Red Flags To Watch Out For When Choosing Stocks (1)

While there are a myriad of methods that exist for stock picking, a simple and less complicated method is to watch out for danger signs

Think of stock picking as choosing fruits in a farmers market. Only that this time, you have all the information required including when the fruits were planted, who planted them, how long they have been in the market, if there have been any bad reviews of specific fruits from specific farmers, if the expected health benefit of the fruit would be attained, and so much more.

While you would probably not go through all that stress just to validate an apple, you definitely need to do so when it comes to choosing the stocks to invest in and more.

Stock picking is the process whereby an investor uses a form of analysis to determine whether a particular stock will be good to invest in and if it should be added his or her portfolio.

While there are a myriad of methods that exist for stock picking, a simple and less complicated method is to watch out for danger signs. Using our fruit example, instead of analyzing the type of seeds the farmer used to plant his fruit, you could just pick it up and look at it to see if a part of it is bad. And if a part of it is bad, chances are that it is only a matter of time before the entire thing becomes rotten.

Consequently, there are several red flags that you have to watch for when choosing stocks. They include – but are in no way limited to – the following:

Companies having a long trend of losses

It is probably not the best idea to avoid investing in the shares of a company solely because it is not making any profit. This is really because it is possible that the company is investing heavily in restructuring, or expanding its scope so as to put it on the right path for long term growth.

Another reason could be that it is paying a lot of dividends. Beyond these exceptions, where a company has had a long trend of not making profits, you might want to have a re-think. It doesn’t matter how low the company’s shares are; if they have consistently been doing badly for a long period, they really might not start anytime soon.

Companies with inconsistent earnings

If the revenue of a company in 2014 was 200,000, in 2015 was 30,000, and in 2016 was 100,000, you know the company’s revenue stream isn’t well structured. This is, of course, a very theoretic example.

The idea, however, is that you need to be wary of stocks with volatile earnings. Not only would it throw you off balance with its extreme volatility, it really might just keep moving around in circles until something drastic happens and it’s out of the market.

There is no point wasting time with an unstable stock when there are great stocks in the market for you to invest in. Again, it is important to determine the reasons for the volatility first.

Where the share price of a company keeps reducing

This might seem apparent, but it is definitely worth mentioning. If the share price of a prospective stock has been reducing, say over a five-year period, then you need to avoid it. Price volatility is one thing, but reducing share prices say the value of the overall company is going down.

Stocks like these might show you companies or businesses that are phasing out of the market probably as a result of advancements in technology or just an overall negative change in demand for its products or services. It is best to avoid them all together.

Written by Lawretta Egba