Picking the right stock for your portfolio is one of the most important parts of building a portfolio. But when you are confused between two stocks, how to determine which one to choose. With so many options available on the basis of sectors, market capitalization, and earnings, it could be a difficult choice to make.
While comparing 2 stocks, it is important to properly analyse and research your options. This could help you understand the strengths and weaknesses of the company and make an informed decision. You would also need to look at past performances to see how the firm has responded to turbulence in the market, economy, or its sectors.
Let's look at some things that you must keep in mind while comparing two stocks.
1) The most important thing to keep in mind is to make sure the companies are comparable. You can't compare an apple to an orange, so make sure that the stocks you need to choose from are from at least a similar sector or group like you can't compare banks to an internet firm, however, if you are looking for a company to give you good dividends, some financials, oil & gas firms, even REITs can be considered good options. So it is very important that your options are from a similar category to make an informed choice.
2) Another important criterion is to look at the past financial performances of your stocks. Which of the stocks have given more stable and consistent profit and revenue over the years. It is good to opt for a firm that has better past earnings performance since the company performed better during different economic and market trends.
3) Strong management is another key criterion for stock selection. Of your two choices, go for the one which has had fewer management exits or changes in the past. Management with frequent changes may indicate some other issue with the firm as well or at least some amongst its management.
4) Most stock selection can be done within the basic parameters, like in the case of choosing a dividend stock, opt for the one which has a more stable dividend. In the case of a growth stock, you can look at the one with better and more consistent revenue, etc. While it is important to look at the last few years' data, the last few quarters' data may give you a better idea of the recent trends.
5) If you are still not clear, there are a number of ratios like P/E, D/E, RoE, etc to further analyse the stocks. These ratios are important tools to better understand the fundamentals of a company.
For example, a higher P/E (price to earnings) ratio means the stock is overvalued while a higher D/E (debt to equity) ratio indicates that the firm has been financing its projects through debt. A higher RoE shows profitability without much capital usage.
It is pertinent to completely understand these ratios before effectively using them in order to make a stock selection.
6) The choice between stocks also depends on your risk appetite and target return. If suppose you have a choice between small caps and large caps, you should choose small-cap stock for high-risk high reward. In case your risk appetite is less, the large-cap stock is a better option for you. Also, if you have a specific amount of money, say ₹5,000, you can buy a lesser number of a large-cap stock as compared to a small-cap. So it is very important for you to clearly understand your financial goals and risk-return balance before making the selection
While it is difficult to make the right choice between two stocks, these few parameters can help you to make an effective choice.