Friday, August 17, 2007

Stock Market Wisdom

Thousands of people will give you millions of advice on how to invest in the stock market and most of them are ready to swear by the advice of Benjamin Graham, or David Dodd. Some of them go for Peter Lynch's advice. Yet hardly any of us really follow that advice. Each of these gentlemen have always cautioned against things like day trading, futures and options play. Trading in their perspective is the sure fire way to make money, but sadly it's for your brokerage house.

While I may not be qualified to say much on the subject, yet there are tips that I picked up in the last 12 months of actively following the market's trend. And the major revelation has been that it's all a game in the short term. Real wealth building comes only in the long term.
  • The Sensex/Nifty are very narrow trends of just 30/50 stocks. They do not indicate the performance of the stocks that you hold in your portfolio. Always look at the stocks you own. But if you must track indices, track the broader CNX Midcap. Better still find out the market breadth, the ratio of advances (the number of stocks that rose in today's trade) vs. the declines (the number of stocks that fell).
  • Whenever you buy a stock write down why you are buying it. Even if it is a tip from someone, write it down. This helps in later analysis on what kind of reasons for buying a stock works and what doesn't. Also, always keep a small note of when you want to sell it, based either on a price and/or a event. And then sell it when that happens. Emotional attachment to a stock is the surefire way to go down. Avoid it!
  • I generally don't track the value of my full portfolio. That is bound to keep my heart doing high jumps. Instead I use other online portfolio trackers. Create a portfolio of the same shares that you actually own, but keep the share units down to 1 for each. This helps in showing you the percentage increase or decrease in your holding per share (not the full portfolio). Aside from hiding the absolute value of the portfolio, something which gives me the heartburn or leaps of joy, it also trains me to handle the future larger sums of money.
  • If you did not beat any of the top performing diversified mutual fund by any significant margin, then it makes no sense for you to actually put in that time and effort to select individual stocks from the secondary market. Instead let your ulip or mutual fund do that for you, while you spend your time either reading up on the capital markets or with friends and family.
  • If you are from an emerging market, focus on companies that geared towards reaping benefits from domestic consumption. After all, that constitutes the major definition of an emerging market - developing economy with high expectations of growth. This helps in cushioning to a certain extent on the worldwide events, although I must admit that when panic grips people they follow the herd and lose their own mind.
In the end, for the defensive investor the best bet is to follow what Graham said. A 50-50 portfolio divided between stocks and bonds. Peace of mind, nights of good sleep - things more necessary than the extra 1-2%.

For the aggressive investor, it all boils down to if you can weather the storm that might rise from time to time. After all, the question is not whether you gain or lose. Rather it is, if you are making a loss how many lessons have you learned, and when you are making a profit how much of a profit you have made.

Two cases come to my mind in this. The first one from 3 years back where accounting malpractices were reported against Global Trust Bank on a Saturday and when the markets opened on Monday, there were only sellers in the stock. It went down from Rs. 8 to Rs. 2 and later went down to 0. So a 100% percent loss to people who thought otherwise and held on to it. But there's the second case of recent accusation of cartelization against the cement industry in India. Due to this the prices of cement stocks dropped for 2 consecutive days before rising merrily beyond their previous highs.
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