Stock CFDs 101
When one looks at investing capital, there are a few aspects that should be considered when looking for an investment vehicle
Is an asset easily ‘liquidated’ (sold) without affecting the price of said asset?
The liquidity of an asset is directly related to price volatility.
Higher liquidity assets will tend to have lower prices swings, whereas non-liquid assets might swing wildly as sell orders are placed/removed from the market.
How large is the total market capitalization?
The larger a company becomes, the more difficult it will be for its share price to double or halve in value – meaning there is less room for growth and loss, respectively.
In the words of Warren Buffett, “Risk comes from not knowing what you’re doing.”
To eliminate risk, one needs to understand the assets they are buying, how they will behave under certain circumstances (liquidity), and know how much money can be lost if such circumstances arise (size).
Does this asset trade on multiple exchanges?
The more exchanges an asset trades on, the less market risk there is; single exchange assets are subject to the peculiarities of that particular exchange.
What is the price elasticity of demand?
It will tell us how much demand for that good changes when its price goes up or down.
A highly inelastic good (one whose demand doesn’t change much with its price) might seem like a desirable investment at first glance.
Still, if everyone has already bought all they intend to buy, any new demand (i.e., if one wants to “get in on the action”) will cause a price rise.
Does the business in question have any unique elements in its operations?
If so, what are they, and can they be protected?
Some examples would be patented pharmaceuticals or technologies that are not easily obtained if one does not work for the company in question. Business risk can also include outside factors such as regulatory changes, legislative decisions (e.g., Obamacare)etc.
Are earnings stable?
Many companies have excellent long term prospects but cannot turn a profit in the short term.
Thus investors should look for companies with good earnings stability over at least one business cycle
What about share repurchases?
It can tell you what % of net income is being returned each time it trades hands, and knowing this might help an investor decide if they want to invest or hold on to their money until more favourable yield opportunities arise.
How much is the company paying out vs how much could I make by reinvesting those payouts right now?
The dividend yield is the annual dividend divided by the current share price. One may not like a company’s prospects as an investment but might still hold onto its stock because it makes excellent passive income.
This is also known as “dollar-cost averaging.”
Price to book ratio
How much am I paying for each $1 of assets?
Knowing this can help determine whether one asset will perform better than another over time and, if so, by how much.
Price to earnings ratio
What kind of value am I getting per $1 of net income?
Price to earnings (P/E) ratios range from very low – meaning that investors are expecting poor growth– to very high – meaning that investors expect significant increases in revenue and income.
Price to sales ratio
Going by this formula, for every $1 of gross income, a company has to pay out $0.02 in dividends and another 80 cents as a tax.
In other words, if a company’s P/S ratio is 2., then the company makes double what it pays out as a dividend and can reinvest those earnings at an average return of about 40 percent.
Higher is better.
If a company makes more money on each dollar of sales than it has to pay in dividends, then the price per sale is better than 1.0,
Which means it’s generating more income from the revenue it brings in.