New Year’s Valuations: Or, How to choose your basic stocks for 2010

In the previous episodes we have highlighted the aspects of portfolio diversification, long term investments, short term trading and sector analysis.

This is Richie Rich with this Weeks focus on basic stock evaluation.

Although sentiment is slightly more positively tuned than six months back, Financial Markets for 2010 are expected to continue their volatility as 2009 comes to an end. There are various stocks in the various economic sectors that are undervalued and offer excellent returns for 2010.

Remember, Financials are for Risk lovers, Pharmaceuticals are for Moderates and Energy stocks are the flagships. Once you have evaluated the sector you feel comfortable in, it is important to pick the best stock in the sector giving you the highest return at the end of the year. There are a few common variables to assess when evaluating a stock that is used to predict future market prices, or more generally, potential market prices, and thus profits from Stock price movements:

Step 1 is Valuation Analysis including:

-) Profitability : ROE (Return on Equity) & ROC (Return on Capital) which evaluated if the Company is actually making money

-) Growth: EPS (Earnings per share) Looking at the past, present and future earnings of a company.

-) Financial Health: Does the company have a strong balance sheet, reserves which was a major aspect in the financial crisis since 2008

-)Value: Is the stock available at a discount compared to its historical value, and competitors as well as to its intrinsic value.

Step 2 is Fundamental Analysis: Identifying competitive advantages and price catalysts such as a strong trend of improving cash flows and low cost structure. New market or products planned for 2010 onwards. Strong or new Management strategy.

Step3 Sell Discipline: When the initial target price is met and no longer meets any valuation characteristics, or the company is underperforming compared to its peers it is time to take profits or cut losses. Remember you want to date stocks, not marry them.

For your total return take into consideration the dividend for 2010 and the potential of your stock appreciation which must be well above current interest rates.

Preferred should be Blue Chip Stocks, which consist of stable earnings and no extensive liabilities and paying regular dividends. Do not let volatility scare you, the year ends with 31st December when profits will be weighted. This is Richie Rich, investing on the long side.