Of all the different ways to work the stock market, here’s one that can be truly rewarding … if you’re not averse to a little front-end research. Let’s take a look at industry-based investing.
Sure, digging into the industries of companies that offer shares takes a little time and a lot more effort than simply checking a price-to-earnings ratio and some company payout history. But once you’re up to speed on what’s happening in an industry, your investment strategy takes on a whole new dynamic. You’ll find yourself in an arena in which you may discover whole types of businesses that are poised to surge. And you’ll be better equipped to steer clear of hype.
If the game is about buying something today that’s worth a whole lot more in the future, this is a powerful way to go about playing it. So read on. It’s time to unpack how industry-based investing works, and what you can do to make it work for you.
Why Research Industries?
Let’s start with a simple story. Say a village farmer lives on a mountainside. He’s always counted on rain and his own well to water his modest vegetable crop. He eats some of the produce, and sells the rest in the village square.
One day a man comes to his farm and points up the rise. He says he’s found a spring of fresh clear water that he wants to channel down to his grapevines in the valley. He’s willing to divert some of it to anyone along the route who’s willing to help him pay for the whole of the work. After that, he says, everyone can reap what they’re able from the stream that they acquire.
Sounds like a pretty good deal, right? It may be. But what if the spring in question is fed by a shaky source?
Key idea: It would benefit the farmer to send someone with some skills up the mountain and assess the source of fresh water. Could it dry up in three years’ time? Will it turn to muck in the late part of every summer?
Now, our story is only like the stock market in a general way — springs, streams, these things only match businesses, shares and investing in some ways. But think of industry research, when it comes to stocks, as something like going up the mountain to get more data. In this case, it’s about the sources of your shares. The information is crucial to a wise use of money.
The words you’ll want to know to start with are sector and industry.
- Sector: Companies can be categorized by sector. For example, both Mattel and Nike are in the Consumer Cyclical sector.
- Industry: Within a sector companies are further sorted by industry. Mattel and Nike share a common sector, but they’re in totally different industries. Mattel falls under Recreational Products (the company specializes in toys). Nike’s in, not surprisingly, the Footwear industry.
How to Research a Company by Industry: If you’re not sure where to start, check out some of the companies on Wall Street Survivor’s Interest page. There, you can click on a business name and read more about it. You can also consider what users think about its activity on the market. For now, though, we’ll use fictional company names to further explore industry research. Our focus will be Atlas, a running-shoe company.
Consult the 10-K: Via Google Finance’s website links, click through to Atlas’s investors page and from there go to the company’s reports. What you’re looking for is Atlas’s FY11 Annual Report. It’s known as a 10-K— a mandatory report filed with the Securities and Exchange Commission. Here’s a breakdown of some of the ways a 10-K can get the industry-research ball rolling: The 10-K can help determine how Atlas has divided its business into different segments. In this case you see that, globally, footwear is its driving business segment, and that apparel and other equipment take second and third place in Atlas’s revenue structure. Now that you know where Atlas put its focus, imagine that the footwear industry is predicted to change by 2012 or 2013. Say barefoot running is spreading like wildfire and manufacturers of running shoes are scrambling to meet an anticipated demand for gear to supplement the barefoot-running athlete. The industry research you’ve just done should inform your next stock-buying decision. Especially given the next point in our model …With our hypothetically changing running-shoe market in mind, and what you know from the 10-K, maybe you do some Internet crawling and discover a press release about a new foot-cover product Atlas is about to release, something that will compete with the much admired but smaller-scale Excelsior Toes-Shoe.
Consider the Competition: But you want to know more. Put Atlas into Google Finance’s search field. This will take you to the Company Summary page. Read the full description of the company, what it does, how long it’s done so, and with whom it’s directly competing.
Direct Competitors: In this case, Google Finance pipes in a Reuters description that gives us Windstar and Bounce Athletic as close competitors to Atlas. Best to run a 10-K search on those, see where they’re drawing revenues from. Hey, it turns out Windstar has shifted its revenue from footwear to apparel over the past fiscal year. Maybe they’re getting out of the straight-up shoe business. Look to see if either is forecasting their reaction to barefoot-running predictions, too. Indirect Competitors: But then, what about other footwear companies? Go back to the main Google Finance page and click on the Industry descriptor (Footwear) with which we started. That takes you to a page that shows Atlas alongside other industry players. What if a peek at Blacktop, Inc. — a lifestyle shoe company, and never before a significant force in the running-shoe market — indicates that they are about to move into barefoot-running with Excelsior. Suddenly, the picture gets more complicated, doesn’t it?
Moving forward, with all of this in mind, you should now see how understanding the company within the context of its industry is important.
It might be time to buy into Excelsior, aiming to ride its less-expensive stock up the climb. That’s if Blacktop’s probable deal with the company brings a lot of market attention to the company.
On the other hand, using what you’ve learned already, maybe a little reading into company history on Blacktop tells you more. Maybe it just hasn’t got the distribution in place to get barefoot-running gear into enough retail locations to compete with what Atlas already commands.
The decision will be yours. Your industry research will drive it.