Minimise your investing mistakes and maximise your returns.
1. Yearn for yield
Why do you invest? You invest to make a return on that investment. If, hypothetically, there was no way the capital value of your investment could ever be realised, you'd be reliant on the yield alone. So, in some ways, share prices are futures markets for a company's dividend potential.
If, therefore, you concentrate on current and potential dividend yields, you'll have a better overall steer. Decent dividends over many years can make a huge difference in total return over time and can significantly improve long-term results. Never underestimate the value of a sustainable yield.
The percentage that dividends contribute to overall share investment returns when compounded varies from report to report, but the long-term post-inflation returns from shares are usually said to be in the range of 5.5% to 8% a year. Of these amounts, around 4% to 5% is said to come from dividends and their re-investment.
Suffice to say, compounded dividends play a massive role in building the value of your investments. Also, companies paying good dividends aren't as susceptible to huge percentage losses in general.
2. Cash is king
Companies don't go bust because of debt; they go out of business because they can't pay their bills. Ultimately, a company's value reflects its ability to generate cash. Free cash flow is the cash left over for the benefit of shareholders. If a company generates cash beyond what it needs to maintain the business, its capital value is likely to grow over time.
3. Earnings, earnings, earnings
Find companies that have demonstrated the ability to generate consistent cash flow, year in and year out, whatever the economy and society throws at them. Be wary of companies continually adopting new strategies and which are always on the verge of a new dawn -- or which need to continually come up with new and innovative products to maintain earnings.
4. Dodge the debt
Debt is generally bad news. This may not be quite as obvious as it sounds. After all, increased debt in more benign economic conditions to fuel rapid expansion of a successful and groundbreaking business may be no bad thing. But on the whole, debt is far better avoided -- and there are plenty of blue-sky potentials around with no debt, bags of cash and other assets to boot.
5. Shun fashion
Avoid the trendy, much-discussed shares whose shares have already started to rise quickly and about which there is a great deal of excitement. You may miss some excitement, but for every one that comes good, there are many more that don't.
6. Beware of serial buyers
Be very wary of companies growing quickly through acquisitions. Stock market history is littered with companies that have paid too much, too quickly, for too many acquisitions and which have crashed and burned (though often after a rapid rise it has to be said). If an existing investment becomes acquisitive, keep a close eye on it -- and especially on its balance sheet.
7. Side with the owners
Look for companies where the directors hold a reasonable (but preferably not controlling …) stake – then ensure that they aren't paying themselves silly amounts. Aligning your interests with those of director-owners usually pays off in the long term.
8. Understand it
If you don't really understand exactly how the company makes its profits and what it does, leave it alone, there are plenty more pebbles on the beach.
9. Plentiful patrons
Pick companies which aren't overly reliant on one or two big customers.
10. Seek good value
This one may sound simple, but many of us who invest regularly have made the mistake of putting less effort into researching a company and considering all the variables that contribute to a good risk-reward decision than we have into buying a new fridge.
If you're buying a product from a shop or a market trader, you can probably spot good value right? So why not follow the same instincts when investing? And if you're still in doubt, leave it out.
More from David Holding:
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