How to Start Investing in Stocks
A beginner’s guide, especially if you’re in Jamaica
If you’re reading this, you have taken another step towards financial freedom. Investing is definitely a great way of creating wealth. The first thing you need to know is that saving and investing are completely different. Never use your savings to invest.
In this guide, I will be discussing investing in stocks or what can also be referred to as direct equity. What is a stock? How does investing in stocks work? What are shares? Is there a difference between stocks and shares?
In simple terms, the word share refers to fractions of ownership of a company. This means a company can be owned by multiple individuals. The unit of measurement of this ownership is called a share. If you are to tell someone you own shares, it refers to one specific company.
Stocks, on the other hand, refers to a more general scenario. If you own stocks, that means you own shares in one or more companies. Share is specific, stock is general.
The stock market is a place in which buyers and sellers connect with various companies to trade. In Jamaica, the Jamaica Stock Exchange is the body that manages the stock market. There are other stock exchanges such as the New York Stock Exchange and the London Stock Exchange. However, you cannot purchase directly from the stock exchange.
When buying stocks, you need the aid of a stock broker. This is because you cannot just call Amazon or any company and purchase a piece of it. When choosing a stock broker, consider the services they offer and their prices. Compare the various offerings and choose the one that is best for you. Personally, I use Jamaica Money Market Brokers (JMMB) as my stock broker because in my opinion, they offer the best services and they are also a bank so I can easily transfer money from my savings account to my investment account.
Before we get into how stocks work, let’s identify how businesses work. A business is an entity that creates value for a specific group of people and captures value from them with the aim of making a profit. With that said, a business can also make a loss and understanding how businesses make money is very important. Here is another rule of investing. If you don’t understand the business and how it earns, DO NOT INVEST IN IT. Once you know how the business works, the next step is to evaluate the business as it relates to profitability. Is it currently making a profit? Are there any future plans that may increase its profitability? Is it opening another store? Are they launching new products? How is the market reacting to it right now? Are there any external factors that may hinder profitability? These are all questions that need to be answered before you really decide to invest. Here is where you need to see financial statements and check the company history to really understand what has been happening and what is their current situation.
Now it’s time to start talking about how stocks work. Not all companies are available for purchase on the stock market. Remember we talked about owning shares? If the shares are held privately and not issued to the general public, then, you have a private limited company. If the shares are available for purchase, then, you have a public limited company. Public limited companies are listed on the stock market. If a private limited company wants to go public, they have to list a portion/fraction of the company on the stock market.
Once the company goes public, you have the option of buying from the total number of shares that they would have made available. Imagine a store selling headphones and the have an inventory of ten, once the ten has been bought, you cannot walk in to buy any until they restock. The only other way to get a headphone would be to either purchase from one of the persons who would have bought it and is willing to sell you theirs or to find another vendor/store. It’s the same with the stock market. This is why you need a stock broker. They connect you with everyone who is selling and the companies themselves. If you decide to buy shares, you either get from an available pool or you are connected with a seller who is willing to sell their stock at the price you are willing to purchase it for. This is not something you could do on your own as it would take too much time to go searching for the right sale.
If you buy shares in a company, that means you own a portion of that specific company. A business owner shares in the profit or loss of their business and you become one of the business owners so the same rule applies for you. Once the business makes a profit, so do you. If the business makes a loss, you share in that loss as well. This is why it is very important to understand how the business you want to invest in will make money.
If you purchase a 100 shares in a company for $10 per unit, that means you would have spent $1,000 to acquire that amount. Should the price change from $10 per unit to $12 per unit, you would have gained an additional $2 for every unit you own. That means your portfolio would move from $1,000 to $1,200. You can buy additional shares or sell your current shares at any time, however, the broker is responsible for ensuring the sales goes through within the time period you set up. For example, you can request to sell 100 shares at $14 per unit and the broker would have to find someone who is looking to buy the shares at that price. There is usually a time limit attached as well. Let’s say you want the sale to be done within a week, after the week is finished, you keep the shares if there is no one willing to buy from you at that time.
When buying stocks, here’s a simple 5 step formula to help:
Identify the business/company you want to invest in.
Establish how they make money
Check their financial statements for at least 3 years
Check the history of the business and trading
Evaluate and decide if it is feasible for you.
You can find all the necessary information online. Each business on the stock exchange has to publish an annual financial report. Inside the report you will find the balance sheet, income statement and statement of cash flows which are very important when trying to evaluate a company’s profitability. Also check the stock market history to identify how the company has been trading over the last few years. What made their stock price increase and why? How often do they pay dividends?
This is the beginning of trading stocks.
