How do you determine whether a stock is a good buy? Part I

Stocks or Investing in the share market are considered as calculated risk investment if investors do their fundamental and technical analysis well in advance. For a few people, stock market investment looks like gambling, but in reality, even Gambling requires risk appetite and strategy based upon a trend or pattern; hence, before investing in stocks, investors education towards fundamental and technical aspects plays a vital role. Fundamental aspects (qualitative and quantitative) help in identifying a company's long-term growth plan, and technical analysis focuses on stock performance trends based on validation using charts and statistical patterns. Investors should keep an eye on companies future plans, quarterly results, dividend payout percentages, etc., which act as fundamental analysis, and similarly, tools like candlesticks, alpacas, Robinhood, etc. help in judging a particular share before buying it, whether for the short term (Intraday) or the long term (delivery).

Based on the data, approximately 3% of Indian households are actively investing in stocks. There are 11 crore demat account holders in the nation this year, compared to 8.4 crore last year 2022.

There are multiple ways basis which investors can identify the value of the stock for short or long term investment purposes. Below is the example from an online platform with all the required ratio in single platform, these key ratio/criteria help investors in judging the stock selection basis present value under different heads. Investors needs to focus on certain parameters which includes:

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Dividend Yeild: Most of the good companies pays regular or constant dividend to its shareholders. Basis above example Tata Steel is paying 3.09% dividend per share which means if any shareholder have 1000 share, investors will be getting Rs 3090 in total for that particular period. So good stocks always gives more than 8-10% return (subject to market risks) along with dividend. 

Net profit: It is the amount which is left with company after paying all the expenses. If we deduct total revenue with total expense we can net profit. So basis fundamental analysis Tata Steel is having a net profit of 8000 crore which is really a key factor to have the stock in investors portfolio.

Debt and Debt to Equity: Usually debt to equity should be less than 1 then investors can choose the stock as good for investment. If the Debt to equity ration is more than 2 then stock is considered as RISKY for investment. Tata Steel's debt to equity is 0.82 so we can say that share is less risky for investment as it is less than 1.

Piotroski Score: This criteria used to select share based upon companies financial position. Piotroski score is discrete score, it reflects nine criteria which is used to determine the strength of the company. The score is between Zero to nine, highest or nine being the best and zero being the worst. Tata Steel's score is 3, so as an investors we can say that Tata Steel stock is an average for short term investment but worth for long term considering companies strategy on expansion with diversified products.

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Graham Number and Current Price: Graham number shows the maximum price investors should pay for a particular stock, if the current price of the stock or share is higher than Graham number than the stock is trading overvalued. 

The Graham Number formula is: Price ≤ √(22.5 x EPS x BVPS)

Earnings per share (EPS) and book value per share (BVPS) are used to calculate the Graham Number. So based on the above analysis, the Graham number and the current price of Tata Steel are Rs 117, which means the stock is trading at the correct price and investors can invest if the other criteria meet the requirement.

ROE and ROCE: Return on equity considers profit generated on shareholder's equity, and Return on Capital Employed primarily focuses on the company's strategy in generating additional profit with the available capital, so efficiency matters most. Good ROE is considered between 15 and 20% and ROCE at least 20%. Tata Steel's ROE and ROCE are average; hence, investors can opt in or out based on their long-term investment plan.

Last but not least, Stock P/E: When it comes to stock valuation, the P/E ratio plays a vital role. When companies grow and make profits, the earnings per share (EPS) can either be distributed as a dividend to shareholders or there is an option to reinvest the profit into the business to grow revenues, which leads to capital appreciation in the future. If earnings are expected to grow in the future, the share price will definitely go up. If the share price goes up, the PE ratio will also go up; however, if the share price falls in the future, the PE ratio will also fall. So we can judge the stock's performance and its impact based on the PE ratio, because if the PE ratio is high, that means the stock is expensive and its value may fall in the future.

So a profit-earning ratio between 10 and 20 may be considered good; it may provide good investment opportunities to shareholders. Based on the above details of Tata Steel, the PE ratio is 18, which means the stock is good for investment and the current stock price is reasonably a good buy.

"It's not whether you're right or wrong that's important, but how much money you make when you're right and how much you lose when you're wrong." — George Soros

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