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Knowledge Center

Knowledge Center

A few benchmarks for stocks - A quick and easy measuring stick.
These are a few benchmarks that can help you decide if you should spend more time on a stock or not. They are easily available and can be of great use in screening good stocks.

Revenues/Sales growth.

Revenues are how much the company has sold over a given period. Sales are the direct performance indicators for companies. The rate of growth of sales over the previous years indicates the forward momentum of the company, which will have a positive impact on the stock's valuation.

Bottom line growth

The bottom-line is the net profit of a company. The growth in net profit indicates the attractiveness of the stock. The expected growth rate might differ from industry to industry. For instance, the IT sector's growth in bottom-line could be as high as 65-70% from the previous years whereas for the old economy stocks the range could be anywhere in range of 10- 15%.

ROI - Return on Investment

ROI in layman terms is the return on capital invested in business i.e. if you invest Rs 1 crore in men, machines, land and material to generate 25 lakhs of net profit , then the ROI is 25%. Again the expected ROI by market analysts could differ form industry to industry. For the software industry it could be as high as 35-40%, whereas for a capital intensive industry it could be just 10-15%.

Volume
Many investors look at the volume of shares traded on a day in comparison with the average daily volume. The investor gets an insight of how active the stock was on a certain day as compared with previous days. When major news are announced, a stock can trade tens of times its average daily volume.

Volume is also an indicator of the liquidity in a stock. Highly liquid stocks can be traded in large batches with low transaction costs. Illiquid stocks trade infrequently and large sales often cause the price to rise/fall dramatically. Illiquid stocks tend to carry large spreads i.e. the difference between the buying price and the selling price. Volume is a key way to measure supply and demand, and is often the primary indicator of a new price trend. When a stock moves up in price on unusually high volumes it could indicate that big institutional investors are accumulating the stock. When a stock moves down in price on unusually heavy volume, major selling could be the reason.

Market Capitalization.

This is the current market value of the company's shares. Market value is the total number of shares multiplied by the current price of each share. This would indicate the sheer size of the company, it's stocks' liquidity etc.

Company management

The quality of the top management is the most important of all resources that a company has access to. An investor has to make a careful assessment of the competence of the company management as evidenced by the dynamism and vision. Finally, the results are the single most important barometer of the company's management. If the company's board includes certain directors who are well known for their efficiency, honesty and integrity and are associated with other companies of proven excellence, an investor can consider it as favourable. Among the directors the MD (Managing Director) is the most important person. It is essential to know whether the MD is a person of proven competence.

PSR (Price-to-Sales Ratio)
This is the number you want below 3, and preferably below 1. This measures a company's stock price against the sales per share. Studies have shown that a PSR above 3 almost guarantees a loss while those below 1 give you a much better chance of success.

Return on Equity

Supposedly Warren Buffet's favorite number, this measures how much your investment is actually earning. Around 20% is considered good.

Debt-to-Equity Ratio

This measures how much debt a company has compared to the equity. The debt-to-equity ratio is arrived by dividing the total debt of the company with the equity capital. You're looking for a very low number here, not necessarily zero, but less than .5. If you see it at 1, then the company is still okay. A D/E ratio of more than 2 or greater is risky. It means that the company has a high interest burden, which will eventually affect the bottom-line. Not all debt is bad if used prudently. If interest payments are using only a small portion of the company's revenues, then the company is better off by employing debt pushing growth. Also note capital intensive industries build on a higher Debt/Equity ratio, hence this tool is not a right parameter in such cases.

Beta

The Beta factor measures how volatile a stock is when compared with an index. The higher the beta, the more volatile the stock is. (A negative beta means that the stock moves inversely to the market so when the index rises the stock goes down and vice versa).

Earnings Per Share (EPS)

Earnings per share alone mean absolutely nothing. In order to get a sense of how expensive or cheap a stock is, you have to look at earnings relative to the stock price and hence employ the P/E ratio. The P/E ratio takes the stock price and divides it by the last four quarters' worth of earnings. If AB ltd is currently trading at Rs. 20 a share with Rs. 4 of earnings per share (EPS), it would have a P/E of 5. Big increase in earnings is an important factor for share value appreciation. When a stock's P-E ratio is high, the majority of investors consider it as pricey or overvalued. Stocks with low P-E's are typically considered a good value. However, studies done and past market experience have proved that the higher the P/E, the better the stock.

Price / Earnings Ratio (P/E).

Read about this most important investor tool in the next part of this module.
The P/E ratio as a guide to investment decisions
Earnings per share alone mean absolutely nothing. In order to get a sense of how expensive or cheap a stock is, you have to look at earnings relative to the stock price and hence employ the P/E ratio. The P/E ratio takes the stock price and divides it by the last four quarters' worth of earnings. If AB ltd is currently trading at Rs. 20 a share with Rs. 4 of earnings per share (EPS), it would have a P/E of 5. Big increase in earnings is an important factor for share value appreciation. When a stock's P-E ratio is high, the majority of investors consider it as pricey or overvalued. Stocks with low P-E's are typically considered a good value. However, studies done and past market experience have proved that the higher the P/E, the better the stock.

A Company that currently earns Re 1 per share and expects its earnings to grow at 20% p.a will sell at some multiple of its future earnings. Assuming that earnings will be Rs 2.50 (i.e Re 1 compounded at 20% p.a for 5 years). Also assume that the normal P/E ratio is 15. Then the stock selling at a normal P/E ratio of 15 times of the expected earnings of Rs 2.50 could sell for Rs 37.50 (i.e rs 2.5*15) or 37.5 times of this years earnings.

Thus if a company expects its earnings to grow by 20% per year in the future, investors will be willing to pay now for those shares an amount based on those future earnings. In this buying frenzy, the investors would bid the price up until a share sells at a very high P/E ratio relative to its present earnings.

First, one can obtain some idea of a reasonable price to pay for the stock by comparing its present P/E to its past levels of P/E ratio. One can learn what is a high and what is a low P/E for the individual company. One can compare the P/E ratio of the company with that of the market giving a relative measure. One can also use the average P/E ratio over time to help judge the reasonableness of the present levels of prices. All this suggests that as an investor one has to attempt to purchase a stock close to what is judged as a reasonable P/E ratio based on the comparisons made. One must also realize that we must pay a higher price for a quality company with quality management and attractive earnings potential.
Fundamental Analysis
Fundamental Analysis is a conservative and non-speculative approach based on the "Fundamentals". A fundamentalist is not swept by what is happening in Dalal street as he looks at a three dimensional analysis.

  • The Economy
  • The Industry
  • The Company

All the above three dimensions will have to be weighed together and not in exclusion of each other. In this section we would give you a brief glimpse of each of these factors for an easy digestion

  • The Economy Analysis

The Industry Analysis

Every industry has to go through a life cycle with four distinct phases

i) Pioneering Stage
ii) Expansion (growth) Stage
iii) Stagnation (mature) Stage
iv) Decline Stage

These phases are dynamic for each industry. You as an investor is advised to invest in an industry that is either in a pioneering stage or in its expansion (growth) stage. Its advisable to quickly get out of industries which are in the stagnation stage prior to its lapse into the decline stage. The particular phase or stage of an industry can be determined in terms of sales, profitability and their growth rates amongst other factors.

The Company Analysis

There may be situations were the industry is very attractive but a few companies within it might not be doing all that well; similarly there may be one or two companies which may be doing exceedingly well while the rest of the companies in the industry might be in doldrums. You as an investor will have to consider both the financial and non-financial aspects so as to form a qualitative impression about a company. Some of the factors are

  • History of the company and line of business
  • Product portfolio's strength
  • Market Share
  • Top Management
  • Intrinsic Values like Patents and trademarks held
  • Foreign Collaboration, its need and availability for future
  • Quality of competition in the market, present and future
  • Future business plans and projects
  • Tags - Like Blue Chips, Market Cap - low, medium and big caps
  • Level of trading of the company's listed scripts
  • EPS, its growth and rating vis-a-vis other companies in the industry.
  • P/E ratio
  • Growth in sales, dividend and bottom line
Value, Growth and Income

Growth, Value, Income and GARP are one of the most rational ways of stock analysis. A brief on each of them is given here for your understanding.

Growth Stocks

The task here is to buy stock in companies whose potential for growth in sales and earnings is excellent. Companies growing faster than the rest of the stocks in the market or faster than other stocks in the same industry are the target i.e the Growth Stocks. These companies usually pay little or no dividends, since they prefer to reinvest their profits in their business. Individuals who invest in growth stocks should make up their portfolio with established, well-managed companies that can be held onto for many, many years. Companies like HLL, Nestle, Infosys, Wipro have demonstrated great growth over the years, and are the cornerstones of many portfolios. Most investment clubs stick to growth stocks, too.

Value Stocks

The task here is to look for stocks that have been overlooked by other investors and that which may have a "hidden value." These companies may have been beaten down in price because of some bad event, or may be in an industry that's looked down upon by most investors. However, even a company that has seen its stock price decline still has assets to its name-buildings, real estate, inventories, subsidiaries, and so on. Many of these assets still have value, yet that value may not be reflected in the stock's price. Value investors look to buy stocks that are undervalued, and then hold those stocks until the rest of the market (hopefully!) realizes the real value of the company's assets. The value investors tend to purchase a company's stock usually based on relationships between the current market price of the company and certain business fundamentals. They like P/E ratio being below a certain absolute limit; dividend yields above a certain absolute limit;

Total sales at a certain level relative to the company's market capitalization, or market value. Templeton Mutual funds are one of the major practitioners of this strategy. Growth is often discussed in opposition to value, but sometimes the lines between the two approaches become quite fuzzy in practice.

Income.

Stocks are widely purchased by people who expect the shares to increase in value but there are still many people who buy stocks primarily because of the stream of dividends they generate. Called income investors, these individuals often entirely forego companies whose shares have the possibility of capital appreciation for high-yielding dividend-paying companies in slow-growth industries.

Keep investing, panic not on your existing stocks
which is part of the stock market, and the company, something the stock is supposed to represent. But the company works in a different universe from the stock market, involved more in the real world of profits and losses rather than the emotional tide of fear and greed, the two major forces behind the stock market. With the uncertainty prevailing in the market, fear is rampant and some of it is justified, but there are lots of good companies that might be hammered by that emotion. That's why you'll do better if you research your companies in depth rather than trying to figure out if the morning sell off is the beginning of the end or just a hick up on the road to true wealth. But let's say you've done all your numbers, and everything looks great. You've checked for the latest news and you still can't tell why your stock is down. Then you might want to call the company directly and ask for the Investor Relations department. Don't expect the investor relations person to tell you any secrets or unpublished information but you can ask a few questions and get a better feeling about the company:

1. Why is the stock down so dramatically? Are there rumors the company has heard? If so, what is the company's response to them.
2. Is there anything the company can say about the stock being down?
3. Are the officers of the firm buying or selling the stock?
4. Is the company buying its own shares right now?

You will hence get a sense of how the company is responding to its stock being down, and maybe hear about news that has just been published but you haven't read. Then, when you've done all you can to determine that the company in which you've invested is indeed doing everything well, you can ignore the stock and be assured that this too shall pass. If you determine that the stock is down for a good reason and seems to be going lower, then you can sell it and move on to another company. In either case, you can make a decision based on the company and not the stock.

Go for quality stocks and not quantity
New investors often want to make a quick buck (some old investors do, too). Sometimes you can do that if you get lucky. But the really big money in investing is made from holding quality stocks a long time. Many investors ask for information on cheap stocks. The usual premise is that they don't have much money, and they want to own thousands of shares of something, that way when it goes up, they'll make big money. The problem is these stocks don't go up. They're a scam for the brokers, and the spread between the bid and the ask on these stocks is enormous, making it impossible to sell them at a profit.

Instead of trying to buy thousands of shares of a worthless stock for Rs 10000, let's see what else you can do with it. These examples are all split adjusted and show what that Rs. 10000 can do when you buy the right stocks.

If you had bought Infosys in 1991 for Rs share (split adjusted), you would own n shares

Obviously it's easy to look back to find great stocks. And you had to hold onto these volatile issues to reap these rewards. But the point is that quality stocks are worth holding. In the above examples, the owners have paid no taxes because there have not been any gains taken. The only commission paid was the original one. And as long as the stocks continue to produce good earnings, there's no reason to sell them. Again, it's easy to pick the good ones looking back, going forward, which stocks are the best ones to own?

Do your research thoroughly. Build a portfolio of stocks, one stock at a time, even with Rs 10000. Be sure to diversify over several industries over time. And only buy the best, no matter how few shares that might be. Then be patient, keep up with the news on the stock, and let the stock grow. That's the way the big money is made.
How many stocks should you own?
Buying a large number of stocks is time-consuming and will distract you from focusing on the absolute best stocks. Most investors simply cannot keep track of a large number of stocks, so concentrate on just a few of the best. Use this simple guideline to determine the number of stocks to own:

Less than Rs. 20,000 1 or 2 stocks
Rs. 20,000 to Rs. 50,000 2 or 3 stocks
Rs. 50,000 to Rs. 2,00,000 3 to 5 stocks
Rs. 2,00,000 to Rs. 5,00,000 5 to 7 stocks
Rs. 5,00,000 or more 7 to 10 stocks
Some more Stock tips
1. New products, services or leadership. If a company has a dynamic new product or service, or is capitalizing on new conditions in the economy, this can have a dramatic impact on the price of a stock.
2. Leading stock in a leading industry group. Nearly 50% of a stock's price action is a result of its industry group's performance. Focus on the top industry groups, and within those groups select stocks with the best price performance. Don't buy laggards just because they look cheaper.
3. High-rated institutional sponsorship. You want at least a few of the better performing mutual funds owning the stock. They're the ones who will drive the stock up on a sustained basis.
4. New Highs. Stocks that make new highs on increased volume tend to move higher. Outstanding stocks usually form a price consolidation pattern, and then go on to make their biggest gains when their price breaks above the pattern on unusually high volume.
5. Positive market. You can buy the best stocks out there, but if the general market is weak, most likely your stocks will be weak also. You need to study our "The market talks. Listen, to spot the best." - Module 8 and learn how to interpret shifts in the market's trend.
6. You should not buy on dips. This is a strategy that doesn't give you a strong probability of making a profit. Remember a stock that has dipped 25% needs to rise 33% to recover the loss and a stock that has dipped 50% needs to double to get back to its old high.
Market Direction.
Is the Market Heading South?

Check out the NSE Nifty and BSE Sensex charts on Achiievers Equities Ltd every day. Observe the price and volume changes, there may be some selling on a rising day. The key is that volumes may increase on a day as the index closes lower or is range-bound. Studying the general market averages is not the only tool. There are other indicators to spot a topping market: A number of the market's leading stocks will show individual selling signals. In a falling market start selling your worst performing stocks first. If the market continues to do poorly, consider selling more of your stocks. You may need to sell all your stocks if the market doesn't turn around. If any stocks fall 8% below your purchase price, sell immediately. However, if you have tremendous confidence on the company stick to your pick.

Is theMarket Turning Upwards?

After a prolonged fall, the market will try to bounce back and try to rally from the low levels. However, you can't tell on the first or second day if the rally is going to last, so, as Achiievers Equities Ltd’s Wise investor, you don't buy on the first or second day of a rally. You can afford to wait for a second confirmation that the market has really turned and a new uptrend or bull market has begun. A follow-through will occur if the market rallies for the second time, showing overwhelming strength by closing higher by one per cent with the volume higher than the day's volume. A strong rebound usually occurs between the fourth and seventh session of an attempted rally. Sometimes, it can be as late as the 10th or 15th day, but this usually shows the turn is not as powerful. Some rallies will fail even after a follow-through day. Confirmed rallies have a high success rate, but those that fail usually do so within a few days of the follow-through. Usually, the market turns lower on increasing volume within a few days.

When the market begins a new rally, stocks from all sectors don't rush out of the gates at the same time. The leading industry groups usually set the pace, while laggards trail behind. After a while, the top sprinters may slow down and pass the baton to other strong groups who lead the market still higher.

Investors improve their chances of success by homing in on these leading groups. Investors should be wary of stocks that are far beyond their initial base consolidated point/stage. After the market has corrected and then turns around, stocks will begin shooting out of bases. Count that as a first-stage of a breakout. Most investors are wary of jumping back into the market after a correction. Plus, the stock hasn't done much lately; so many investors won't even notice the breakout. But the fund managers would take buy positions at this stage.

After a stock has run up 25 per cent or more from its pivot point, it may begin to consolidate and form a second-stage base. A four-week or other brief pause doesn't count. A stock should form a healthy base, usually at least seven weeks before it qualifies. Also, when a stock consolidates after rising around 10 per cent, it's forming a base on top of a base. Don't count that it as a second stage.

When the stock breaks out of the second-stage base, a few more investors see this as a powerful move. But the average investor doesn't spot it. By the time the stock breaks out of the third-stage base, a lot of people see what's going on and start jumping in.

When a stock looks obvious to the investment community, it's usually a bad sign. The stock market tends to disappoint most investors. About 50-60% of third-stage bases fail.

But some stocks keep going and eventually form a fourth-stage base. At this point, everybody and their sisters know about this stock. The company's beaming CEO shows up on the cover of business publications. But while thousands of small investors rush into this "sure thing," the top mutual funds may quietly trim or liquidate their holdings.

Most fourth-stage breakouts fail, though not necessarily right way. Some will rise 10% or so before reversing. Fourth-stage failures usually undercut the lows of their old bases.

But a stock can be reborn and begin a new four-base life cycle all over again. All it takes is a sizable correction.

How Do You Define A Bear Market?

Typically, market averages falling 15% to 20% or more.
Buying Volatile Stocks.
Buying at the right moment is the best defense against a volatile market. When the stock of a top-class company rises out of a sound price base on heavy volume, don't chase it more than five per cent past its buy point. Great stocks can rise 20-25% in a few days or weeks. If you purchase at those extended levels, what may turn out to be a normal pullback could shake you out. That risk rises with a more volatile stock.
Caution Signals from the Market!!!

There are several signs in the stock market that suggest caution, even though they're all very bullish. Here are some of them and what they might mean, based on past experience. First, everybody's bullish. If everyone's bullish, that means they've already bought their stock and are hoping more people will follow their enthusiasm. Most individual investors are fully invested. And as long as large inflows are still going into equity mutual funds, everything's fine. Watch out when the flows turn into trickles. There won't be buying power to keep boosting stocks.

Second, fear of the Economy/Political scenario. This is an initial indicator, which would pull of sporadic selling that could eventually mount into an outright bear market.

Third, new records for the SEBI week after week. That’s exuberance and won't continue. The technology sector is leading this market, and there's plenty of growth ahead for the group, but the pricing for many of the tech stocks is way ahead of the earnings. Most of the tech stocks are priced to perfection, meaning that if they don't report earnings above the analysts' expectations, they'll be in for a bashing. Too much good is already priced into many of these stocks. Fourth, a record season for IPOs. While there's always been a push to get financing done when the market is upbeat, this last penultimate (second last) season had been one for the records. Records never last. That's not how the market works. The penultimate season saw IPOs such as Hughes Software, HCL Technologies being subscribed several times over, with premium listings as they opened. This was followed by dismal erosion of value for those IPOs. What followed is issues such as Ajanta Pharma, Cadilla etc, opened at deep discounts. Two emotions drive markets: fear and greed. Usually there is some fear and some greed. Markets usually do best when they climb a wall of fear, meaning that every one expresses fear of investing but stocks continue to go higher. When that sentiment changes to bullish, the market roars ahead. Because the market is depressed, the next psychological state will be fear, and there will be a pull back, nothing severe. This great economy isn't going to stop growing, but many stocks are too far ahead of their numbers and will be pulling back when the market has a bad day.

What are the necessary details to be mentioned in the IPO Application ?
To learn more about how you can earn on the stock market, one has to understand how it works. A person desirous of buying/selling shares in the market has to first place his order with a broker. When the buy order of the shares is communicated to the broker he routes the order through his system to the exchange. The order stays in the queue exchange's systems and gets executed when the order logs on to the system within buy limit that has been specified. The shares purchased will be sent to the purchaser by the broker either in physical or demat format
Sky rocketing stocks -- What is the right price?

Investors' dilemma is that they want to participate in the tech rally but the numbers look too high. While many of these gravity-defying stocks aren't worth their current prices, a few are. Here's how to tell the difference and when to buy them.

First, when a stock has stratospheric valuations, there's a reason: extremely high expectations. Investors expect the company to perform in an exceptional way in two areas: growth in revenues and growth in earnings. The challenge for investors is to discern which of these high-flying stocks deserve their attention.

Look for a stock that is essential, better performing. Does that mean you just buy the stock and hope? Definitely not. It does mean you start to monitor it and when the stock misses an earnings report or doesn't grow revenues fast enough, you look to buy. That takes patience. There's also the risk that the company won't make a misstep, and you won't buy it. If it happens that way, it will be the first company in history to do so. Granted the level may be much higher than the current one when you finally buy it, but the value of the stock may be much better. In other words, the P/E would be lower than the current levels.

The characteristics of the stocks you want to focus on are:

  • Market leaders who dominate their niche. The big tend to get bigger, win more contracts and have the largest R&D budgets.
  • Earnings that are growing, at an increasing rate, every year.
  • Revenue growth that exceeds the industry average.
  • Strong management.
  • Competing in an high and long-term growth oriented industry sector.

When you find all of these factors in a stock, it won't be a cheap one. But if you want to own it, sometimes you have to pay more than you would like. Currently, that's the entry fee for owning the best stocks in the technology areas. If you are patient and wait for some time you can pick some scrips at a relatively good price.

The key to making the big money with these stocks is to own them for a long time, letting them continue to grow. Even if you buy only a few shares, over time you can do very well as the stock grows, splits, and grows again. Many Infosys shareholders started with 10 shares and now own hundreds. When you buy a great company, you own part of it, so having a small piece of a great one is much better than owning a lot of shares in a loser. If you're interested in making the big bucks, add some sky-rocketting stocks to your portfolio.

Discount sales in most sectors – Buy at a bargain.

There are lot of good stocks available at bargain prices. There are ways of finding the stocks, which are currently out of favor.

First, look for stocks that are out of favor for a temporary reason.

Second, look for stocks within sectors that are currently out of favor.

Third, use the tight screening methods to bring stock into your “Watch List” Here are some of the parameters to use and benchmarks to begin your search:

P/E ratio: Use a minimum of 10 and a maximum of 30. With current P/E ratios closer to 30, stocks with low P/Es can sometimes signal out of favor stocks. When you find these, make sure you're reading all the latest news items and check the analysts' thinking at ICICIDirect.

Price-to-Sales Ratio: Also called PSR. This is a macro way of looking at a stock. Many investors like to find stocks with a PSR below 1. It's a good number to start with, so put in .5 as a maximum and leave the minimum open. Be careful though, because many stocks will always carry a low PSR. You're looking for the stocks that have historically been high and are temporarily low.

Earnings growth: Look for atleast 20 per cent. If you can find a stock that has its earnings growing at 20% and its P/E at 10, you've got something worth investigating further. This is known as the PEG or P/E-to-Growth ratio. Sharp investors are looking for a ratio well below 1. In this example, the stock would have had a PSR of .5 (10/20).

Return on Equity: Start at 20% as the minimum and see who qualifies. The return on equity tells you how much your invested rupee is earning from the company. The higher the number, the better your investment should do.

By using just this combination of variables, you can find some interesting stocks. Try to squeeze your search each time you screen by tightening your numbers on each variable. And when you do find a stock, make sure you read all the relevant information from all the stock resources on the Web.

Should you buy more if the stock you own keeps climbing?
You can buy additional shares if your stock advances 20% to 25% or more in less than eight weeks, provided the stock still shows signs of strength
Cracking Buying Points
Here are some buying points for your reference

1. Strong long-term and short-term earnings growth. Look for annual earnings growth for the last three years of 25% or greater and quarterly earnings growth of at least 25% in the most recent quarter.
2. Impressive sales growth, profit margins and return on equity. The latest three-quarters of sales growth should be a minimum of 25%, return on equity at least 15%, and profit margins should be increasing.
3. New products, services or leadership. If a company has a dynamic new product or service or is capitalizing on new conditions in the economy, this can have a dramatic impact on the price of a stock.
4. Leading stock in a leading industry group. Nearly 50% of a stock's price action is a result of its industry group's performance. Focus on the top industry groups and within those groups select stocks with the best price performance. Don't buy laggards just because they look cheaper.
5. High-rated institutional sponsorship. You want at least a few of the better performing mutual funds owning the stock. They're the ones who will drive the stock up on a sustained basis.
6. New Highs. Stocks that make new highs on increased volume tend to move higher. Outstanding stocks usually form a price consolidation pattern, and then go on to make their biggest gains when their price breaks above the pattern on unusually high volume.
7. Positive market. You can buy the best stocks out there, but if the general market is weak, most likely your stocks will be weak also.
Cracking Selling Point
The decision of when and how much to buy is a relatively easy task as against when and what to sell. But then here are some pointers, which will assist you in deciding when to sell. Keep in mind that these parameters are not independent pointers but when all of them scream together then its time to step in and sell.

1. When they no longer meet the needs of the investor or when you had bought a stock expecting a specific announcement and it didn't occur. Most Pharma stocks fall into this category. Sometimes when they are on the verge of medical breakthroughs as they so claim, in reality if doesn't materialize into real medicines; the stock will go down because every one else is selling. It's then time to sell yours too immediately, as it didn't meet your need.
2. When the price in the market for the securities is an historical high. It's done even better than you initially imagined, went up five or ten times what you paid for it. When you get such a spectacularly performing stock, the last thing you should do is to sell all of it. Don't be afraid of making big money. While you liquidate a part of your holding in the stock to get back your principal and some neat profit, hold on to the rest to get you more money; unless there is some fundamental shift necessitating to sell your whole position. To repeat do not sell your whole position.
3. When the future expectations no longer support the price of the stock or when yields fall below the satisfactory level. You need to constantly monitor the various ratios and data points over time, not just when you buy the stock but also when you sell. When most ratios suggest the stock is getting expensive, as determined by your initial evaluation, then you need to sell the stock. But don't sell if only one of your variables is out of track. There should be a number of them screaming that the stock is fully valued.
4. When other alternatives are more attractive than the stocks held, then liquidate your position in a stock which is least performing and reinvest the same in a new buy.
5. When there is tax advantage in the sale for the investor. If you have made a capital gain somewhere, you can safely buy a stock before dividend announcements i.e. at cum-interest prices and sell it after dividend pay out at ex-interest prices, which will be way below the price at which you had bought the stock. This way the capital loss that you make out of the buy and sell can be offset against the capital gain that you had made elsewhere and will hence cut your taxes on it.
6. Sell if there has been a dramatic change in the direction of the company. Its usually a messy problem when a company successful in one business decides to enter another unrelated venture. Such a decision even though would step up the price initially due to the exuberant announcements, it would begin to fall heavily after a short span. This is because the new venture usually squeezes the successful venture of its reserves and reinvesting capability, thus hurting its future earnings capability.
7. If the earnings and if they aren't improving over two to three quarters, chuck out the stock from your portfolio. To get a higher price on a stock, it needs to constantly improve earnings, not just match past quarters. However, as an investor, you need to read the earnings announcements carefully and determine if there are one-time charges that are hurting current earnings for the benefit of future earnings.
8. Cut losses at the right level. But do not sell on panic. The usual rule for retail investor is to sell if a stock falls 8% below the purchase price. If you don't cut losses quickly, sooner or later you'll suffer some very large losses. Cutting losses at 8% will always allow investors to survive to invest another day.

However, this is not exactly the right way to do it. Some investors have certain disciplines: take only a 10% or 20% loss, then get out. Cut your losses, let your winners ride, etc. The only problem with that is that you often get out just as the stock turns around and heads up to new highs. If you have done your homework on a stock, you will experience a great deal of volatility and a 5 to 8 % move in the stock is part of the trading day. To simply get out of a stock that you've worked hard to find because it goes down, especially without any news attached to it, only guarantees you'll get out and lose money. Stay with a good stock. Keep up with the news and the quarterly reports. Know your stock well, and the fluctuations every investor must endure won't trouble you as much as the uninformed investor. In fact, many of these downdrafts are great opportunities to buy more of a good stock at a great price, not a chance to sell at a loss and miss out on a winner.
Importance of diversification.

Diversification helps you protect your investments from market fluctuations. Diversifying means allocating your money to different investments avenues and shields you from price risks. As you pick the best stocks from the hottest sectors, the fluctuation risk of the stock eroding your investment rises correspondingly. Since some stocks in the IT and media sectors are highly volatile, you need to protect your portfolio by investing in some defensive stocks or other industry groups. It would also be wise to diversify your investments into bonds or FDs as these are low risk - fixed income avenues.

The primary objectives of any Portfolio management are

  • Security of principal amount invested
  • Stability of income
  • Capital growth
  • Liquidity – nearness to money to take up any new buy opportunities thrown open by the market
  • Diversification

Diversifying means buying stocks belonging to different industries with very low correlation i.e to find securities that do not have tendencies to increase or decrease in price at the same time.

What you're working towards should be at least five industries for the stock portion of the portfolio with each stock being the best stock, in your opinion, in their respective industry group. There should still be money invested in a money market fund (the equivalent of cash) as well as some in fixed income.

On the flip side, a diversified portfolio is unlikely to outperform the market by a big margin for exactly the same reason.

Portfolio - Age relationship
Your age will help you determine what is a good mix / portfolio is

Age Portfolio
below 30 80% in stocks or mutual funds 10% in cash 10% in fixed income
30 t0 40 70% in stocks or mutual funds 10% in cash 20% in fixed income
40 to 50 60% in stocks or mutual funds 10% in cash 30% in fixed income
50 to 60 50% in stocks or mutual funds 10% in cash 40% in fixed income
above 60 40% in stocks or mutual funds 10% in cash 50% in fixed income

These aren't hard and fast allocations, just guidelines to get you thinking about how your portfolio should look. Your risk profile will give you more equities or more fixed income depending on your aggressive or conservative bias. However, it's important to always have some equities in your portfolio (or equity funds) no matter what your age. If inflation roars back, this will be the portion of your investments that protects you from the damage, not your fixed income.

Also, the fixed income of your portfolio should be diversified. If you buy bonds and debentures directly or if you invest in FDs, then make sure you have at least five different maturities to spread out the interest rate risk.

Diversifying in equities and bonds means more than buying a number of positions. Each position needs to be scrutinized as to how it fits into the stocks or bonds that already are in your portfolio, and how they might be affected by the same event such as higher interest rates, lower fuel prices, etc. Put your portfolio together like a puzzle, adding a piece at a time, each one a little different from the other but achieving a uniform whole once the portfolio is complete.

Review of portfolio
Portfolio Management is an incomplete exercise without a periodic review. Every security should be subject to severe scrutiny and a case made out for its continuation or disposal. The frequency of review will depend on the size, amount involved and the kind of securities held in the portfolio. Spend a bit of time; you'll get a little bit of results. If you spend more time, your results should improve. We would suggest you spend a minimum of one hour a day during normal times while on the days of high volatility, its suggested that the investor monitor the situation closely.
Look analyze and do some adjusting

Look at your portfolio and do some adjustments. But don't just sell the losers (or the winners) randomly. There are several consequences of any action whether it's the taxes, the asset allocation, or the timing of the transaction. Here are a few things to consider.

If you liked a stock because of its earnings and it continues to deliver, hang on even if the price has not moved up. It will because earnings are the engine of any stock's price. As always, patience is heavily rewarded in the market because it is the rarest commodity.

As for selling a stock and then thinking you can buy it back after some days. There are two problems with that type of thinking. One, you generate two rounds of commissions (sell, then buy) and two, you may not get to buy the stock back at a decent price because the stock might have run dramatically in the month you did not own it. If you sell a stock, do it with finality and move on. Don't try to time the market. No one can do that with perfection.

Another aspect: look at your portfolio allocation. Are you tech heavy? At the moment that's the place to be. But that changes, quickly as we had seen in the month of May 2000. Put your portfolio in shape by allocating your investments evenly over at least five different industry groups and 10 stocks. That way you won't feel the full impact of any one sector getting hit hard.

Sector Rotation
You've probably noticed that tech stocks are hot, financials are not. Neither are the Consumer durables or some of the large-cap FMCG or Pharmaceuticals. If you're thinking about jumping onto tech stocks now because that's where all the action is, think again. While traders can bounce in and out of stocks several times a day, an investor should look to where the action isn’t much, meaning less of "Extreme Volatility".

Sector rotation happens all the time in the market. Several groups are hot (like ICE – Infotech, Communication and Entertainment Stocks) while other groups are getting dumped (names like Gujarat Ambuja, Grasim, Tata steel are examples). As an investor, you should look at taking profits from stocks that are fully valued and re-investing in stocks that have a big 'Buy' sign written all over them. In other words, dump some of the winners and buy some of the losers who are not down because of major problems that look to be insurmountable but because of temporary concerns that can be closely scrutinized.

Sector rotation occurs because of fear and greed, the two emotions that run markets. The real challenge for an investor is to determine what the right entry price is and what is out of favor at the moment. Some of the Technology stocks such as Infosys have PE multiples of over 100 times. Whereas some of the fundamentally sound stocks such as Tata Steel whose stocks can be bought for less than 10 times earnings.

The very bullish will point out that tech is where the growth is while financials are always hurt in an upward moving interest rate environment. They're right on both counts. However, the tech stocks are priced to perfection. If any of them don't deliver earnings at or better than expected, they're going to get hammered. And the financials are priced for interest rates going up dramatically from here, not another 25 basis points or so.

The point here is not to recommend financial stocks (or non-durables or drug stocks) but to make investors aware of this sector rotation phenomenon. Take the time to build separate portfolios in each of the sectors you have an interest. It becomes very obvious where the money is flowing and where it's coming from. As an investor the challenge is to wait for prices that you can't believe in quality stocks, and then make your move. You will not catch the bottom of the stock (OK, maybe a few of you will). But you will own a stock that will come back into favor whenever the current troubles have passed and sector rotation occurs once again. Only this time, you'll be riding the hot stocks.
Measuring Portfolio Performance
The performance of a portfolio has to be measured periodically - preferably once a month. The performance of the individual will have to be compared against the overall performance of the market as indicated by various indices such as the Sensex or Nifty. This way a relative comparison of performance can be developed.

Lets now learn to compute the "Total Yield". For example if the portfolio value of Mr. X is Rs 2,00,000 at the beginning of this month. During the month he added Rs 8000 to the fund. During this month he also received a dividend income of Rs 1000. Assuming the value of the portfolio at the end of this month is Rs 2,20,000.

The total yield will be = ((220000 - (2,00,000 + 9000)) / ( 2,00,000 + (1/2 * 9000)) ) *100 = 5.38% per month

To elaborate, in the numerator we are trying to find out the increase in value of portfolio after deducting the extra amount of Rs 8000 and the income of Rs 1000. It is assumed that this sum of Rs 9000 is put to use somewhere in the middle of the month and hence only half of Rs 9000 is added to the value of the fund at the beginning. The denominator can be adjusted as per the amount that you reinvest (part or fully) out of dividend income and what point of time during the period do you actually plough back such part of the money.

Beta Factor "Beta" indicates the proportion of the yield of a portfolio to the yield of the entire market (as indicated by some index). If there is an increase in the yield of the market, the yield of the individual portfolio may also go up. If the index goes up by 1.5% and the yield of your portfolio goes up by 0.9%, the beta is 0.9/1.5 i.e 0.6. in other words, beta indicates that for every 1 % increase in the market yield, the yield of the portfolio goes up by 0.6%. High beta shares do move higher than the market when the market rises and the yield of the fund declines more than the yield of the market when the market falls. In the Indian context a beta of 1.2% is considered very bullish.

You can be indifferent to market swings if you know your stocks well. Or you can put your portfolio into neutral or bias for the upside if you're bullish or a little for the downside if you're bearish. One way to do that is to have a mix of stocks that have certain betas in your portfolio. When investors are bullish on the market, they like to have high beta stocks in their portfolios because if they're right, then their stocks go up faster than the market in general, and their performance is better than the market. If investors are bearish on the market, then they use the low beta or negative beta stocks because their portfolios will go down less than the market and their performance will be better than the general market. And if they want to be neutral, they can then make sure that they have stocks with a beta of 1 or develop a portfolio that has stocks with betas greater than 1 and less than 1 so that they have the whole portfolio with an average beta of 1.

A beta for a stock is derived from historical data. This means it has no predictive value for the future, but it does show that if the stock continues to have the same price patterns relative to the market in general as it has in the past, you've got a way of knowing how your portfolio will perform in relation to the market. And with a portfolio with an average beta of 1, you can create your own index fund since you'll move more or less in tandem with the market.
Learn from others mistakes. Common pitfalls to be avoided
Learn from others mistakes. Common pitfalls to be avoided

1. Not being disciplined and failing to cut losses at 8% below the purchase price A strategy of selling while losses are small is a lot like buying an insurance policy. You may feel foolish selling a stock for a loss -- and downright embarrassed if it recovers. But you're protecting yourself from devastating losses. Once you've sold, your capital is safe.The 7%-8% sell rule is a maximum, not an average. Time your buys right, and if the market goes against you the average loss might be limited to only 3% or 4%.

Again its to be kept in mind, do not to sell a winning stock just because it pulls back a little bit.

2. Do not purchase low-priced, low quality stocks.

3. One should follow a system or set of rules.

4. Do not let emotions or ego get in the way of a sound investing strategy You may feel foolish buying a stock at 60, selling at 55, only to buy it back at 65. Put that aside. You might have been too early before, but if the time is right now, don't hesitate. Getting shaken out of a stock should have no bearing on whether you buy it at a later date. It's a new decision every time

5. Invest in equities for long term and not short term

6. Do not make unplanned investing and starting without setting clear investment objectives and time frame for achieving the same.

7. Not having an eye on what the big players / mutual funds buy & sell is a pitfall and an opportunity lost to pick the right stocks. It takes big money to move markets, and institutional investors have the cash. But how do you find out where the smart money is going? Make sure the stock you have your eye on is owned by at least one top-rated fund. If the stock has passed muster with leading portfolio managers and analysts, it's a good confirmation its business is in order. Plus, mutual funds pack plenty of buying power, which will drive the stock higher

8. Patience is a virtue in investing. Do not panic on your existing stocks. It's so important, we repeat: Be patient for your stocks to reap rewards.

9. Do not be unaware of what is happening around in the market. As always, knowledge is power and in investing, it's also a comfort. Dig for more information other than just the top stories that are flashed.

10. Do not put all your money on the same horse. Diversify your portfolio ideally into five industries and ten stocks.

11. Margin is not a luxury, it is a deep-seated risk, know your risk profile and use margin trading sparingly. You as an investor might lose control of your investments if you borrow too much.

12. Greed is dangerous; it may wipe out the gains already made. Once a reasonable profit is made the investor should get out of the market quickly.
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