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So, what is the best time to start investing in stock market?

Is now the best time to invest in stocks?

Is Stock Market Crash Coming Soon?

We have been hearing that the stock market is going to crash soon.

In fact, we have been hearing it from experts almost every single year.

Thanks to Quoran John Roberson’s compilation of the news headlines:

2009 – Stock Market Crash Dead Ahead Say Faber, Rogers, Dent and Celente

2010 – Jim Rogers predicts a new recession in 2012

2011 – Jim Rogers: “100% Chance” of Another Financial Crisis That Will Be Worse Than 2008

2012 – Jim Rogers Warns : Financial Armageddon after U.S. election

2013 – ‘Run for the Hills’ Now, I’m Doing It: Jim Rogers

2014 – Jim Rogers Warns: Albert Edwards Is Right “Sell Everything & Run For Your Lives”

2015 – Jim Rogers: US Stocks Headed for ‘Very Nasty’ Plunge

2016 – Jim Rogers Dire Warning : a $68 Trillion Biblical Crash Dead Ahead

2017 – JIM ROGERS: The worst crash in our lifetime is coming

How do you feel when you hear bearish news like this?

Does it make you want to wait until the stock market has actually crashed? Because you are scared that you would be buying at the high and lose all your money.

But, the reality is that if you have followed the expert’s advice and stayed out of the stock market for the past few years, you would have missed on the years long market rally.

Is stock market going to crash soon?

The truth is no one really knows.

So, trying to predict the next market crash would be a waste of time.

Your time is much better spent finding good companies that are selling at a good price.

What Is The Best Time To Invest In Stock Market

Here’s the short answer.

The best time is when you find a good business at a good price.

So, you need to make sure that you have cash on hand to make the purchase when it happens.

Next, let’s look at how you can find a good business to buy.

But first, what business is considered a good business?

Here are some factors to consider:

• Financial performance (e.g. stable and strong past earnings)
• Financial position(e.g. consistent positive cash flow & below industry average debt to equity ratio)
• Future earnings (e.g. future earnings expected to remain strong and stable)

Once you have identified a good business that you want to invest in, you should add it to your stock watch list.

Now, you know what business to buy.

Then, what is a good price for you to buy?

How do you determine your target buy price?

To arrive at your target buy price, you need to value the business first.

Next, you apply a margin of safety to the estimated fair value of the business to get your target buy price.

When the market price reaches your target buy price, it’s time to get in the stock market.

There’s NO best Price.

When good opportunity presents itself, there are other smart investors waiting to take this opportunity as well.

So, you might not be able to get the lowest price because other investors push up the price fast.

Warren Buffeet once admitted that he made a mistake in Walmart.

He initially wanted to wait for the price to come down a bit further before buying, but its price never fell back down again.

Later on, he did buy it at a higher price.

But, this lesson cost him millions of dollars in potential profits.

Waiting for the best price could cost you a lot of money, too.

Why?

If the stock price kept going up, you could become more and more reluctant to invest because it has moved further away from your “BEST” price.

In the end, you might miss all the potential gains just because you ONLY wanted to buy at the “BEST” price.

There’s no best price.

There’s only good price at the right time.

If the market price is within a reasonable range of your target price, you should make the move.

Don’t focus on the small price difference at the time of investing.

What you are after is the potential gain that this stock investment can bring in the future.

When it comes to investing, there are two important decisions you need to make – buy and sell decisions.  More often than not, selling is actually more difficult than buying. Today, we will talk about when you should sell your stocks.

But first, let’s look at why sometimes it’s harder to make selling decisions than buying decisions.

Endowment Effect

According to Investopedia, here’s the definition of endowment effect.

“The endowment effect describes a circumstance in which an individual values something which they already own more than something which they do not yet own.”

Because of endowment effect, we have the tendency to hold on to stocks even if the stocks are no longer fit with our investment goals or they are losing stocks.

It becomes harder to make the right decision when there is an emotional attachment.

Confirmation Bias

What is confirmation bias?

A psychological phenomenon that explains why people tend to seek out information that confirms their existing opinions and overlook or ignore information that refutes their beliefs.

How does it apply to investing?

Investors made an investment decision based on their analysis and opinion. Even if the investment turns out to be a bad idea, they have the tendency to look for information that supports their original buying decision and ignore information that tells them that they should sell the stocks.

Loss Aversion

Research has shown that the pain of loss is two times stronger than the joy of gain. To avoid feeling the pain of loss, we sell away our winners early and hold on to our losing stocks.

Have you ever sold off your winning stocks just to watch it make new high later on?

Probably yes.

Why?

Because you don’t want to lose back your gains, you quickly sell your winning stock and take profits.

Have you ever refused to sell your losing stocks because you wanted to wait for it to bounce back to your break-even price?

Probably yes.

Why?

Because you want to avoid the pain of losing money. You would even convince yourself that it’s just paper loss.

But let’s not kid ourselves.

A paper loss is still a loss.

To become a successful investor, we have to be aware of our behavioral biases.

When To Sell Your Stocks?

So, when should you sell your stocks?

Here are 7 indicators to consider:

• Need money for non-investment purposes

Maybe you need money to buy a new home or get a car.

Or maybe you’ve lost your job and need money to pay bills.

Of course, there are many other possible reasons why you might need the money.

When this happens, you can always sell your stocks and get back your money.

• Reason for buying is no longer there

When you invest in the stock, you have your reasons for investing in it.

What are your reasons?

Are they still valid?

These are some questions you need to ask yourself.

If you are a value investor, you bought the stock because it’s a good business at a cheap price at the time of purchase.

But now, is it still a good business?

Their future growth is still promising?

If the fundamentals of the company has changed in a negative way, then it’s time to re-evaluate it and decide whether or not to sell.

• There are significantly better investment opportunities

Are there much better investment opportunities?

Better investment opportunity means that you can get much higher returns on your money for the same amount of risk you take.

If such opportunity presents itself, it’s a no brainer to switch.

• Portfolio re-balancing

Over time, your portfolio can become skewed.

So, how does it happen?

Let’s look at one example.

Let say, based on your investment objective, you bought a good mix of 40% growth stocks and 60% dividend stocks for your portfolio.

But, your growth stocks appreciated in price at a much faster pace than dividend stocks.

Now, your portfolio mix is 60% growth stocks and 40% dividend stocks.

It’s no longer aligned with your investment objective.

So, you have to re-balance your portfolio to achieve a portfolio mix of 40% growth stocks and 60% dividend stocks.

How do you re-balance your portfolio?

Sell some of your growth stocks and buy more of dividend stocks.

Do this until you have the 40/60 growth-stock-and-dividend-stock mix.

• Stocks have become overvalued

Warren Buffett once said his favorite holding period is forever.

“When we find a great company, we want to own it forever.”

That’s the most ideal situation.

But, the world is never ideal.

Even Warren Buffett has sold off his stocks before.

When you bought your stock, the stock could be undervalued.

However, are you going to sell or keep holding it after the stock has become overvalued?

Before that, let’s talk about how you can tell if a stock is overvalued?

One simple way is to just look at its P/E multiple. A multiple of 40 and above should be considered overvalued in the value investors’ eyes.

But of course, the stock price could still keep going up despite a very high P/E multiple.

Why?

Because the investors’ perception of the stock could be still positive and they think the price could go even higher.

As value investors, you should not speculate which direction the price will go.

Instead, you should make your decision based on your value investing principles – Buy Undervalued & Sell Overvalued

• Stock has hit your profit target/stop-loss 

Before you invest in the stock, you should already have a pre-determined profit target and stop-loss.

Having a profit and loss plan in place stops you from making wrong emotional decisions.

For example, your profit target could be a 50% increase in price.

Once your profit target has been hit, it is time to sell your stocks and take profit.

• Stock market crashing 

Stock market goes in cycles.

Every cycle is normally 7 to 8 years.

When stock market crashes, investors become irrational and they oversell fundamentally good companies out of fear.

Back in 2008, it would be smart to sell all your stocks early and keep cash on hand.

With all the cash, you can scoop up all the good undervalued stocks when market bottoms out.

For example, google share price dropped to its lowest at about $130 during the crash.

Within one, its share price doubled.

In the next 8 years, its share price increased by almost 7 times.

The moral of the story is that you want to have the cash to invest when great investment opportunity presents itself.

When you invest in stock market, it’s certain that you will have winning stocks as well as losing stocks. Even Warren Buffett is not right every single time. So the question becomes, when should you sell your losing stocks before it starts to cause serious damage to your investment account?

Why People Hold Onto Losing Stocks?

First, let’s look at why people like to hold onto their losing stock positions.

If you have invested in stock market and had a losing stock position before, did you ever tell yourself that you would immediately sell the stock after the price comes back to your break-even price?

But the longer you waited for it to happen, the lower the stock price fell and the more money you lost.

So, why is it so difficult to just cut loss?

This has a lot to do with how our brain is wired.

When it comes to pain and pleasure, we will do more to avoid pain than we will do to gain pleasure.

So, when we are faced with a losing stock, we will convince ourselves that it’s just paper loss and the stock will eventually bounce back.

We do it to avoid PAIN of losing money.

But the truth is that realized loss or not, it is still a loss.

Hoping and praying for it to bounce back will not help us.

Ignoring it does not make it go away.

What we should do is that we don’t let our emotions cloud our judgement and affect our decisions.

The Importance of Knowing When To Sell Your Losing Stocks

So, how important is it to know when to sell your losing stocks?

Let’s look at one example.

Billionaire hedge fund investor Bill Ackman and his investors took about a $4 billion loss on Valeant Pharmaceuticals International(VRX) after its share price dropped from all time high of $ 262 to around $10.

When the stock price fell more than 50% within a few month, he didn’t cut his losses but chose to add on to his losing position.

Because of this, he suffered a much bigger loss than before.

So, it’s vitally important to know when to cut your losing position before it causes serious damage to your account.

When To Sell Your Losing Stocks

Then, when should you sell your losing stocks before it’s too late?

First, ask yourself whether the reason for investing in the stock in the first place still stands.

For example, your reason for investing in the stock could be that it’s a good business and the stock is undervalued.

If the company’s fundamentals have changed substantially in a negative way, then you should sell away your stocks and cut your loss as soon as possible.

For example, the company’s earnings have deteriorated significantly.

And the big drop in earnings is not caused by a one-off event.

So, that could mean that lower future earnings are to be expected.

If this is the case, your reason for investing in the stock is no longer there.

When this happens, cut your losing stocks as soon as possible.

However, if there is little change in the company’s fundamentals, then the price drop could be just temporary.

If this is the case, here’s what you do next.

You find out the percentage loss of your losing stock position.

Is it a 10% loss?

20% loss?

50% loss?

Generally, you can tolerate a 10% to 15% fluctuation of the stock price on the downside.

But, you should have a hard percentage stop-loss for your stock.

The higher the percentage loss, the more difficult it is to bounce back to its break-even price.

Even if it goes back to break-even price, it could take a very long time.

So, having your money tied up in a losing position also have its opportunity cost.

Why?

Because you can take back your money and re-invest it somewhere else where it can generate better returns.

Lastly, there is tax considerations.

If it’s close to your tax filing date, you can consider selling your losing stock positions for tax purposes.

You can use your realized capital loss to offset your income on your tax returns.

As different countries have different tax laws, you should check the maximum amount they allow you to use to reduce your tax.

How To Prevent Yourself From Selling Your Losing Stocks Too Late

Here’s a simple answer.

You should always have a pre-determined stop-loss for your stocks.

Why is it a pre-determined stop-loss?

Because it can stop you from making costly emotional investment decisions.

When you plan your stop-loss and take-profit beforehand, you don’t have any emotional attachment to your stock positions and your judgement is objective.

Once you have bought the stocks, you just need to stick to your plan.

Both investing and trading can make you money, if you know how to do it the right way.

Before we talk about which one is better, let’s first look at the similarity and difference between the two.

Similarity Between Investing And Trading

First of all, a good strategy is not enough.

To succeed in investing or trading, you also need to have the following qualities:

• Discipline: It requires discipline to stick to your strategy.

• Patience: It requires patience to wait for the right opportunity.

• Consistency: It requires consistency to stay profitable for the long term.

Secondly, you have to be good at risk management.

Below is the risk of ruin table.

You can see that if you lose 50% of your entire account, you will need to make 100% to recover your loss.

Basically, the more you lose, the harder it becomes to recover your loss.

That is also why Warren Buffett famously said,

“Rule No. 1: Never lose money. Rule No. 2: Don’t forget rule No. 1”

And it applies to both investing and trading.

Difference Between Investing And Trading

Firstly, investing is generally about looking at the fundamentals of the company. As you are essentially buying a small part of a business, you have to assess whether or not it is a good business to buy and what is a good price to buy.

Whereas trading is mostly about looking at the price charts and movements. Generally, you use technical analysis to make your trading decisions such as whether or not you want to long or short the stock and at what price you want to enter.

Secondly, investors generally invest for the long term(i.e. at least for a few years), so they will hold onto their positions and ride out market volatility.

But, traders make money from market volatility.

They buy low and sell high, and buy high and sell higher.

Or they short-sell high and buy back low, and short-sell low and buy back lower.

The frequency of transactions is much much higher compared to investing.

Thirdly, investors generally don’t cut losses as soon as market goes against them. They will only sell their investments under these conditions:

• Stock has reached your desired returns
• Stock becomes overvalued
• Reason for buying the stock is no longer valid
• There are much better opportunities
• Portfolio needs re-balancing

However, traders need to cut their losses quickly when their judgement of the market direction is wrong. Before they enter a trade, they should already know their cut-off point and take-profit point.

Trading Is Riskier Than Investing?

There is risk in both.

But, is it true that trading is riskier than investing?

Not necessarily.

Here’s why.

You can manage your risk in both trading and investing.

For example, if you set the maximum dollar loss to be the same for both, then the risk you are taking is essentially the same.

The riskiest thing you can do is to start trading or investing with no idea about what you are doing.

Investing Or Trading?

So, should you invest or trade to make money?

Which one is better?

Or should you do both?

The answer depends on YOU.

Ask yourself these questions:

• How much interest do you have for each?
• How much time do you want to allocate for it?
• Do you have what it takes to succeed in it?
• Do you have other good options if you cannot do it yourself or are not interested in doing it yourself?
• Does it help you achieve your financial goals?

For example, if you don’t have any interest in either one and don’t want to put any time in it, then what other good options do you have for each?

Also, which one is more aligned with your financial goals?

Let say, you want to grow your wealth passively and steadily for the long term. Then, a good option for you is to invest in index ETFs on a regular basis for a long period of time.

Here’s another example.

You have passion for trading and want to make extra income from trading.

But, you are working at a full time job.

Then you can learn a profitable trading strategy that can suit your schedule.

Practice trading on demo account until you are ready to use real money to trade.

Lastly, investing and trading are not mutually exclusive.

It’s not an either-or situation.

You can invest and trade at the same time, as long as it suits your situation and is aligned with your financial goals.

To grow your wealth passively and safely for the long term, value investing is one of the best ways. Today, I am going to share with you a step-by-step blueprint to help you do just that.

Here’s a simple 5 step plan:

Step 1:  Build a research list of stocks

First of all, you need to identify what industry or sector you are interested in.

Preferably, it is an industry that you have  a lot of knowledge about. Because you have more insight about the industry, it helps you make better investment decisions.

For example, you could have been working in a certain industry for years. You know the ins and outs of the industry. What is important for a company in this industry to make money? What are the growth prospects for the industry? What are the challenges faced by the industry? Which company has a competitive advantage?

Once you have identified the industry that you want to invest in, you find stocks in that industry that you can add to your research list.

Here are just a few ways that you can find stocks:

• Follow Guru

You can find out what stocks the investment gurus are buying.

How?

There is a website called GuruFocus where you can get detailed information about investment gurus’ stock portfolios, including the average price they bought their stocks at.

All you need to do is type in the guru’s name and choose their stock picks.

• News

You can also find stocks through news.

In the news, we mostly hear about the big and well known stocks.

But for the less commonly known ones to make it into the news, it has to be either very good or very bad news.

Sometimes, the news can offer us good investment opportunities.

Remember value investors seek buying opportunities when people behave irrationally in the stock market.

What are some of the irrational behaviors?

• Overselling out of fear
• Overbuying out of greed

When good stocks are being oversold out of fear, that is the perfect opportunity that value investors are waiting for.

• Stock Screener

You can use stock screener to build a list of research stocks.

Stock screeners have built-in filters to let you filter out stocks based on your criteria. For example, you can filter stocks based on one factor such as market capitalization and P/E ratio or a combination of a few different factors.

The screener saves you a lot of time from going through thousands of stocks.

Step 2: Determine whether or not it’s a good business to invest in

Now, you have your research list of stocks.

Next, you analyze the stocks one by one to find out which ones are worth investing in.

To help you decide, you look at the following things:

• Financial numbers

Looking at the company’s financials will give us an idea about its financial performance as well as its financial position.

For example, you can find out about the profitability of the business by looking at the earnings for the past few years.

Is it positive?

Has it been growing consistently?

Also, you can find out about the liquidity of the business by examining the cash inflow and outflow.

Does it have positive cash flow consistently for the past few years?

Cash flow is the life blood of any business.

Without positive cash flow, businesses will not be able to survive for long.

• Sustainable Competitive Advantage

A sustainable competitive advantage allows the business to protect its long term profits from its competitors.

So, how do you identify the competitive advantage of the business?

Here are some common types of competitive advantages:

1. Intangible Asset
2. Cost Advantage
3. Network Effect
4. Switching Cost
5. Efficient Scale

Take cost advantage for example.

Companies can gain cost advantage through economies of scale.

It allows them to sell their products at the same price as their competitors for more profits. At the same time, it gives them the option to undercut their competitors.

A good example is Walmart.

With more than 6000 stores worldwide, it keeps its cost low through scale efficiency.  Also, it gives Walmart tremendous bargaining power with its suppliers.

• Risk

For businesses, there is always risk.

Before you invest in any business, you have to analyze the risks involved.

Here are a few types of risks to consider:

1. Regulatory Risk
2. Inflation Risk
3. Science & Tech Risk

If the risk is too high compared to the potential returns, it would not make sense to invest in it.

Step 3: Determine what price to buy it at

After you have decided whether or not it’s a good business to buy, you need to find out what price we want to buy at.

Is the current stock price too high?

Or is the current stock price a good price to go in?

To make that decision, you will need to value the company first.

Based on your valuation, you can arrive at your estimated intrinsic value of the company.

Target Buy Price = Intrinsic Value – Margin Of Safety

So, what is margin of safety?

” According to Investopedia, margin of safety refers to a principle of investing in which an investor only purchases securities when the market price is significantly below its intrinsic value. In other words, when market price is significantly below your estimation of the intrinsic value, the difference is the margin of safety. “

Then, how do you determine your margin of safety?

For example, you can apply a fixed percentage discount such as 20% to the estimated intrinsic value. This 20% discount will be your margin of safety.

All in all, margin of safety allows you to buy a good company at a much cheaper price for added protection.

In other words, you are buying it when it’s being undervalued and your downside risk is further reduced.

Step 4: Build A Portfolio 

Now, you have a list of stocks that you want to buy as well as your target buy price for each stock.

Next, you need to think about how much funds you are planning to allocate for investment.

This will give you an idea about your portfolio size.

For example, you might be planning to invest $5,000 a year for the next 5 years.

Then, your portfolio size would be $25,000 by the end of the 5 years.

Or you might already have a sizable savings that you want to use for investments.

Let say, you have $50,000 in savings that you want to put into stock investments.

Then, your portfolio size would be $50,000.

Besides your portfolio size, you also need to think about what your investment objectives are and how long your investment horizon is.

Investment horizon refers to the total length of time you expect to hold your portfolio.

This will guide you to build an investment portfolio to achieve your investment goals within your investment horizon.

So, how do you get started building a investment portfolio?

First, you need to understand that there are two types of investments:

• Growth stocks that are undervalued
• Dividend stocks

For dividend stocks, they could give you dividend income year after year.

On the other hand, growth stocks that are undervalued could give you big capital gain when the stock price goes up substantially.

So, ask yourself whether you want more income or more capital gain from your stock investments.

Next, how much time are you willing to put into stock investing?

Do you think you are an active investor?

Or a passive investor?

Or a semi-active investor?

Depending on your individual situation, you will have different investment allocation that suits your investment objectives.

For example, if you are a passive investor who prefers dividend income, you will have a higher percentage of dividend stocks and ETFs in your portfolios.

However, if you are an active investor who looks for capital gain, you will have a higher percentage of growth stocks in your portfolio. In your case, you can also employ value investing option strategy to help you generate passive income and boost your returns WITHOUT additional risk.

Another important aspect in building your portfolio which is your position sizing.

“Position sizing refers to the size of a position within a particular portfolio, or the dollar amount that an investor is going to invest.”

As a general guideline, you don’t want to invest more than 10% of your entire investment account in one single stock.

Step 5: Portfolio Review

Now you have finished building your stock portfolio.

But, your job is not done yet.

Why?

Because you still need to monitor and review your stock portfolio periodically.

Here are some review conditions for your portfolio:

• Stock has reached your desired returns
• Stock becomes overvalued
• Reason for buying the stock is no longer valid
• There are much better opportunities
• Portfolio needs re-balancing

In summary, when you follow this simple five-step plan, you will be able to build a balanced portfolio based on value investing strategy with the aim of helping you achieve your investment objectives.