No matter how dark the economy seems or how low the stock market has sunk, there will always be an argument for investing your money in stocks. Stock investing is the lynchpin of the American and even the world economy.
Some would tell you that a depressed market is the very best time to jump in, but such a generalization – any generalization about the stock market, in fact – is always risky business.
There are as many different strategies and goals where the stock market is concerned as there are stocks themselves. Some are in it for the quick buck, trying to buy low and sell high within a very short span of time (as little as a day; you may have heard of “day traders,” this is what they do). Some are in it for the long haul.
The key to successful stock investing is knowing what you’re in it for
There are two variables with every stock investment: risk and reward.
They go hand in hand – the greater the risk you’re willing to take, the greater the potential returns. And vice versa.
Some investors, especially newer ones, get into trouble when they don’t understand that trade-off. They assume that they can find a stock that’s very safe, with strong fundamental statistics and forecasts, and that because of those factors the stock will go to the moon.
Maybe, maybe not.
Here’s the rub – the entire market knows what you know. Which means that upside potential is already priced into the market value of the stock. Which means, in turn, that when the company reaches their goals as planned, the stock price will have already reflected that performance. It’s “priced in.”
In fact, this presents a significant risk, because if the company fails to reach their forecasted goal, even by a little bit, the stock may take a sudden and significant dip on that news.
Even though the company is otherwise in perfectly good health.
Two Things Make the Stock Market Move
Actually there are three, but the third is the market’s perception of the first two.
One is the fundamental analysis of a stock – the sum of the underlying company’s financial strength, profitability and outlook. This can have an arm’s length relationship to the market price, but over time is the primary variable that supports the price of a given share of stock.
The other is the technical analysis of a stock – the market’s buy-sell pressures based on non-company-related factors, such as the economy in general, current news (even if it’s not related to the company; in the days following September 11, the market fell nearly 2000 points – that’s a technical issue, not a fundamental one), and other emotion and perception-driven factors.
Even profit-taking – sellers flooding the market to take advantage of high prices based on either fundamental or technical swings – is a variable in this equation, one that is technical in nature because the underlying fundamentals may not have changed at all.
That third factor? Emotion, based on perception. If the market believes something, valid or not, the market will move.
A Sum in Excess of Its Parts
These and several other things are basic elements of the stock investing experience, and it is no place for the naïve. Sure, you may get lucky and pick a winner, but the same is true at the dog track.
Only through an understanding, and a combining, of both the fundamental and technical pressures that drive the stock market can you make an informed investment decision.
