Is stock-pick investing a good strategy?

Question: I am interested in investing and would like to ask what you think about stock-pick investing and if it is a worthwhile strategy.

PFA: Investing in stocks is one effective way of increasing wealth over the long-term. There are several strategies for selecting good stocks to increase wealth and for avoiding stocks that may be a drag on an investment portfolio. But there is no foolproof method of picking stocks to guarantee success.

There are several factors which influence the success of an investment programme and, in particular, the success of a stock portfolio. Among these is the financial health of the companies whose stocks are bought as reflected in their profitability, cash flow and balance sheet. Economic conditions and government policy bear heavily on the behaviour of financial markets and investment portfolios. Quali-tative considerations such as the quality of management also matter. Human emotion also has a very strong influence on market behaviour and portfolio performance.

As an investor, you cannot divorce your actions in the market from your own personal make-up and situation. Factors such as your risk tolerance, investment knowledge and experience, your personal outlook, the time frame within which you desire a particular return, the time that you can devote to the management of your portfolio, and even the level of your investible resources bear on your approach to investing and the success of your programme.

Although some investment houses do research and make recommendations, it is advisable to do your own research. It is not uncommon for analysts looking at the same company in the same period to arrive at different conclusions. You should be able to "pick sense out of nonsense", so after all, it is not a bad idea to have a set of criteria to guide the selection of stocks and, indeed, other investments.

Fundamental analysis is one method of analysing a company to determine if it is sound to invest in. Bear in mind that buying ordinary stock makes you a part owner of the company whose stock you purchase. Fundamental analysis assumes that each stock has a 'true' value, called its intrinsic value. If the intrinsic value of a stock is higher than the price at which it is trading on the market, it creates an opportunity for profit as the market price moves up to the 'true' value of the stock.

Technical analysis is another approach to the making of stock-picking decisions. Its main concern is not so much about value but market trends and it is built on the assumption that most investors do not learn from their mistakes, thus making it possible to predict future stock price movements .

Qualitative analysis examines the general, more subjective qualities of a company. It looks at management - the primary decision-makers. It examines their qualifications and experience and how they fit with what they are doing. It looks also at their management philosophy and management style. Qualitative analysis also looks at the products and services of a company, how it does business, the nature of the industry in which it operates and its position in the industry, and how easy or difficult it is to enter the industry.

There are several types of investors. Value investors buy stocks that trade at low prices relative to their 'true' value. They are underpriced because their price does not reflect their fundamental strength reflected in their profits, dividends, cash flow and book value, for example. Their potential for profit rises as their market price tends towards their 'true' value.

Growth investors put their confidence in stocks that trade above their intrinsic value out of the belief that the intrinsic value will increase beyond the current values and thus yield a capital gain. The profits of such companies tend to grow much faster than others. Growth investors tend to focus heavily on the future prospects of the stock.

Income investors generally select stocks in older, more established companies that generate a steady flow of income from dividends, unlike growth investors who tend to select the stocks of younger companies. All stocks carry some risk.

If you are going to buy ordinary stock, you should do your own research and set criteria for determining which stocks to invest in. Your portfolio should include other types of investment instruments and they should be allocated in a way that best suits you and your needs. This approach will ultimately have more value and relevance to you than the individual stocks that you select.

Oran A. Hall, a member of the Caribbean Financial Planning Association and principal author of 'The Handbook of Personal Financial Planning', offers free advice and counsel on personal financial planning. finviser.jm@gmail.com.