Stocks – Lesson 3

Please go through Lesson 1 and Lesson 2 before reading this.

Why would you want to know all about the Stock market? Why the hell are people desperate to understand its functioning. There is just one answer “To make money”. You and I are here to get some profit from it. If anyone wants to know the market, because he thinks it is fun, Goodbye to him. You are better served at the Casino. Stock market and trading are serious business. They are not joke or fun or something like riding a roller coaster. We are putting our hard earned money (really!?!) into this. Fine, that said we will look into the basics of trading.

The first part is to ‘Buy’. We now have a few questions ‘Which Stock?’, ‘When’ and ‘How much’. Then we need to ‘Hold’ it for a certain period of time before we ‘Sell’ it for a profit/loss. We must also know ‘When’ and ‘How much’ to sell.

Most stock market experts are dumb asses. You can take that from me. Going through the entire ‘Hindu Business’ or ‘Financial Times’ will leave you nowhere. Some are still more humerous and they just sit and watch CNBC or NDTV Money for hours together. Still worse is talking about shares during the lunch and getting free tips from your closest friend. Believe me, when it comes to stock trading all of us are dumb – in fact we are equally dumb. If your friend suggest that you must buy ‘Infosys’ and he is proved right after some time, doesn’t mean that he was an expert but that he was lucky. Then is stock market is all about luck. Is it like a game of dice. No not exactly. There are some good steps that one can follow and ensure that they make some money. But forget the advice given by any expert wearing the best blazer, stating that the market is dangerous now or that it is the best time to enter the market, etc.

First and foremost, anyone who is financially unstable should not even think about ‘Stock Market’. Just because you have some spare cash does not mean that you must enter in. You are eligible only if you have the risk capital of atleast Rs. 50,000 – 1,00,000. ‘Risk Capital’ means losing which not have an effect in your lifestyle or break your heart. If you can just spare a few thousands, (or hundreds) you can think about mutual funds. The reason is very simple. There are times when you are required to make bold decisions, and you can’t do it with your lunch-money.
With atleast 1 Lakh in hand, you will be able to take a few blows, but live to tell the tale and enter again.

Before learning ‘What to buy’ we will first see ‘How to Buy’. ‘Asset Allocation’ is the most important and the most ignored part in trading. Asset allocation means how you are going to use your 1 Lakh to buy shares. The first rule is to put not more than 5% of your capital in one trade (read Stock). However promising it might look, never break this rule. Someone who puts 100% of his capital on a trade is expected to go to NIL very soon. (Even if his success rate is 9 out of 10 times, the 10th time he will be put to NIL as he is betting all his money in every trade). Let us say that we have 1 Lakh and somehow we are bullish on Wipro. Currently it is trading at Rs 371. 5% of 1 Lakh is Rs 5000 and so we should buy just 14 shares of Wipro initially. Nothing to worry. Suppose something goes wrong and the share price of Wipro falls to 300 our loss on paper would be (371-300)*14 = 994 Rs. Much better than the 18900 we would have lost had we put the entire 1 Lakh in Wipro. Things can still get worse and Wipro can slump to 200. you get the point right. When you begin a trade put only 5% in it. Not more!!  We will see about ‘Stop Loss’ and ‘Drawdown’ in the next lesson. But for now just remember this “In the stock market, concentrate on the loss and keep them low, the gains will take care of themselves”.

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