Buy equities of good firms
The news is that a record number of ‘demat’ accounts have been opened in the last few months. Which is an indicator that more people want to ‘buy’ shares directly as opposed to investing in mutual funds. Of course, the good thing is that mutual fund investments in equities, through the “Systemic Investment Plans” or SIPs as they are popularly known are also rising steadily. What this means is that more people are turning to equities to park their surplus money. There is also the fact that alternate investment avenues are reducing.
The retail participation and enthusiasm can also be gauged from the response to the IPOs, all of which are seeing oversubscription as well as premium listing prices. Financial literacy surely has gone up in leaps and bounds. People are no longer happy with the eight per cent return from banks. Many friends want to know what are the things to bear in mind for a ‘first time’ investor in to direct equities?
It is futile to caution people against going this route, but at this juncture, if I tell you not to invest in direct equities, it will be like spitting in to the wind. At the outset, I presume that you are investing that money which you do not need for a very long time. Hopefully, you already have some savings built up, your PPF taken care of etc. Equity is not your first saving or investment, if you have financial dependents or obligations coming up. You are not going to be driven to despair if you lose some of that money or even all that money. So you are all set to take the plunge.
The first requirement is to know what you are buying. This knowledge is a loose term and includes a few attributes that I will enumerate: 1) What are you buying? 2) Why are you buying? 3) Can you sell it? 4) How long do you intend to own it? 5) If the value drops, will it hurt badly? A share has an underlying business that has a future. That business attributes do not change every moment like the prices seem to indicate. Once you realise this, you will use the price movements to time your buys and sells. I urge you to keep a small diary in which you list down the following: i)Why did you choose this stock? ii) How did you decide on a price to buy? iii) What is your expectation of return at the point of buying? iv) What is the maximum loss you are willing to see on this share? v) What’s the duration it was bought for?
I hope you do not buy simply because you heard about someone buying it. That person may have reasons you do not know about. And for him, this trade may be a fraction of his wealth. Importantly, he will not tell you in advance when he is selling. So, as the saying goes, ‘do not follow someone, because he may not be leading the way’.
Buying a stock, for a lay person, is like stepping in to a minefield, with blindfolds on. In a bull market, you will generally be lucky and seem to be making money. When the bull market turns, you will end up with shares that fall below your purchase price and you will not have the temperament to sell them at a loss. You will gradually get driven away from stocks. Get your reasons for buying on record and keep checking.
I would urge beginners to make a short list of quality companies (even if you do not do financial analysis) and adopt a SIP approach to direct equities. You can build up a high-quality portfolio of stocks. High quality stocks are those companies which are large, which have been around for a long time, have good brand/reputation, pay regular dividends, have no debt etc. When you step down the quality ladder, you are better off if you know the company well enough and take an informed investment decision.
One important thing is to try and figure out the long-term prospect of a business and visualise the scale it can reach in years to come. It is important that what you choose is capable of being in the top three or four players in an industry over time. If not, your returns will be poor. Remember that in India, market returns will not very far away from the GDP growth number you see plus the inflation. That will be an “average” return. The choice we make, can be on either side of the average.
I WOULD URGE BEGINNERS TO MAKE A SHORT LIST OF QUALITY COMPANIES AND ADOPT A SIP APPROACH TO DIRECT EQUITIES