While becoming a millionaire through playing the lottery is possible, buying undervalued stocks could be a better idea.
The stock market provides opportunities to ‘buy low and sell high’, with investors who are able to identify undervalued stocks often outperforming their peers.
Through focusing on a company’s fundamentals, its margin of safety and affording it sufficient time to become increasingly popular among investors, you could make a million through investing in a diverse range of businesses.
Risks
For any stock to be considered a bargain, it usually requires risks to be facing either the wider economy, its industry or its future financial prospects. Otherwise, the stock in question would probably not trade at a low price level.
Although buying a company that faces an uncertain future may lead to paper losses in the short run, over the long run it can offer investors the chance to obtain a more favourable risk/reward ratio. In other words, the risks facing a business may have been factored in by the stock market, which leaves a wide margin of safety for new investors to exploit. This may lead to an opportunity to buy at a discount to a company’s intrinsic value, and a chance to sell at a price that is closer to its fundamental value at a later date.
Fundamentals
Clearly, some stocks are cheap for good reason. They may have weak balance sheets, or face a period of declining profitability, for example. As such, it is crucial for an investor to focus on a company’s fundamentals in order to ascertain whether it represents a worthwhile purchase.
However, there are times where even high-quality stocks trade on low valuations. This may be due to wider economic fears that are causing investors to become increasingly risk averse, or a company’s own industry may face a period of change that could inhibit growth in the near term. Such moments can prove to be excellent buying opportunities for investors who are able to look past market ‘noise’, and instead focus on the long-term potential for a business to deliver rising net profit.
Long-term hold
At the present time, the world economy faces numerous risks that may lead to GDP growth forecast downgrades. Examples of those risks include a global trade war, geopolitical uncertainty in the Middle East and Brexit. They, and many other risks, may cause periods of volatility and uncertainty in the near term.
In the long run, though, now could prove to be the right time to buy a diverse range of stocks. In many cases, the valuations of high-quality businesses are low. While they may become even lower in the short term, over the long run the historic performance of the stock market shows that a recovery is likely. As such, investing your spare capital in the stock market, rather than playing the lottery, could be a worthwhile move.