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Picking Your Stocks? Do Your Homework

July 23, 2012
6 mins
A young couple sitting in a cafe doing research on a laptop

Greetings fellow newbie investors! RATESDOTCA’s OTGP (Online Trading Guinea Pig) here with the latest in our Online Trading series for the uninitiated.

First, I must digress – it’s been a bit since my last check in, and the reason shows my current inaptitude for the world of online trading: I misjudged the ease of the application process. For those of you looking to get up and running with an online trading brokerage right away, there’s one fail safe way to avoid the hold up: be organized.

Your Sign Up Checklist

  • Valid Photo ID: This one’s an absolute no brainer – be prepared to fork over the deets from a government-issued ID upon sign up. This means a driver’s license or passport, citizenship card or permanent resident card. TIP: Avoid OTGP mistake # 1 – make sure that ID is not, ahem, expired.
  • SIN or Social Security Number
  • Bank Account Info: Should your platform require a minimum account balance, funding your account through an online deposit is the fastest way to get up and running (you could find yourself waiting up to 21 days should you try to fund by personal cheque).

According to the Questrade application system, accounts can also be funded through:

  • Pre-authorized deposit
  • Transfer from another broker
  • Wire transfer
  • Bank draft
  • Stock certificate

Time To Cheque In

The easiest way to validate your bank info through an online application is provide your account and transit numbers displayed on your cheque, and then scan and email (or snail mail) that void cheque to the brokerage. NOTE: Make sure your cheque displays your current address. If you’ve got outdated cheques, a bank statement displaying your current address can be sent instead.

Once you’ve rounded up and sent in this info, you’re sitting pretty in the waiting process for account confirmation. For those of you looking to expedite the experience somewhat, look into the digital signature options – this will save you the time of printing, signing, scanning or mailing.

Enough With The Dilly Dallying! Let’s Pick Some Stocks!

Alright, let’s say you’ve glided through the application process with considerably more ease than I have. Now the real fun can begin – it’s time to pick some stocks!  As I mentioned in my first entry, this is not an area to traipse into lightly – you’re confronted with a LOT of choice – and your money’s on the line should you make an unwise move. For the sake of example, I’ve run Lululemon – my practice stock fave – through the wringer to determine if it’s deserving of my real investment dollars.

Get Up Close And Personal

The first rule of thumb: understand the industry associated with your pick. While it may be a popular starting point for newbies to go with preferred or frequently-used brands (in my case, the purveyor of the comfiest yoga pants in the land), having insight to how that company turns a profit is vital to you turning one as well.

Here are some points to establish:

  • What sector is it from?
  • Who’s the competition?
  • Has there been a profit or a loss from the past three quarters? How have profits trended since the Initial Public Offering?
  • Where are the profits coming from?
  • What are its competitive strengths? According to Lulu’s prospectus, this includes a unique retail environment, a grass roots community approach, and a premium brand. Essentially, you’re looking for what gives that company its unique, profitable edge.
  • Who’s in charge? The person holding the reigns of the company is ultimately calling the shots that could affect your bottom line. Research the company’s management team. Do they have a good track record? Are they known to take risks of their own? Does the company have any internal workforce malcontent? Remember - a well-run company is the seed to a profitable stock.
  • What are the risks factors associated with the company – as in, what could cause a loss profit should things go awry? Here are just a few of the many potential risk factors posed to companies:
  1. Could plans for expansion fail and cause a loss?
  2. Could inclement weather affect production?
  3. Is the labour force liable to strike?

Create A Reading List

Where you may ask, can you find this treasure trove of financial vitals? The best way to get to know a company is by literally starting at the beginning – check out their prospectus. This is the registration statement of a company’s initial public offering and is chock full of information for potential investors. This info needs to be provided by law should a company go public, and can often be found by perusing the investor relations section of their website. It will include:

  • The initial amount of shares offered to the public
  • The initial price of shares
  • The proceeds to the selling stockholders
  • Information on the underwriters involved
  • Risk factors
  • Foreward-looking statements
  • Business management
  • Market and competitor information

Chances are, though, that you’re not jumping on board with an initial public offering – so check out how that prospectus held up over time. Check out any update statement filings along with annual and quarterly reports to date to see how that initial price fluctuated, as well as insight to whether any stated goals were fulfilled, and how future growth potential is shaping up.

Determine the Profit to Earning Ratio

Now that you’ve done a bit of detective work to see what makes that company tick, it’s time for a bit of number crunching! So while a company’s optimism for expansion might lend you some confidence,  the main indicator of stock performance are earnings – and how much investors are willing to shell out for them. One way to go about this is to determine the Price to Earning Ratio of a stock (P/E).

The P/E is basically an indicator of how expensive a stock is in comparison to others from the same industry – essentially, how much investors are willing to pay in exchange for earnings. A high P/E means you’re paying more per share for that company – kind of like shelling out double for those premium yoga pants versus the bargain store variety.

To determine the P/E, take the market cap of the stock, and divide it by the earnings of the shares.

So, in the case of Lululemon:

Market Cap: 4.76 B

Shares: 143.95 M

= P/E of 43.36

So why should you go with a higher P/E? You shouldn’t, necessarily – but it can be an indicator of future growth expected by investors. Just another tool to consider when making your pick.

So hit those books and determine if that potential pick really cuts the mustard - and I'll be back next week with even more tips for analyzing your rate of return.  

Penelope Graham

A first-time homeowner and newbie investor, Penelope Graham is the quintessential millennial, navigating the world of personal finance and wealth management. A self-professed monetary policy nerd, she follows the often-controversial housing market closely and specializes in mortgage, credit card and personal finance news.

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