses assets. The higher the number the better. Also, compare it to peers.

Inventory Turnover

To calculate you will need: an income statement and a balance sheet. For this one, you will have to calculate yourself.

This ratio shows how many times a company replenishes its stock in one year. The higher number the better. It depends on the industry what is good and bad, so always compare this number the similar companies.

How to pick stocks?

• To pick stocks that you want to hold for a long-term strategy you have to do qualitative and quantitative analysis.
• Qualitative analysis cannot really be measured. You have to analyze what the company is doing.
• Tools that help to do the qualitative analysis are values, mission, vision, SWOT analysis, Poters‘ 5 Forces analysis, and analyzing moats.
• Quantitative analysis is done by analyzing financial numbers that can be found in companies’ income statements, balance sheets, and cash flow statements.
• There are 5 types of ratios for quantitative analysis: valuation (price), profitability, liquidity, Debt (solvency), and efficiency (operating).

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There are 3 types of stocks and how they can be grouped together to analyze them better. Classification also helps to compare them to each other, and ultimately diversify your portfolio.

Once you get a grasp of what a stock is and how to check its value you may want to deepen your knowledge by investigating stocks further.

If the last part is not clear to you I recommend reading my other article ‘Understanding The Stock Market For Beginners‘

1. Stocks By Size

In the world of investing, stock size is categorized based on the market capitalization of a company. The three main categories or types of stocks are small-cap stocks, mid-cap stocks, and large-cap stocks. Each of these categories represents a different level of risk and potential reward. They can be helpful in diversifying your investment portfolio.

Small-cap

Small-cap stocks are those of companies with a market capitalization of less than $2 billion. These companies are generally considered riskier investments. They are often less established and have a smaller track record of success. However, small-cap stocks also have the potential for higher growth. They can provide a substantial return on investment if the company is successful.

There are a total of 4151 small-cap companies out there currently.

Mid-cap

Mid-cap stocks are those of companies with a market capitalization between $2 billion and $10 billion. These companies are considered to be in a period of growth and development and often offer a balance of risk and reward. Mid-cap stocks can provide investors with a moderate level of stability, while still offering the potential for substantial growth.

There are a total of 1200 mid-cap companies out there currently.

Large-cap

Large-cap stocks are those of companies with a market capitalization of over $10 billion. These companies are often well-established, with a long track record of success and stability. These companies may not offer the same level of growth potential as small-cap and mid-cap stocks. However, they are considered to be relatively safe investments and can provide a steady stream of income.

There are a total of 820 large-cap companies out there currently.

Diversifying your investment portfolio is important in managing risk and maximizing your return on investment. By investing in a mix of small-cap, mid-cap, and large-cap stocks, you can reduce the overall risk of your portfolio. This can increase your chances of success. For example, if your portfolio is primarily made up of large-cap stocks, investing in small-cap and mid-cap stocks can help offset the risk if the larger companies experience a downturn.

In conclusion, small-cap, mid-cap, and large-cap stocks each offer different levels of risk and potential reward. By diversifying your investment portfolio, you can reduce your overall risk and increase your chances of success. It is important to give some time to determine the right mix of stocks for your individual investment goals and risk tolerance.

2. Styles Of Stocks

Stocks can also be classified based on their investment style. Three main styles or 3 types of stocks are growth, income, and value. Understanding these styles and how to incorporate them into your portfolio can be a useful tool for risk management and increasing the chances of investment success.

Growth Stocks

Growth stocks represent companies that are expected to grow faster than the overall market and often reinvest earnings to fuel future growth, instead of paying dividends. Although growth stocks offer the potential for significant capital appreciation, they come with higher risks.

• Does well on the bull market – When the market is rising, stocks usually perform much better than others, giving you higher returns.
• First to lose value on the bear market – When the stock market is going to a bear market, growth stocks are the first ones to lose value and the most value. Knowing when to buy and sell these kinds of stocks is very important.
• Usually has a high P/E ratio – Because growth stocks grow faster, these companies have higher P/E ratios than the market average or even the industry average.
• Mostly found in the technology sector – The technology sector is known for getting hyped about. Everybody is excited about new technology and improvements in current gadgets.

Income stocks

On the other hand, income stocks belong to companies that pay a significant portion of their earnings in the form of dividends, providing a steady stream of income to investors. This can be a suitable option for those seeking to supplement their retirement income, but may not offer the same potential for capital appreciation as growth stocks.

• Pays dividends – What is excellent about income stocks is that their dividends give you some income. However, it would be best if you made your homework about these companies. You want them to be paying dividends for at least 10 years without missing a payment or even rising dividends.
• Slow growers – These companies have stopped investing in their growth and believe they cannot grow at such speed, so instead some companies choose to award their investors by paying dividends.
• Perfect for the elderly – As money is generated passively these companies are great for older people who do not want to risk their money, but instead get some returns from their money with minimal risk.
• Old and established companies – Companies that pay dividends usually are old companies that once were growth companies but ran out of ideas to grow even further.

Value Stocks

Value stocks are companies that are believed to be undervalued relative to their financial metrics or earnings potential. Investors which invest in value stocks seek out companies that are trading at a lower price than their true worth and anticipate that the market will eventually recognize their value. These types of stocks can provide income and capital appreciation, but also carry a higher level of risk.

• Companies on sale – You want to look for companies with great fundamentals and whose book value is fantastic, but their stock price is low for some reason. In most cases, this can happen because there is some trouble with these companies.
• May not return on previous value – When buying these companies you have to take the risk that they may never return to the last price.
• Look for competitive advantages – As value investing, methodology says you have to look for companies with some competitive advantage. If you pair this with a low price, you are sure to make some money on your purchase.
• Slower growth after the bear market – Value stocks usually tend to be slow growers after the bear market loosens up.

Diversifying your portfolio by incorporating a mix of growth, income, and value stocks can help manage risk. By doing this you increase the chances of investment success. For instance, if a portfolio primarily consists of growth stocks, adding income and value stocks can help offset potential losses during a market downturn.

In conclusion, growth, income, and value stocks each offer unique characteristics and levels of risk and potential reward. Taking some time to determine the appropriate mix of stocks for your individual investment goals and risk tolerance is essential to a successful investment strategy.

3. Stock Sectors

The Global Industry Classification Standard (GICS) is a widely recognized system for categorizing stocks based on their industry. It was developed by Standard & Poor’s and MSCI and is used by financial professionals and investors to better understand and analyze the makeup of their investment portfolios.

This standard helps us to put every stock in 11 sectors by their primary activities. Every sector has its own traits that help us to analyze them better. So, in total there are 11 types of stocks by sector.

• Technology Sector
• Healthcare Sector
• Financial Services Sector
• Consumer Cyclical Sector
• Industrials Sector
• Communication Services Sector
• Consumer Defensive Sector
• Energy Sector
• Utilities Sector
• Real Estate Sector
• Basic Materials Sector

Each sector is made up of multiple industries, such as Pharmaceuticals within Health Care or Software & Services within Information Technology.

Using the GICS classification system allows investors to have a deeper understanding of the industries and sectors they are invested in. It can also be useful in diversifying their portfolios. For example, an investor may choose to have a well-balanced portfolio by investing in a mix of industries and sectors, instead of putting all their money into one specific industry.

In addition, the GICS classification system provides investors with a consistent and transparent framework for comparing and analyzing stocks across different industries and sectors. This allows for easier comparison and benchmarking of stocks, which can help inform investment decisions.

In conclusion, the Global Industry Classification Standard (GICS) is a widely used system for categorizing stocks based on their industry and sector. Using the GICS classification system can provide investors with a deeper understanding of their portfolios, help them make informed investment decisions, and promote diversification by investing in a mix of industries and sectors.

I recommend reading my other article – ‘11 stock market sectors‘

Conclusion To 3 Types Of Stocks

• Stocks can be classified by their size. Small-cap, mid-cap, and large-cap.
• Stocks can be classified by their style. Growth, income, or value.
• Stocks can be classified by their sectors. There are a total of 11 of them: Technology, healthcare, financial services, consumer cyclical, industrial sector, communication services, consumer defensive, energy sector, utilities sector, real estate, basic materials sectors.

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There is a load of information out there, so understanding the stock market for beginners is not that simple. In this article, I will try to explain the basics that you probably have missed or interpreted them differently.

If you do not know where to start your investing journey then this article is for you!

How To Earn Money From The Stock Market?

Understanding the stock market for beginners can be quite challenging. You can expect to read a lot in order to learn and be proficient in a stock market language.

It all begins with understanding the goal of investing – earning money. There are 2 ways you can do that.

• Waiting for stock to grow in value

When you purchase a stock you purchase it for a price and if you sell it for a bigger price you earn a profit. Depending on a lot of things this can take minutes or years because stocks are volatile and they always go up or down in value.

If you invested in a whole market you could expect a 10% average growth per year from this strategy.

• Receiving dividends

Another option to receive money from investing is receiving dividends from stocks.

Some companies that have already grown to the stage where they do not invest that much in their own growth can start paying dividends to investors. Companies pay you a sum from their revenue to say thank you for staying with us.

Usually, you can expect to receive from 2% to 6% annually from a company. However, you have to keep in mind that not every company pays dividends, and if they pay out a high percentage it can be a bad sign and the company might need money.

What Is a Stock?

Once a company goes public for the first time it becomes available for all people to invest into. That means that a company gives up some of the ownership of the company away to attract investors.

Companies do that so they could grow faster or simply because the owner of the company wants to cash out without selling the whole thing. Nowadays it is not that easy to become a publicly traded company so I would not think that a lot of company owners would go through all that trouble just to make extra money.

When you choose a company and purchase its stock you become an owner of the company in a sense. You are not included in day-to-day operations but you are definitely a partial owner of the company. The percentage from one stock would be very low though.

However, in some cases, this can give you some advantages. For example, Tesla lets you ask them a question and the most popular questions will be answered by the management.

One more thing you should know is that the company‘s stocks are traded in stock markets and yes, there is more than one. Usually, there are different stock markets in each country. The most know stock exchanges are NYSE and NASDAQ.

In general, stocks can earn you higher returns than other investment alternatives. This includes stocks, index funds, and other ETFs.

Supply And Demand

Like in any other market, there is supply and demand for stocks. Because of this stock prices fluctuate every minute when they are being traded.

This economic model explains that if there are a lot of sellers there has to be the same amount of buyers that are willing to make trades on agreed prices. If there are a lot of people who want to sell, but there are very few people who want to purchase then the stock price drops till there are enough buyers. This also works the other way – if there are a few sellers and a lot of buyers stock prices rise.

The same thing applies to the products that companies sell. For example, when Covid19 started a lot of flights were shut off and people either did not want to go on vacations or they could not because of the restrictions. For this reason, the demand for flights was almost obsolete and the supply was huge. This resulted in some aero companies going bankrupt.

Portfolio Diversification

When understanding the stock market for beginners it is important to understand diversification. It means that you should not invest all your money in one place or one stock.

If you were to invest in only one stock all your fortune depends on one company and as you already know stocks fluctuate in their value a lot.

Before you even start to diversify you need to figure out what type of investor you want to be and what are your goals.

You also need to know when you will need the invested money. For example, if you are already in your pension then you probably want to get dividends and put your money where it would be safe. So, you would avoid risky, volatile stocks.

However, if you are in your 20s then you might want to aggressively invest in growth stocks that in good years can even get you 10x returns. Do not take this number for a fact as you would have to be extremely lucky. It is also possible that you would lose 50% of your money in one year.

Moreover, you have to decide what you would do if a company would lose 10%, 30%, or even 50% of its value. You need to have a plan for that. If you did your homework and this company is still worth investing then maybe you would want to put even more money into it as it sells so cheaply.

How Different Portfolios Performed Over Time?

There are a few investment options you can choose when investing. That is why the understanding stock market for beginners can be hard. All of them can be grouped by their potential return on investment (ROI) and their risk.

In investing world risk almost always is highly correlated with high returns – the higher the risk, the higher are potential returns.

Cash and Bonds

Both are considered defensive options that are considered safe. However, neither of them can offer you high returns.

Real estate, stocks, and alternative investments

In the same order, these investments get riskier and can offer higher returns. When talking about alternative investments this also includes cryptocurrencies.

When we talk about investment portfolios we usually talk about a mix of bonds and stocks. In the picture above you can see 4 different allocations of both investment types.

You can notice that mixing even a little bit of stocks in your portfolio is actually safer than owning just bonds as over the 100 years there were fewer down years in 20% stocks and 80% bonds allocation.

While investing everything into the stock market can get you the highest returns do you expect to keep your investments for 100 years? I know I am not so it might be too risky to put all of your money into only stock portfolios.

I recommend reading my other article – ‘Passive Investing With Index Funds‘

How To Read Stock Information?

There are a lot of great websites where you can see live information about key indicators of stocks. Yahoo Finance and investing.com are great examples of that.

I have marked a few parts in the screenshot above.

• Stock Name – you can either search for stock either by its name or short stock name in the brackets.
• Stock Price – it shows the current stock price, the change in price today (or last day), and the difference in percentages.
• Previous Close – a price at which the market closed the last time
• Open – a price at which the market opened last time
• Bid – is the price that someone is trying to sell times stock quantity
• Ask – is the price that someone is trying to buy times the stock quantity
• Day‘s range – shows today‘s lowest and highest traded prices
• 52 Week Range – sow  lowest and highest traded prices over the course of a year
• Volume – how many shares were traded today
• Avg. Volume – how many stocks are traded in an average day
• Market Cap – how much is this company worth
• Beta (5y Monthly) – This one is very interesting! It shows the risk of this stock. If this ratio is 1 then a company moves together with the whole market up or down at the same rate in a month‘s time. Lower than 1 like in the example means that this stock makes more minor adjustments, thus it is safer. If the ratio is above 1 then a stock is riskier than average.
• PE Ratio (TTM) – Price per earning ratio for the last 12 months. If the ratio is below 25 then generally it is an indicator that it is a good stock for buying as it is not overpriced.
• EPS Ratio (TTM) – Earning per share ratio for the last 12 months. This ratio shows how much money a company earns per share.
• Earning Date – shows the next date or dates when earnings for be publicly announced.
• Forward Dividend & Yield – show how much dividends the company pays. If it is N/A, then a company does not pay dividends.
• Ex-Dividend Date – show when dividends will be paid. Again, if it shows N/A then the company is not paying dividends.
• 1y Target Est. – it shows what analysts think the company‘s share price will be in one year. However, you should never trust these numbers and use them just for indication.
• The Chart – you can expand it and do a technical analysis according to it.

Understanding Stock Charts

If you are a technical person and like numbers, stock charts may be interesting to you. If not, then don‘t worry – value investors do other kinds of analysis.

The stock chart shows how a company‘s price is doing in time.

Understanding stock market for beginners can be hard, so I wrote a different article on this topic. I suggest you read my article – ‘calculate stock price‘

What Type Of Investor Do You Want To Be?

When investing and trying to deal with life it is likely that you will not be able to make every kind of analysis on stocks so it would be a good idea to choose what you like most.

• Scalper – You are interested in how much the price changes in minutes.
• Day trading – You are focused on the changes that happened in the last hours.
• Swing trading – You are doing an analysis of how the price changed in a few days.
• Position trading – You are tracking prices that changed over the course of weeks.
• Part-time – When you have less time you are checking how prices changed over a few months.
• Buy and hold – fewer exits in total.

It is not only how often you trade but what tools are you using. Technical analysis is used for scalper trading whereas fundamental analysis is used for buy and hold strategy.

How To Pick A Broker?

To invest in the stock market you will need a broker – a person or a company that makes purchases and sells in the markets. You would need a license to do it by yourself, so you cannot avoid this step.

In general, I would suggest you against a freelancing broker because he or she has zero interest in you earning money as they receive money when you make a purchase or sale. So, I would trust nothing they told me.

On the other hand, there are a lot of online brokerage companies where you could trade stocks with low fees, or even in your own bank if it offers you this option.

Questions you need to ask when choosing a broker:

• Is it available in your country and currency?
• Can you trust a broker?
• How often are you going to trade?
• Do you like the user interface?
• What account types are available?
• What are the account, trading, and miscellaneous fees?
• Is there a test version?
• What analysis tools are available?
• Is there a paper trading ability?
• Does the broker offer some sort of education?
• How easy it is to move funds in or out?
• How good is the customer service?

A few I have used or I am using right now are Interactive Brokers and Revolut. Both of them are really established and Revolut just got a bank status, so it became a lot safer than it was before.

Understanding Stock Market For Beginners Conclusion

• Before investing you have to get familiar with investment terms and tools
• You have to decide on your investment strategy
• You have to decide what type of investor you want to be
• You have to pick a broker to trade stocks

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Evaluating a stock can be a tedious task especially when you do not know where to start. In this article, I will show you how to calculate stock price in 3 easy ways.

There are a lot of ways how to do it and you can find them on the internet. Each of them is different a can get you very different results. However, there is nothing to worry about as you have to know what exactly they evaluate.

I will show you the basics of how to calculate stock price and determine which companies you should investigate further and which ones are better not to touch.

Why Do You Want To Evaluate a Stock Price?

If you are fairly new to investing you might be thinking that there is nothing to evaluate. If you like the company and you believe that it will grow then you should invest in it.

Well, from my personal experience, I would suggest that you do some research and give more time for your initial evaluation as you might be losing money on your poorly chosen strategy.

In the old beliefs that are now disproven companies are always selling at the correct value as it should be. So, basically, you see a price that the company is worth right now and you either buy it or don‘t.

This is not entirely true as people are not acting rationally all the time especially when they are scared or too greedy. Because of that stock prices may have altogether different values according to their intrinsic value. Intrinsic value means valuing a company based on its cash flow.

How To Calculate Stock Price?

Now that you know that you should check more than the face value of the company what should you really care about?

There are 3 main things that you should check to see if the company is interesting at the moment or not. These 3 things are a competitive advantage, ratios, and technical analysis.

1.     Competetive Advantage

The first step in how to calculate stock price is checking if the company has a competitive advantage.

Competitive advantage often can be called a moat. Many investors suggest you consider it as a water-surrounding castle and protect it from intruders. This is exactly what a moat means – it protects the company from others stealing market share.

Low-cost and high-quality leader

Companies that have this kind of competitive advantage are big companies that can purchase their resources cheaply because of their buying power. The more company buys the better prices it can negotiate.

By doing this, companies can offer products cheaper and when there is a downturn in the market competitors might have to increase prices but a company with a low-cost moat can lower its gross profit and even grow going more market share. Thus creating a snowball effect.

Buying resources cheaply can also allow companies to offer higher quality products than other companies with similar prices as their expenses are lower.

The best way to find out if a company has this kind of competitive advantage is by visiting a company‘s website or comparing companies in the same industry with free online tools like finviz.

A company like Costco definitely has this competitive advantage as it has 847 stores in the world as of 2023 January and their revenue last year was 222.7 billion USD. Imagine quoting a price from a supplier for a few million items each month when competitors have a lot smaller demand. Of course, Costco gets the best price.

Known Brand

Known brand competitive advantage is achieved when a company is established in its market. In fact, it is more like when you think of a product and one particular brand comes to mind.

For example, if you think of a smartphone, who has not heard of Apple‘s iPhone? If it is a beverage drink then everybody thinks of Cola. And if it is coffee then there is probably no American who at least does not know that Starbucks exists and how they always misspell your name on the cup.

There are a lot of different reasons why a company can achieve this. Still, in most cases, it is because of very aggressive marketing to the point that Pampers brand has become a noun in people‘s minds or the company changed the market with its innovation.

Other moats

The moats mentioned above are the most common. Some include switching, network effect, toll bridge, and secret.

For more information about moats, I suggest you read my other article Investment checklist by ‘Invested‘.

2.     Ratios

When you have established that the company has a moat you have to ask how to calculate stock price. That means checking how it is doing financially compared to others. A lot of different ratios can be found online that can help you do that. I will go through the most important ones.

Price To Earning Ratio (P/E)

The best-known ratio out there is the price-to-earning ratio (P/E). You can find this ratio almost everywhere. The P/E ratio is calculated by dividing a stock price by the company‘s most recent earnings per share (EPS). EPS is calculated by dividing the company’s profits by its outstanding shares.

To put it simply, the P/E ratio shows how much investors are willing to pay for the company’s earnings. In general, it is said that it is good if a company has a ratio below 25. However, it highly depends on the industry average.

I suggest you read more about 11 Stock Market Sectors.

Price To Sales Ratio (P/S)

Price to sales ratio (P/S) is a very good metric that shows how well a company is growing when it does not have huge profits yet. The P/S ratio is calculated by dividing its outstanding share by its annual revenue.

A good example of this would be to evaluate Amazon. As it is a huge company it grows very fast because it keeps profits low.

Generally, if this ratio is below 2 then the company is doing great. However, like with the P/E ratio you have to compare it to the industry‘s average.

You can easily find these metrics in Yahoo Finance and investing.com. Generally, I check financial information from Yahoo Finance, but investing.com shows you industry averages of these ratios in one place.

Price To Book Ratio (P/B)

Price to book ratio shows the company‘s book value per share. It‘s calculated by dividing book value by outstanding shares.  A company‘s book value is calculated as assets minus liabilities.

This ratio is best used for companies that have a lot of assets like banks and financial institutions.

Generally, you want to ratio to be below 1 but you have to compare it to industries average ratio.

To find out more about ratios I suggest reading Investment checklist by ‘Invested‘.

3.     Technical Analysis

The third step on how to calculate stock price I wanted to mention is technical analysis. Technical analysis is often referred to as studying graphs and trends of stock prices.

This method is used to identify good trading opportunities by evaluating the stock‘s past performance indicators. Mostly, this analysis is used by day traders or short-term investors.

Personally, I love numbers and it is fun for me to analyze statistics and trends but when it comes to investing I lean more toward value investing principles that Benjamin Graham, Warren Buffer, and Peter Lynch suggest.

By this thinking it can be more worthwhile to concentrate on doing the fundamental analysis of a company and not care as much for the current technology trends as over 10 years period it makes practically no difference at all.

That being said I also do not like to see my investment going down as soon as I purchase it and see it staying the same or dropping for 1 or 2 years.

Candles and Moving Average

When you do a technical analysis I would suggest using Investing.com or Yahoo Finance which already has all the tools you will need for it.

There are 2 main things you should look for when you look for a good time to invest.

Candles

Always change the graph to candles. Green candles mean that the price went up, and red means it went down. The length of the candle shows how much the price has changed over a set period of time. I would suggest using a day for a time interval.

Moving Average

Also, you want to add a moving average to the graph for the whole thing to make sense to you so you could start analyzing. It shows what was the average price for a set period of time. If you use a day interval I suggest setting it to 14 days. By default, investing.com is set to 9.

In the chart above I market all the things, you should press to set the graph to get the same view as me.

The moving average is crossing the red candle from below – once this happens stock price is supposed to start moving down. It means that the current up moving is slowing and it may start going down. You can see it on the left side.

The moving average is crossing the green candle from above – once this happens stock price is supposed to start moving up. It means that the current down moving is slowing and it may start going up. You can see it on the right side.

According to technical analysis, these are the 2 points when you should be buying and selling your investment.

Down Side of Day Trading

If you are using only technical analysis then you will likely be buying and selling all the stocks every day. This requires a lot of your attention and time. Not to say that you will probably be tired from it and it could be hard on you mentally.

When you do trading every day you will actually be gaining or losing money often. Can you really bear it?

You also have to keep in mind that when day trading you will be paying additional costs upon purchase and selling. Moreover, you will have to pay taxes as you gain profit. Whereas with value investing you can hold stocks till the day you want to cash out.

If you want to try though I suggest you do it on an app like Revolut or a similar program that will lower your expenses to almost zero until you want to take the money out to your bank account.

Conclusion On How To Calculate Stock Price

• 3 steps to evaluate stocks are moats, ratios, and technical analysis
• Moats help companies in bad market situations
• Ratios let you know if the current stock price is overvalued
• Technical analysis helps you determine where the stock price is going in a concise period

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In this article I will try to answer the question – is the stock market overvalued and teach you how can you check this yourself. 

According to a great book ‘Invested‘ by Danielle Town and Phil Town you only need Shiller P/E Ratio and Buffet Indicator to see if the stock market is overvalued. 

However, I included all the other indicators that I know of if you wanted a second opinion.

Shiller P/E Ratio

Shiller’s P/E ratio is different from other indicators because it includes 10-year average inflation and cyclically adjusted price to earnings. 

The current Shiller P/E Ratio is 27.73. Its mean is 16.99, median – is 15.90. Right now it is close to the highest it ever was.

Right now it is the fourth time this ratio has increased by over 25 and every other time market crashed a lot. However, this indicator does not tell us when the market will crash. It might be a week, 2 years, or even 3 years, but it will crash.

If you wish to know more about this ratio you can read a book by Robert Shiller called ‘Irrational Exuberance‘.

Buffett Indicator

The buffet indicator is the ratio between the market as a whole and the national revenue. This is one of the best ratios you can look into if you want to know where the market stands at any given moment.

• Buffett Indicator is 158% and according to the exponential trendline, 128% would be considered to be fairly valued. 
• According to Phil Town if the value is around 60% then the market is undervalued and if it is over 100% it is overvalued.
• Warren Buffet himself said that if the indicator is near 200% the market is highly overvalued.

According to this ratio, the market was overvalued for 10 years now. In 2009 the Federal Reserve Bank had an intervention of 4 trillion US dollars that stopped the crash from it being worse. Also, interest rates were lowered to 0. 

I believe that Warren Buffet is not holding to his cash for no reason. At the moment it is hard to find good investments. However, it is possible.

S&P 500 P/E Ratio

We need to check the historic average P/E ratio to the current P/E ratio of the market.

Currently, S&P 500 P/E ratio is 19.71, the mean is 15.99 and the median is 14.91. This suggests that the stock market is overvalued.

Analysts do not like this metric as according to them the value of the market keeps rising, so it does not show the full picture. However, analysts try to find all the reasons to prove that the market is priced fairly.

S&P 500 Earning Yield

This is an inverse ratio to the S&P500 P/E ratio. Earning yield is 5.08%, its mean is 7.28% and the median is 6.71%. The less Earning yield is the more the market is overvalued.

This means that if you invest 100 USD in S&P500 you could expect to receive 5 USD annually from your investment.

This ratio is not conclusive it simply supports the S&P500 P/E ratio. However, it shows that the market is overvalued, but it has a trend to get back to normal levels.

S&P 500 Dividend Yield

The dividend yield right now is 1.70%. Its mean is 4.27% and the median is 4.23%. This indicates that the market is overvalued at the moment.

When stock prices rise it tends that dividends do not rise as fast. If you want to invest in S&P500 for its dividends then it is the worst moment in history to do that. This ratio was lower only in the 2000 crisis.

S&P 500 Mean Reversion

This ratio refers to a stock‘s price and that it will fluctuate around its average over the long term. So, if the market is above the trend it will fall below the trend and if it is below the trend line then it will rise in the future.

According to the historic trendline with added expected growth S&P500 is currently 27% above the trend. So, it is overvalued at the moment.

Interest Rates

The current United States Fed Funds Rate is 4.4%. It has recently been increased a few times. 

This means that the US government decided to make it more expensive to borrow money and by that decrease spending. They did this to fight high inflation rates. Therefore, the US market will stop growing as much and return to a more sustainable growth rate.

This indicates that we should not expect high growth rates for the S&P 500 as we saw for the last couple of years. There are some speculations that interest rates will rise above 5% next year in the US. Of this, the market should slow down even more.

Bond Returns

The US bond returns started rising recently to 3.8391%. In the past year, it has increased by 2.333%. We have not seen such a high rate since the 2008 market crash. 

This is very concerning as bond returns get higher it will be a better (and safer) investment option than the stock market.

When this happens investors tend to sell their stocks and go to the bonds. Therefore, the stock market will decrease in value as the money from it will be pulled out by the investors who would find alternative investment options.

Right now we are going there and this could be one of the reasons that the market will crash as some people leaving the stock market will cause others to see falling prices and because of fear, they would also retrieve their money from the investments crashing the market, even more, creating the snowball effect.

Yield Curve Inversion

In this table, you can see the difference in interest rates between different U.S. Treasury bond yields.

Normally you would see short-term bonds have lower yields than long-term bonds. However, if people expect a stock market crash to happen you can see (like right now) people buying bonds.

At the start of this year bond yield was 2.17% and right now it is 3.98%.

This graph that it is right is a bad sign for the economy and most likely will lead to a bad market crash in less than 2 years.

Market Capitalization to GDP Ratio

Currently, the whole market capitalization to GDP ratio is 133.2%. However, the ratio for the US is skyrocketing at 193.3%.

If the ratio is below 70% then the market is undervalued. If it is above 125% then it is overvalued. This is very similar to Buffer Indicator except for this count for the whole market.

According to the numbers the market is as overvalued as it can be in the US. By this, we could expect a crash.

Sector S&P 500 P/E Ratios and Shiller P/E Ratios

In the graph above you can see averages from the last 13 years and current Shiller P/E ratios by each sector.

By this, you can see that the Energy sector is highly overvalued and you should avoid it.

However, the Communications services sector is highly undervalued.

When you look at the whole market you see that it is overvalued. However, there are 11 main sectors by which you can make a closer look. As it might be a bad idea to invest in index funds at the moment you can probably still find some good investment opportunities by looking at each sector and looking at companies one by one.

In the graph above you can see the Regular P/E ratio at the moment and the average from the last 13 years. 

Again like with the Shiller P/E ratio you can see that the Energy sector is overvalued.

However, the Communication Services sector is less undervalued than Shiller P/E showed us and in fact, the Basic Materials sector might be the one undervalued.

You can use both of these graphs to guide you in the right direction. However, you should look into each company individually. It is possible that you would find some great investment opportunities in other sectors as well.

Is The Stock Market Overvalued?

To put it simply – yes it is very much overvalued and it probably will crash in less than 2 years according to different ratios.

What you should do with this information? Well, it might be a good idea to stock up on cash or choose a different investment idea than to invest in stock market indexes like S&P500.

By looking closer into each section you can see that not all sectors are overvalued at the moment so you might be able to find some stocks that currently are selling at fair prices.

Also, you could look into my alternative investment section or even keep your saving in cash to wait for amazing investment opportunities when the market will crash.

If you want to learn more you can check stablebread.com article.

Conclusion

We answered the question – is the stock market overvalued and the answer is a hard yes. Especially the Energy sector and we can expect a crash soon.

In general, you would not need to look into all these ratios that were mentioned in this article. It is more than enough for most of us to check 1 or 2 ratios to get the picture.

However, I think it is good to know that they are out there and to know how to use them.

According to the book ‘Invested‘ you only need 2 ratios that are very easy to look up and track if you are interested in what current condition the stock market is currently in.

Generally, you can look up only the Shiller P/E ratio which should be around 17 for the market to be priced fairly, or to Buffet Indicator which should be below 100%. If these ratios are higher than that then yes, the market is overvalued.

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