Advice for a brand new stock market investor

23rd Feb '23 by Leon Revill

13 comments 1267 reads

Hi all, I'm very new to the stock investing world, I've been investing with Nutmeg (a fully managed, hands-off portfolio) for about 5 years but after about 8-12 months of reading and research, I've decided to use what (I think) I've learned to build my own portfolio. I'm only investing money I can afford to lose, but obviously, I'd rather not, or all this effort will have been for nothing. I'm probably going to invest in a small number of mutual funds that track a few different indexes to provide some stability and exposure to markets outside the UK, but then I'll be looking for some individual UK stocks to invest in, here is my problem...

I can't find many!

With all the reading I've done I've settled on a few core principles when looking for companies to invest in:

Increasing profit over the last few years
Increasing sales over the previous few years (where appropriate)
Debt less than 3 times net profit
Increasing dividends over the previous few years (where applicable)
Positive director dealings
A generally positive outlook and a good reputation

There are many more I'd like to consider but even with this short list it whittles the list down to only a handful (40ish) of options and then there will be indicators that put me off like "Earnings Manipulation Risk", low stock rank, etc.

I'd like to eventually identify around 10 stocks to add to my portfolio, I'm in no rush to do this and happy to take the time to do the research, but in my reading, you hear of people having portfolios of hundreds or even thousands of stocks, how do they find all these decent stocks!

What am I doing wrong? Am I being too risk-averse and I should just go for it? Am I expecting too much? Should I be looking overseas instead of focusing on the UK market?

Any advice would be appreciated, thank you all.

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WarrantStar

23rd Feb '23

Hi Lion,

You ask "You hear of people having portfolios of hundreds or even thousands of stocks, how do they find all these decent stocks! What am I doing wrong?" Just because some people might own hundreds of different stocks does not mean that they are actually good investments. These people will probably not have put in half as much effort as you are putting in. They might just be following a simple screen or following lots of random tips from sources that it would be better not take any notice of.

I think that you are taking a sensible approach. My advice would be to develop a strategy and keep developing your process for share selection. As a start to developing your strategy, I would suggest that you consider questions such as the following:

1) Are you looking for growth or income or a combination of the two?

2) How much risk are you prepared to take?

3) What typical length of holding period are you expecting to have?

4) Under what circumstances would you sell?

5) How will you ensure that you have a reasonable degree of diversification. Eg by sector or industry?

6) Do you intend to specialise in any particular stock rank style such as High Flyers. Or would you rather have a diverse selection of stock rank styles?

7) Do you intend to use Technical Analysis? Eg Looking at share price charts to help you time your purchases or find a good entry point?

8) Do all your answers fit together in way that can be made to work?

I think you have made a good start to your journey.

Good luck with your investing.

KevinS1

What you have written as your criteria seems very sensible.

I would not worry about others choice of holdings - especially regards their spread of holdings. There is an optimum level, at which point it's been proven statistically that it makes no difference to overall return by holding more, and in fact it will harm your likely returns as you will be spread across so many stocks. I cannot remember the optimum number, but its around 20-30 if I recall.

I try to do that, but often find myself drifting towards 40ish, but TBH a small number are dross and probably need cutting.

My advice would be to look at a few of the articles & videos on here - Ed Croft has recently run three webinars which are really useful and I am sure will help you understand how to use stock-ranks and crate a balanced portfolio, avoiding low scoring companies (Stock ranks).

I am also really enjoying Mark Simpsons articles, and both Roland Head & Edmund Shing talk a lot of sense.

I tend to follow a value style of investing although I am not adverse to a bit of growth & momentum as well.

I tend to look at all of the key indicators you have stated above, as well as using the key measures on Stock such as; ROC, ROE, Operating Margin, debt, cash, EPS, Divi (if I am after its dividend), main holders, share count (to make sure its not being diluted), F & Z scores and finally a read of its recent RNS's, any recent comments and a look at its chart to see what stage it is at.

However, I am trying to be a more buy & hold investor and am also building up my core holdings in Investment Trusts. I have split PF's aimed at achieving different things hence my different styles and holdings.

When looking overseas I tend to use Investment Trusts & ETF's - I don't have the time nor ability to expand into picking individual stocks overseas and am happy to leave that to professional managers. There are lots of great Investment Trusts & some of the above commentators provide useful info.

I am sure you will do absolutely fine as you have got to grips already with using the Stocko toolkit to try to find quality stocks.

All the best

Kevin

BnB

Do not confine yourself to the UK. There are plenty of short to medium term trades in this country but, for long term buy and hold, the pool is small and of lower quality than you will find in Europe or the USA. Compare the long terms charts of, say, Burberry with LVMH, or Sage with Microsoft. The gulf in performance is instructive.

AnonymousUser1822519

Leon, I presume you are also a brand new member of Stockopedia - the join date isn't showing yet. I would start small: buy a few stocks in small cash amounts and see how it goes. Only until you have gained confidence and you should measure that by the performance of your stocks, not your emotions, should you begin to play with larger amounts - expect the learning process to take a minimum of one year. Learn how to manage risk first, it will keep you in the game long enough and buy you time while you study the best strategies that work for you which can take many years to figure out.

Read the forums here daily, the articles on screens, and the SCVR for ideas on how pick and analyse the fundamentals of a stock. Expect to take a least a year of using Stockopedia to gain one's footing. Appreciate that like a person doing only cardio training, and no strength training, without technical analysis, you will be missing half of the means to become a consistently successful investor/trader.

You are lucky that you've found Stockopedia early on because it took me almost a decade of trading before I discovered it. As well as the Stockreports, the charting tools are superb. With 16 months of Stockopedia now under my belt, I can say without a doubt that it is a tool that can be considered part of the holy grail of trading/investing. Without it, buying/selling stocks is a punt in the dark.

Leon Revill

Thank you all for your insights, this has been incredibly helpful

iwright7

24th Feb '23

A criteria you are missing from your list is Momentum/Relative Strength. This is arguably the most important factor in excess returns over the next year or so.

For the Momentum element you can employ either High QM (which looks closest to your Quality oriented “core principle” list) or alternatively High VM scores. High QM and High VM stocks have been shown statistically to excel over time. Note the important Momentum component in what are very different yet out preforming selection methods. For more info on successful Stockrank styles over different historical time periods click on the "Inception" drop down box here... https://www.stockopedia.com/sc...

So for example you could take your list of 40 screened stocks and select those with QM >80 for further qualitative research. For the 1st year my suggestion is to start small buying say 2 stocks/month, working up to 20 or so stocks total. Look to buy in different industry sectors to. This diversification will shield you from early costly mistakes and spread out your market entry. There is a lot to learn (and to keep learning) so give yourself time to evolve an investing style that works for your personality.

timarr

Hi Leon

The trouble with threads like this is people tell you what they would do, not what you should do. Only you can figure out what you should do, and there's a fair amount of trial and error involved.

As regards the number of stocks in your portfolio - well, in my opinion (there you go again) detailed analysis on stocks is overvalued. I know a huge amount about a couple of industries and the shareholder discussions I see about companies in those spaces are laughable - or would be, if I wasn't doing the same myself with other stocks. There's a lot to be said for buying after some relatively basic filtering and doing some background checking on management. But to make that work you've got to be looking for businesses that can compound their earnings, year on year, rather than those in cyclical industries, where you have to work a lot harder (but can make money much more quickly).

Anyway, in short - it's very easy to develop a large portfolio and terribly easy to manage it (I don't look at it very often). Random things go right, random things go wrong, but the power of compounding is like erosion, ultimately nothing can stand in its way. Buy good companies when they're not too expensive and then do nothing. What could go wrong? (Well, lots actually, but that's another story).

In terms of your specific filters:

- Increasing profit over the last few years

OK, but we've had a pandemic, Brexit and a war - even in the normal course of investing these are rare events. So it's not surprising there aren't many companies coming up on your radar. There's an argument, of course, that any company that can increase earnings consistently despite all of that has got to be doing something right. As a filter though you will lose sight of some good companies.

- Increasing sales over the previous few years (where appropriate)

When would it not be appropriate? Again, though, there may be compensating issues - Associated British Foods (LON:ABF) for instance is a great company, but it suffered a lockdown driven downturn. The time to buy was then of course.

- Debt less than 3 times net profit

Fair enough, a debt based filter is essential. You need to be sure profits are sustainable, although the previous checks should take you someway towards that.

- Increasing dividends over the previous few years (where applicable)

Why? Dividends are just one way of the directors allocating earnings, there's nothing special about them. UK growth companies allocating earnings to dividends is a personal bugbear.

- Positive director dealings

There's no real evidence that directors are any wiser at buying than anyone else - but if they are consistently smart with their timing I'd run a mile from the company.

- A generally positive outlook and a good reputation

Sometimes the right time to buy is when everything looks gloomy. But that's a relatively long term approach, if you're looking for momentum then that's a different matter. Reputation, though, is everything. You can get rich riding the coatails of greedy and immoral people, but it's a dirty business, and you can never be sure who they'll stab in the back next.

There's no valuation filter in here as far as I can see? So you could be buying expensive stocks that will take forever to make you richer. Take Cerillion (LON:CER) for instance. I've held it for years, it's a great company - profitable, low debt, growing dividends, good management - but bloody expensive. Buying expensive shares is always risky, because they can take time to grow into those valuations, or simply fail to match them and then crash dramatically (like GB (LON:GBG) for example). Personally I don't like very cheap shares (on, say, a PER basis) but you do need to think a bit about valuation.

If you're buying a portfolio, even one as small as ten stocks, then you also need to think about diversification. Buying ten miners, for instance, may not bring you much benefit if something unexpectedly goes wrong with the world's economy (and something is always unexpectedly going wrong with the world's economy, it's about the only thing you can expect from it).

As previously suggested by other posters, I do think using the Stockranks (at least in the UK) is good place to start, although they're only a starting point, not a destination. Beyond that I'd personally also be looking at the various quality metrics - high operating margins and high ROCE. But that's very much my style.

Whatever you do, make your own mistakes and make sure you understand why you made them. As long as you do that stockmarket investing is a one way ticket to independence. Just don't expect it to happen overnight, and be prepared for the rollercoaster downs along the way ...

timar

ken mitchell

Leon

There’s a strong case too for looking at Investment Trusts as they are much safer than individual shares, and a way to invest all round the World. So why not start there and then slowly branch out in to a few individual shares and making full use of Stockopedia for that.

Also take note of just this bit of the brilliant advice from timarr. That’s buy LOW. The best times to invest are often when stock market falls are making the news and comment is gloomy. Then bad news gets priced in but better prospects ahead aren’t. So last Autumn was one of those buy low opportunities. The covid lows were another, as were the Banking crisis lows of 2008 etc. Just look at charts for indexes and many individual shares to see that for yourself.

So check out Sectors that are still cheap,

THE place to start for Investment Trusts is the official site for them here:-

https://www.theaic.co.uk/aic/f...

That link takes you to a very useful page there and not the Home Page. Just go through the sectors and only look at mainstream ones like Global, or Emerging Markets and not very specialist areas that need a lot of knowledge. Clicking on each Trust brings up a wealth of information.

A key plus for Investment Trusts us that they can be bought at discounts to Net Asset Value. I.e for less than the Investment Trust is worth. At present discounts in some sectors are unusually wide and dividends unusually high. E.g Commercial Property UK and Commercial Property Europe and even Renewables. And VIETNAM is an up and coming Country described as the New China and with big Global Companies now switching from China to Vietnam too, so well worth checking out. e.g VinaCapital Vietnam Opportunity Fund (LON:VOF) and VietNam Holding (LON:VNH)

Stockopedia does cover Investment Trusts but though excellent for shares, a lot of the figures for Investment Trusts are irrelevant. The info on aic only includes what we need to know, e.g Portfolios, Discounts, performance comparisons compared with all the other aTrusts in that sector or Region etc.

Good luck!

Paul Hill

PATIENCE = PROFITS

26th Feb '23

Hi Leon. I also recommend that you have a good read of Roland Head's article of 21/02/2023 on here about Screening for Warren Buffett stocks. This will give you some good guidelines on what to look for. Or you can just use the screen exactly as it is. But this advice only applies if you want to apply a long term buy & hold strategy.

doug2500

27th Feb '23

Echoing Timarr a bit but learn valuation.

Unless you're a pure momentum or technical investor you will need to work out how to value a company, or stock. This will be your value, nobody elses, and lets you compare that to the stock price. A great stock can still be a terrible investment if bought when it's too expensive. What's too expensive? You need to work that out for yourself depending on what style you want to follow.

Personally I just like to get it in a range e.g. I think this is worth 150p assuming x,y and z but maybe up to 200p if a and b. Over 200p it's just too expensive. Obviously this does change frequently, and the general background can effect it too.

It's like someone offering to sell you their car, you have to be able to put some sort of value on it to know if it's a good deal or not, even if it's not exact. e.g. it's a steal at £1000 and I can't go wrong (or there's something badly wrong with it that I don't know about) It's okay at £2000 (a fair price?) and it's a lovely car but for £3000 it costs more than this one which is much better, has 12mths mot, half the milage and furry dice. (Note they could all snap a timing belt next week, but some are more likely than others!)

Carey Blunt

28th Feb '23

Although you are planning to buy 10 stocks eventually, at any one time you are only really looking for 1. I would look for the one single stock you like the most according to your criteria and then buy it (probably you need to commit more than £750 or £1000 to that buy as depending on the fees you pay you will already be starting down by a percentage).

Investing is very much a learning by doing thing so see how that one goes and then start looking for the next single share that you like the look of the most. You will get some choices wrong, as a beginner it’s important to set a hard limit on getting out of a share that’s going wrong and don’t get emotionally involved or chase a share downwards. Admit you were wrong, learn from it, sell and find better share.

The Naked Trader has several good books to read if books are your thing and also the webinars and content that Stockopedia publish are great.

grazza

Leon,

I have been investing for nearly 5 years and would still consider myself inexperienced but answering your question is also a good exercise for myself. Your principles are a good starting point.

Firstly, but importantly, don’t set your filters too tight. You are only looking for companies to research and so it is a starting point. There may be a good company out there that fails just one of your criteria but it will not show up, so be more generous with your limits and let your research tell you if it is ok.

Growth. From your criteria, as mentioned by Timarr, we have been through Covid so looking at profits from the last few years may not help, you could look at forecast profits to ensure growth. As an example your filter would have ignored Jet2 and On The Beach.

Debt is a difficult one as accounting rule changes make it hard for a filter to pick up genuine debt or debt including leases. Wix is a good example, it has over £150m in cash and no debt but it is always shown heavily in debt of about ½ billion once its lease commitments are included. I have not found a good way of filtering for debt so ignore it in the filter and weed companies out with the research.

Increasing dividends. Be clear what you are looking for, dividend stocks have a strong place in my portfolio but they are different beasts that come with their own risks. There are many dividend stocks where you would have seen big losses to your capital from BT and British Gas through to the more recent Direct Line. But they have a big role to play in a long term portfolio.

The question is why should a small cap pay a dividend? After all they are growth stocks and should be re-investing everything back into the business.

So as mentioned by others diversification is important but you can also diversify by having growth, dividend and cyclical stocks.

Margins. I would add to your list strong margins both gross and net as this gives the Company flexibility in passing on price rises and a buffer when interest costs are going up. A company that only makes a 5% or lower net profit cannot afford to make mistakes.

I am looking more and more at your last point as if you find good management then let them get on with it but am not sure how to filter for that.

Timing is important. It’s very easy to buy a good share at the wrong price or buy a share on your watch list because its fallen in price only to find it has a lot further to fall. So timing provides a margin of safety. It can involve sitting and waiting but an entry price will usually come and then buying once momentum has returned.

All easy to say but harder to do and your timescales, attitude to risk etc will be different to mine.

Advice for a brand new stock market investor

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Leon Revill

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