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Ask Yourself These 3 Questions Before You Buy Your Next Stock

By Maurie Backman - May 5, 2021 at 7:04AM

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Stocks aren't something you should buy on a whim. Here's how to know if you're about to make a good call or not.

If you're looking to grow wealth on a long-term basis, buying stocks is a solid strategy. The stock market has a long history of delivering strong returns, and if you're saving for a milestone like retirement, it's important to invest in a manner that helps you outpace inflation.

That said, buying stocks isn't something you should just do on a whim. Rather, a lot of thought needs to go into your decision so you don't waste your money on an underperforming company or a stock that doesn't serve your needs well. With that in mind, here are three questions you should make a point to ask yourself before adding a new stock to your portfolio.

Man staring at laptop screen as if concentrating deeply

Image source: Getty Images.

1. Does this stock align with my strategy?

As an investor, it's important to have a strategy. Maybe yours is to focus on companies with strong growth potential. Or maybe you'd rather focus on stocks that are undervalued in the hopes that you'll manage to buy them at a discount and hold them until they're worth a lot more. Your approach may even be a combination of the two, and that's fine. The key, however, is to make sure that any new stock you buy fits into your general strategy.

2. Does this stock lend well to diversity?

Having a diverse portfolio can help you not only grow wealth, but protect yourself in the face of market downturns. As such, it's important to buy stocks that not only fit into your strategy, but lend to diversity. If you own 20 stocks in total, for example, and 13 happen to be tech stocks, you may not want to add another tech company into your personal mix. Rather, it could pay to branch out into a market segment you're not yet invested in.

3. Am I taking on an undue amount of risk?

There's no such things as a risk-free investment, and the stock market can be extremely volatile. But some stocks are more of a natural risk than others. Take meme stocks, for example. These stocks have gained a lot of hype, but that doesn't necessarily make them solid bets. Many popular meme stocks are speculative, and the future of the companies behind them is uncertain. If you have a high risk tolerance, meme stocks may be a decent bet for you, but if you don't, you may want to choose companies that are more established or have a more stable long-term outlook.

Your goal in buying stocks is to make money -- if not immediately, then over the long haul. That's why it's important to put thought into each purchase you make. Remember, buying the wrong stock won't just put you at risk of losing money -- it could also tie up your cash so that you miss out on the chance to buy a different stock that may be a better fit for your portfolio. Take the time to answer these questions the next time you're tempted to buy a new stock so you don't regret your decision afterward.

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