Never borrow to buy stocks; go by fundamentals, not price

BS 14/8/09

In March, investment advisors were busy persuading clients not to discontinue their systematic investment plans (SIPs) in equity funds. Five months later, they are asking some of their clients to take it easy. The reason: With markets recovering by over 80 per cent, retail investors are beginning to believe the good times are back.

In fact, some have even started day-trading, buying and selling on tips and gambling in initial public offers (IPOs). “All this is being done without studying the fundamentals of the company,” said a Certified Financial Planner.

He gave the example of the NHPC IPO. “Some clients want to make a quick buck and have subscribed to the issue to sell as soon as the company lists,” he said.

Investors have become eager to trade stocks after markets recovered. Since March, the Bombay Stock Exchange’s 30-share index has returned over 84 per cent. “This recovery is seen as a missed opportunity for those who stayed away,” said Mukesh Dedhia, director, Ghalla & Bhansali Securities.

Financial planners say once the market starts moving up, investment decisions are based on greed and not fundamentals. The investors, they say, repeat their mistakes.

Let’s look at some mistakes that can make you lose money while buying and selling stocks:

Stock pricing: The biggest challenge that financial planners face is making investors realise that the price of a stock does not matter, valuation does. “When I ask someone to buy Larsen and Tubro (Rs 1,495.80), a typical response is that it is expensive. People ask me to suggest a stock that is under Rs 100,” said Suresh Sadagopan, certified financial planner, Ladder 7 Financial Advisory.

It’s the same mistake that people make during IPOs. Most retail investors, especially first-timers, associate the offer price with the relative cheapness of the stock. To them, NHPC (Rs 30-36 price band) is much cheaper than NTPC (currently trades at Rs 211.30). In reality, valuations tell a different story.

IPOs: Many invest in IPOs only to sell on the day of the listing. These investors’ decisions are based on the grey-market premium. “They think they cannot go wrong in an IPO. Many lost money while gambling this way during Reliance Power’s IPO,’ said Sadagopan.

Over-leveraging: Retail investors should never borrow to invest. In every market cycle, a number of retail investors go neck-deep in debt. Investors should avoid margin funding, IPO financing and loans against shares. “In fact, before investing in the stock market, one should keep some money aside for emergency. Selling investment should be the last resort,” said Dedhia. He added investors should also be cautious while trading in derivatives.

Blind Trust: When it comes to your money, never trust anyone blindly. While picking stocks, some investors follow a fund manager or a fund and buy stocks. A financial planner said people tended to find someone they could follow.For instance, there are some who think that if a particular investment bank is doing an IPO, the stock price will never go below the issue price. “Recently, people were following anchor investors,” said an investment advisor.

The last market correction showed that none of this ever works.

Stock Tips: Investors just can’t avoid these two things. “Brokerages send stock tips just to ensure that people trade, which gives them business,” said a chief investment officer of a mutual fund.

When you are directly exposed to a stock, do your homework. “The only easy thing in the stock market is to lose money. The rest requires hard work,” said Dedhia.

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