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Hope we are all enjoying the long weekend – a well deserved break to recharge and make some sense of all the craziness in the world right now.
There’s a welcome treat for us in today’s post.
It’s a guest post from Gavin at Options Trading IQ.
Gavin is a self-taught options trader, who most recently was working and living in the CAYMAN ISLANDS.
Having met Gav personally, he certainly falls under my definition of FIRE, retired from working for the man and now doing what he enjoys.
You can read more about Gavin here, and follow him on Twitter at @OptiontradinIQ
Ooo and for those of us unfamiliar, options are a more advanced form of trading.
As opposed to buying and selling plain vanilla shares, in which we focus on the price to buy low, sell high, options have three factors that determine value – price, volatility and time.
Take it away Gavin…
5 Ways To Compare Stock Market Investments
When analyzing which companies to invest in, there is an insane amount of data to look at and it can often become overwhelming for investors.
How can we decide which metrics are the important ones to look at?
In today’s article, I want to discuss some of the most important metrics that I look at, and hopefully that will help you when deciding on potential stock investments.
Earnings and earnings per share
When you buy shares in a company you are buying into their earnings potential so it is very important to have a solid understanding of this metric.
Well established companies will have a consistent track record with earnings and earnings growth that can be easily analyzed.
But the companies may have negative earnings and be trading purely on future potential (TSLA, SPCE) so those are much harder to analyze and can be more volatile given that they trade with a cult following rather than based on fundamentals.
Companies in the United States report earnings every quarter so there is plenty of readily available information for investors.
I like to use Nasdaq.com and earningswhispers.com when researching a company’s earnings history and estimates.
Stock are generally quite volatile in the pre-earnings period so keep an eye on important earnings announcement dates before pulling the trigger on an investment.
Some investor will discount technical analysis entirely, but I put a lot of weight in it and there are plenty of studies and books written on the subject that will back me up.
When evaluating a stock, I like to see a strong technical picture and that involves the stock being above the key moving averages and those moving averages sloping up and to the right.
The main moving averages that I watch are the 20, 50 and 200-day moving averages.
Dividends and dividend yields
Income investing has exploded in popularity in recent years with the FIRE movement. Dividends from stock investments form a key part of that strategy.
Most US companies pay dividends on a quarterly basis. When analyzing dividends, it’s important to look at both the dividend amount and the dividend yield.
As an example, Verizon is a stock that pay a healthy dividend of $0.615 per quarter which equates to $2.46 per calendar year.
With the stock price currently trading at $55.72, that gives a dividend yield of 4.41% which is quite high for the US market.
Another thing to look for when it comes to dividends, is strong and consistent increases in dividend payment.
A great place to start is the Dividend Aristocrats or Dividend Kings list.
Verizon has a strong history of raising dividends by around 2% per year.
I discussed how to view future dividends in a detailed post on the Dividend Discount Model including a handy excel calculator.
Risk and volatility
Small companies and high flying tech stocks experience larger fluctuations in stock price than blue chip stocks so this is an important consideration when choosing investments.
Those volatile stocks can provide the best returns but they also have a higher chance of going bust.
Decide which style of investing you want to go for and choose your allocations wisely.
Implied volatility is one way to check how much a stock is expected to move over the course of a one-year period. For example, Zoom Communications currently has an implied volatility level of 84% whereas Verizon has implied volatility of 20%.
That tells us that Zoom stock is likely to move four times more than Verizon. That could be a good thing, but it could do some damage if it goes the wrong way.
Market Capitalization and industry
Stocks can be categorized by size according to their market capitalization or market cap for short. Mark cap simply refers to the number of shares outstanding multiplied by the share price. This is effectively the net value that the company is trading at.
Companies in the US are general broken down into six different market capitalization groups:
- Mega – $200bn plus (e.g. AAPL, AMZN)
- Large – $10bn to $200bn (e.g. XOM, NFLX)
- Mid – $2bn – $10bn (e.g. ETSY, LYFT)
- Small – $300m to $2bn (e.g. LK, SAVE)
- Micro – $50m to $300m (e.g. PRTY, MARK)
- Nano – Under $50m (e.g. NE, SHIP)
Mega cap stocks are your more well established, blue-chip type companies. Large cap stocks are still household names, but not quite the behemoths that you find in the mega cap grouping. Anything in these two groupings would be considered lower risk than the smaller groupings.
On the other end of the scale are the micro and nano stocks which are not well known at all and generally trade for less and $3 per share. These stocks can be highly speculative and risky. They can have a place in your portfolio but usually that should only be a small percentage.
Wow! Incredible insights from a gentleman who certainly walks the walk.
Did you guys follow all that?
Certainly options trading can be an incredibly rewarding strategy for those of us who know what we are doing. There is big money to be made, but the risks are typically higher than buying straightforward shares.
If it sounds too complex or difficult for you, don’t fret! It’s just another option (see what I did there) to make money.
And if you wanted more info, head on over to Gavin’s site at OptionsTradingIQ to learn more!
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I feel like it’s very important to highlight the different market cap groups. Often they have a different risk/reward payout as pointed out above.
The Frugal Samurai
Thanks J – I’ll let Gavin know he’s got another fan!