1. Valuation Trap: It is often seen that retail investors select stocks for investment where they see price has eroded a lot in quick time and they view this as a perfect value buy. For example, let us say if a stock was trading last year at Rs 500 and presently it has been quoting at the level of Rs 150, they term it as a good value buy. However, they fail to understand this is a valuation trap when it comes to these companies. A number of such companies are trading at lower valuation as a result of a decline in their
Under pledging, the bank or financial institution gives loan taking the promoter shares as collateral. In a bull phase, pledging does not create any issue because promoters can count on the rising value of their shares. Institutions too do not mind lending against shares as collateral because of the rising value of shares. The issue crops up when the market enters into a bear phase. At any point of time, if the prices of shares come down to a certain level in the secondary market, the promoter is required to either make some payment or pledge more shares. If the promoter fails to do either, the lender can exercise the right to sell the pledged shares in the market. The sudden supply of shares in the market by the lender can trigger further fall in the price of the share, which is a hazard for retail investors and traders alike, who may have to sell their shares for a significant loss as there is panic selling in the stock. There have been cases in the past where banks have solicited offers for shares and sold them in the market as promoters were unable to pay up on time.