Getting rich through stocks?

This fundamental law of finance is supported by centuries of historical data. US stocks have provided a compounded rate of return of 11 per cent per year since 1926, but this return came only at substantial risk to investors: total returns were negative in three out of ten years. Higher risk is the price one pays for more generous returns.

Although I am convinced that you can never judge the exact intrinsic value of a stock, I do feel that you can roughly gauge when a stock seems to be reasonably priced. The market price earnings multiple (P/E) is a good place to start: you should buy stocks selling at multiples in line with. Note that, although similar, this is not simply another endorsement of the 'buy low P/E stocks' strategy. Under this rule it is perfectly alright to buy a stock with a P/E multiple slightly above the market average -- as long as the company's growth prospects are substantially above average.

JP Morgan once had a friend who was so worried about his stock holdings that he could not sleep at night. Morgan advised him to 'sell down to his sleeping point'. He wasn't kidding. Every investor must decide the trade-off he or she is willing to make between eating well and sleeping well. Your tolerance for risk informs the types of investment -- stocks, bonds, money-market accounts, property -- that you make.

Frequent switching between stocks accomplishes nothing but subsidizing your broker and increasing your tax burden when you do realize gains. My own philosophy leads me to minimize trading as much as possible. With few exceptions, I sell before the end of each calendar year any stocks on which I have a loss. The reason for this is that losses are deductible (up to certain amounts) for tax purposes, or can offset gains you may already have taken. Thus, taking losses can actually reduce the amount of loss by lowering your tax bill.