Investing In Stocks 101

 

                                                Image Source: The Kenyan WallStreet

2023, the year of our good Lord is here with us. Sure enough, I presume that most of you have your New Year resolutions succinctly put down. We are eight days into the year and I bet you are slowly and painfully coming to the realization that maintaining and achieving those resolutions requires the grit, self discipline and will-power of a Buddhist monk.

I am no psychic but I know, without a doubt, that most of your new-year resolutions revolve around money and wealth creation. Because, let’s face it kuomoka is the ultimate goal is it? Granted, there are a myriad of ways to do this. Both legal and illegal- don’t pretend that you are ignorant of the fact that in this world of cut-throat capitalism, the end, most often justifies the means. I’ll dwell on the legal though.

There are innumerable ways to invest your income so as to grow wealth; from derivatives to Treasury Bills and bonds to crypto currencies to money market funds to forex trading and so on and so forth. Today, I’ll be writing about stocks.

For those of you whose high school Business Studies lessons were slotted right after lunch which meant that keeping your eyelids open during those lessons was an extreme sport or those of you, who, like me, couldn’t grasp anything that went on during those classes and therefore opted to spend those lessons either drafting love letters to girls from neighboring schools (most of whom dropped us for monied wababas as soon as we joined campus) or reading John Grisham novels under the desk, I’ll lay the basics down for you.

Stocks also known as equity are defined as a unit of capital of a joint stock company. Stocks represent ownership of a fraction of the issuing corporation. Units of a stock are referred to as shares and these give the owner claim over a proportion of a given company’s assets as well as its  profits vis-à-vis the number of shares they own. Publicly listed companies float shares whenever the need to raise additional cash arises. Shareholders earn dividends as proceeds of their investment in a company’s stocks. Fundamentally, there are two types of shares that is; ordinary and preference shares. Holders of preference shares are prioritized whenever dividends are paid out and the dividend payable to them is restricted to a certain percentage whereas ordinary shareholders are not entitled to a certain percentage of return. Their return is determined by the company’s profitability within the given period. Most often, ordinary shareholders have a right to vote on important matters concerning a company whereas preference shareholders don’t enjoy that right.

That said, why invest in shares?  Earnings from shares are comparatively higher as compared to those from other investment vehicles such as bonds and bank deposits. For example, the average year-on-year return of the Nairobi Stock Exchange in 2021 was reported at 18.41% as compared to an average interest rate on Treasury Bonds which stood at about 9.392%. Stocks also have the ability to protect your wealth from inflation since stock markets’ returns often outpace inflation. Returns from stocks also have the ability to earn you regular passive income. Dividends may help supplement monthly income or pension. Thirdly, given that most stocks trade publicly on stock exchanges, it easy to buy and sell them meaning  they are more liquid as compared to investing in physical assets. In case you are wondering, with stocks you have the leeway to start small and grow your portfolio with time. For example, to invest in the Nairobi Stock Exchange, you need to trade the minimum number of shares which is 100. By close of trading on Friday, 6^th January, the price per share of Safaricom stocks was sh 23.90 meaning you only need sh 2, 390 to invest in Safaricom shares.

Deciding on which company’s shares to invest in is where the rubber really meets the road. When asked what sets him apart from other investors, Warren Buffet remarked that rather than study stock price movements, he studies the business. One of the ways to ‘study a business’ is by looking at its financial statements. Under the financial statements it is imperative to assess the revenue growth and earnings. Revenue trends illustrate sales increases/ decreases over time. The higher a company’s growth rate, the more likely that its stock’s prices will rise into the future. However, while assessing revenue growth, you ought to take a closer look into the underlying cause factors for revenue growth. Has there been a substantial increase in the volume of products/ services sold or revenue growth was only largely driven by price increases?

Secondly, under the financial statements it is important to look at the cash flow trends. Under the cash flow statement, there’s the free cash flow section which shows the amount of cash left over after a company pays its operating expenses. An entity’s cash flow trend points to its efficiency at generating cash and its long-term future outlook which is of great essence to any investor in stocks since investing in stocks is largely for the long-haul.

Thirdly, consider the debt and other liabilities section of the financial statements. As an investor, it is imperative for you to evaluate how much a company’s debt has been growing over time in comparison to the growth in cash flows over the same period. A faster growing debt rate predisposes investors to higher financial risks.

While assessing the above metrics, it would serve you well to compare with those of other companies before making a decision on which company’s stocks to invest in.

Once you have settled on a company the process to follow is outlined here:  https://twitter.com/moneyacademyKE/status/1366398328540459011?s=20&t=vVQZhz5ZPaSobcXZvNPyeA