Both the pandemic as well as commission-free trading platforms suffer Robin Hood has attracted a barrage of new investors to the stock market over the past few years. Retail investors have played a much bigger role than ever before and have helped such meme stocks as AMC Entertainment and GameStop collect hundreds of percentage points at various times this year while S&P 500 has had a strong but much more modest gain of 28%.
Yet not everyone has become rich by investing in these risky stocks and trends. Many investors have lost big money by investing in stocks. If you are a novice investor who has recently started trading or want to get started investing in stocks next year, there are a few mistakes you will want to avoid making. Here are three of the biggest ones that rookie investors make.
1. Focuses too much on the stock price
Often when I talk to relatively new investors, one of the things that comes up is the price of a stock. But whether a stock is trading at $ 20, $ 200 or $ 2,000 is completely irrelevant. The more important issue is the stock price relative to the company’s earnings – known as its price-to-earnings (P / E) ratio. Investors can also look at the stock price relative to the company’s sales – known as its price-to-sale multiple.
Consider a technology giant Amazon (NASDAQ: AMZN), which trades for more than $ 3,400. That’s a big number, but that alone does not mean it’s an expensive stock. Amazon reported a diluted earnings per. stock of about $ 51 over the last 12 months, so the stock is trading at about 67 times this earnings (and less than four times its turnover). It is not cheap as the average stock in Technology Select Sector SPDR Fund traded at only 34 times its profits. If Amazon’s stock were to fall to a P / E of 34, its shares would still be worth more than $ 1,700 – which in turn may look expensive – but its valuation would now be in line with a typical technology stock.
Therefore, if one looks solely at the price of a share without taking the company’s underlying earnings or earnings in context, one should therefore not use to assess whether its shares are expensive.
2. Focus on the number of shares
One thing a stock price can affect is how many stocks you can end up owning. If you have $ 10,000, you will be able to buy about three shares in Amazon. But if you invested the same amount in small veterinary healthcare company Zomedica (NEW: ZOM), which trades at around $ 0.35, you can own more than 28,570 shares of the company.
In the end, it does not matter how many shares you own. It is the total value of your investment that counts. A 10% increase in an investment of $ 10,000 still represents a profit of $ 1,000, no matter how many shares you own. So you want to be sure to own enough stocks to reach your investment goal.
With Zomedica, you may be tempted to believe that it is fine to invest $ 100 in the stock, as you will own about 285 shares in the company. But an investment of $ 100 is still an investment of $ 100, regardless of your stock. If you spend time researching stocks and finding a good investment, make sure the investment is the right size.
Of course, it is also important to consider the size of any individual investment relative to your overall equity portfolio, and make sure not to be overly focused on a single stock.
3. Ignore basics
If you do not spend a lot of time researching and just feel that you could risk taking a bet on the latest meme stock, it would be a big mistake as you could lose all your money. The basics count.
Again, let’s look at Zomedica, for example. This stock was popular with retail investors in the early part of the year and peaked at $ 2.91 on February 8th. Since then, it has fallen by 88%. Even if you bought it for only $ 1.00 a few months later, it would still be more than 60% down today – a huge loss.
However, had you looked at the fundamentals of the company before investing in its shares, you would have been aware of some significant risks. It was not until March that the company announced the first commercial sale of Truforma, its flagship product that helps veterinarians run diagnostics on animals. During the first nine months of this year, the company generated only $ 52,000 in revenue, while incurring losses of more than $ 15 million.
So with an untested product and a stock rising for no apparent reason, it was written on the wall that this was an extremely risky investment. Lesson: Do your homework before investing.
Investors need to be more cautious on their way into 2022
Although the S&P 500 has had another strong year in 2021, with a new COVID-19 variant out there and interest rate hikes on the horizon, next year could be a dangerous year for the economy and the stock market. So it is crucial that investors avoid big mistakes and make the best decisions they can with their money as 2022 approaches.
This article represents the opinion of the author, who may disagree with the “official” recommendation position for a Motley Fool premium advisory service. We are motley! Questioning an investment dissertation – even one of our own – helps us all think critically about investing and make decisions that help us become wiser, happier and richer.