When Stock Valuation Matters Most
Stock valuation determines how much you'll make from an investment in stocks. We're speaking in general here. If stock valuations are low, you stand a good chance of making money; if they're high, you'll probably either not make much, or lose money.
Remember that a simple way to check on a stock's value is to look at the P/E (price/earnings) ratio. If that ratio is 10 or less, the valuation is low; 10 or more, it's in a kind of middle range; over 20, it's high.
But I think it's more important to avoid investing in stocks when valuations are high than it is to invest in stocks when valuations are low. Huh? Here's my logic.
If you invest in stocks when valuations are high and you just sit with your investment, chances are you'll lose money. And if you commit a lot of money to stocks when their valuations are high, you'll lose lots of money.
You've heard me talk about the "big loss" before. Investing a lot of money in stocks when their valuations are high is a perfect recipe for taking a big loss. And taking a big loss is the one thing you don't want to happen in your investments. It's really, REALLY hard to come back after taking a big loss. You may never come back.
On the other hand, if you don't invest in stocks when valuations are low, you miss an opportunity. And if you miss those few times when stocks in general sport P/E's less than 10, you miss a big opportunity. Not good. But not as bad as taking a big loss.
While it would be regrettable to miss the opportunity to invest lots of money into stocks when you're chances of making a lot of money are greatest, it's still better than taking the big loss.
So int that sense, stock valuations matter most when they're high. Stay away when they're high.
Right now, valuations aren't high. But they're not low either. They're somewhere in the middle. You might make money in stocks now, but you've got to pick you spots carefully. And you've got to have a really well thought-out risk management strategy to protect yourself, too.
Remember that a simple way to check on a stock's value is to look at the P/E (price/earnings) ratio. If that ratio is 10 or less, the valuation is low; 10 or more, it's in a kind of middle range; over 20, it's high.
But I think it's more important to avoid investing in stocks when valuations are high than it is to invest in stocks when valuations are low. Huh? Here's my logic.
If you invest in stocks when valuations are high and you just sit with your investment, chances are you'll lose money. And if you commit a lot of money to stocks when their valuations are high, you'll lose lots of money.
You've heard me talk about the "big loss" before. Investing a lot of money in stocks when their valuations are high is a perfect recipe for taking a big loss. And taking a big loss is the one thing you don't want to happen in your investments. It's really, REALLY hard to come back after taking a big loss. You may never come back.
On the other hand, if you don't invest in stocks when valuations are low, you miss an opportunity. And if you miss those few times when stocks in general sport P/E's less than 10, you miss a big opportunity. Not good. But not as bad as taking a big loss.
While it would be regrettable to miss the opportunity to invest lots of money into stocks when you're chances of making a lot of money are greatest, it's still better than taking the big loss.
So int that sense, stock valuations matter most when they're high. Stay away when they're high.
Right now, valuations aren't high. But they're not low either. They're somewhere in the middle. You might make money in stocks now, but you've got to pick you spots carefully. And you've got to have a really well thought-out risk management strategy to protect yourself, too.
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