My Top Investing Rules

Dear readers, 

Here you will find my top investing rules that I use to evaluate stocks to add into my portfolio. These are some of the main guidelines I use on a daily basis to time entry into the market, selling and buying patterns as well as companies to stay clear of. 

 
 Source: Globe  Nortel's stock dropping from a high of 120$ to 0$ in the span of months. 

Source: Globe

Nortel's stock dropping from a high of 120$ to 0$ in the span of months. 

Rule #1: Avoiding the "Nortel Scenario" 

For those of you that don't know the Nortel scenario - Nortel was a network company in the early 2000's. Between October 2006 and November 2007 the stock went soaring 1130%. Why? No reason! Earnings were not spectacular nor were any M&A's announced. However because of their dealings with Bell and speculation of being the next "technology of the future" What happened with Nortel was all hype and a craze was formed. People dumped money in the stock hoping on capitalizing of immense gains. However under all the excitement - the roosters came home to roast. Layoffs were announced, executives left with huge pay packages guidance was cut for the year. In turn the stock crashed, people lost millions and employees lost their pensions. 

Remember with any stock there is always a catalyst so do some research and figure out what it is. 

 Source Google Finance  Twitter IPO'd at 40$ and today its 16.61$ - Loss of 58% in 2 years

Source Google Finance

Twitter IPO'd at 40$ and today its 16.61$ - Loss of 58% in 2 years

Rule #2: Buying the Hype and Not Buying what you know 

A lot of times, people invest in products because of its "next gen" capabilities or revolutionizing features. In reality, only a few of these products come to fruition and others just soak up cash before they ultimately collapse. The problem here is the market plays tricks with us. Due to the potential to make millions from a stock - each new product gives investors new hope and that is priceless. There will be something new every day. Companies that were once on top like JDS Uniphase can now be bought for nickels on the dollar. Even popular companies like Twitter have costed investors millions. With investing - always look for the long term and ask yourself if a product will still be useful in 10 years. Second, buy what you know! How can you invest in something if you don't even understand how it makes money? This will also help you make informed choices. 

Graph of Facebook on its IPO day. Stock opened at 38$$ before dropping to 34#$. It regained most of its position by day end but then dropped as well. Investors that bought in at 42$  already lost 10% by 12pm. 

Rule #5: Buying on Good Earnings and Selling on Bad Ones

Let's assume Company X reports great earnings and the stock rises 5%. What a lot of investors will do at this point is buy the stock in the hopes of acquiring further gains. What normally happens is the stock continues its upward trend because of high volume and the stock goes even higher. However, the stock becomes overbought and in the coming days the stock drops because of a lack of drivers. The same happens because of a stock that reports bad earnings. More people will sell the stock forcing it down due to fear making the stock oversold. However, in the coming days the stock will rise because the selling was due to problems in the operations.

Rule #3: Not Buying on IPO Days

Another thing, I like to avoid is buying coveted stocks when they IPO. The reason being with highly popular stocks like FaceBook, Visa & others is that large position are taken by banks and hedge funds prior to the stock even being listed because they are the underwriters. At 930 AM when the stock goes public - money pours in from individual investors hoping to buy the "next gen" company at the basement level - which pushes the stock even further. However, the banks and large holders usually dump the stock raking in 20-30% profits in the matters of minutes leaving the small investors holding the bag. The big guns usually buy in a bit later at cheaper prices and then hold for the long term. 

Remember underwriters also have a lock-up period which is a required period in which they must hold stock - after which they can sell. The result is a wave of people dumping stock and the excess supply can drag price down. 

Rule #4: Don't buy the yield - buy the company

One thing that without a doubt is appealing about buying stocks is the fact that some companies offer dividends.

However, the yield (% they pay out) varies. A lot of times I have seen people buy companies just because they offered a high dividend yield of 8-10%. The problem here is that when the industry average is 3% - company’s that pay higher yields should raise a red flag. Sometimes a company will issue a high yield just to attract investors before dropping it later after they have you on board. Remember that dividends are paid out from the company’s profits (after taxes) so a company needs to have the cash on hand to pay out those dividends. 

 

In conclusion, remember that sometimes patterns do not always hold true. Although this is the case for many situations - no one can read the market. Look at the stock rise we are experiencing post-election or the quick recovery after Brexit.