Investment is a strategy to increase the monetary aspect of your life, which comes over time by diversifying among different asset classes. Stocks are one of the most sought-after investment options in India. When you invest in stocks, you are a shareholder and thus participate in the company's growth and profits. Yet, the stock market is usually volatile. This also leaves a question mark for many investors on whether to buy stocks or not and leaves them confused as to what to believe. Instead of accepting such popular myths without question, it's crucial to have a thorough grasp of the essentials of the stock market. This will help you make informed decisions and acquire profit from your investment.

A stock, frequently referred to as equity, is a security that reflects ownership of a portion of the issuing corporation. Stock units are known as shares, and they entitle the owner to a proportion of the corporation's assets and income proportional to the amount of stock owned. These stocks are bought and sold via stock exchanges and it forms the foundation of many individual investor’s portfolios.  

Understanding the Indian Stock Market

The India stock market formally started operating from 1875 onward with the Bombay Stock Exchange. Today, the majority of the trades happen in the Bombay Stock Exchange and the National Stock Exchange. The Sensex (BSE) and Nifty 50 (NSE) are key indicators that show how big stocks are doing and give a peek into market patterns. The Indian stock market has shown remarkable growth, with the BSE Sensex reaching an all-time high of 85,978.25 points in September 2024. This also represents an increase of approximately 11.07% since the beginning of the year.

The market works on supply and demand, which impacts stock prices. This also depends on whether and to what extent companies perform well against the expectation of investors. 

The market regulator, SEBI monitors the activities in these two exchanges and ensures fair and smooth trading activities.

Getting Started with Stock Investment 

For those who wish to get started in investing, you need to create a demat account. Demat accounts are essential for anyone who wishes to engage in online trading. Opening a demat account is quite simple and easy. It can be created in a few simple steps. 

• Choosing a Trustworthy Broker: Choose a broker that can provide reliable and secure execution of your investment actions and trades.
• Opening a Demat Account: You may visit ekyc.daycoindia.com portal, to open a demat account.
  In most cases, when you choose a broker, you automatically choose a depository participant.
• KYC requirements: Complete the Know Your Customer (KYC) process by uploading your relevant documents, including your PAN card, proof of identity (aadhaar card, passport, etc. ), proof of identity (aadhaar card, passport, etc.), proof of address utility bills, bank statements, etc., and passport-sized photographs, which must be self attested and updated.These days, KYC can be done completely paperless.
• Popular Trading Platforms in India: Familiarise yourself with popular trading platforms that are used and make sure to know their features very well. Next activate your demat account by submitting documents and then wait for verification. 

Essential Investment Concepts 

As an investor understanding key financial concepts and company valuation is essential to make informed investment decisions. Below are some of the investment concepts that will help you as an investor make informed decisions. They are as follows:

• Market Capitalisation
  Stocks are classified in terms of the market capitalisation into large-cap, mid-cap and small-cap stocks. Large-cap companies are known to be more stable and less risky than mid-cap and small-cap companies.

The Slippery Slope: Stocks having a lower market cap are usually priced lower. Investors often get enticed seeing these lower prices. There is a myth that small-cap companies provide fabulous returns because they have more room to grow. However, these stocks also display significant volatility and are susceptible to huge price swings which has the possibility of eroding your capital. Hence, even though stocks can be categorised based on market cap, don’t depend on this metric alone to make your investment decisions.

• Valuation Concept

An investor must trust the valuation of a stock by judging multiple fundamental metrics, such as EPS, P/E ratio, P/B ratio, Debt/Equity ratio, and Interest Coverage Ratio.

The Earnings Per Share (EPS) measures a company’s profitability per share. The Price-to-earnings (P/E) ratio is measured by dividing the current market price of a stock by its earnings per share. It is used to analyse if the company is overvalued or undervalued compared to its industry peers.

A company’s Book Value represents the net value of a company's assets as recorded in its financial statements. It is calculated by subtracting the company's total liabilities from its total assets. The Price-to-book value (P/B) ratio compares a company’s stock price to its book value, which is used to estimate the potential returns to the investors if the company gets delisted.

Also, there are Discounted Cash Flow (DCF) method that Estimates intrinsic value by calculating the present value of future cash flows, adjusted for risk. The Earnings Capitalization Method is a valuation approach used to estimate a company's worth based on its expected future earnings.

• Value Investment Vs Growth Investment

Now that you have a basic idea about the valuation of a stock, let’s talk about value investment. Warren Buffet is famously known for investing in undervalued stocks. Now, what is an undervalued stock? A stock has an ‘intrinsic value’ or fair value. Any stock that is available at a price lower than its intrinsic value is called undervalued. Such stocks “theoretically” have a bigger room for providing more returns. However, you must use other fundamental analysis methods and look for news to analyse why it is undervalued. If there is a compelling reason behind it, then you must exercise caution.

Conversely, there are growth stocks. These stocks usually trade at prices higher than their intrinsic value. They usually have high P/E ratios. Then why do people invest in them? Because these stocks have a greater growth potential. Investors believe that they have more room for growth. This also creates what is known as the “winner takes all” scenario. People keep on buying and the prices keep on increasing thanks to the network effect. As a result, growth stocks are a double-edged sword. They do have growth potential. But they can also become so overvalued that they become susceptible to sharp price corrections. So, Growth investments are typically suited for investors with a higher appetite for risk. It is crucial to exit a growing stock at the appropriate moment; however, it is essential to recognise that for a new and busy investor, pinpointing optimal market timing may not be practically possible. This limitation is largely due to their restricted access to vital information and sufficient time for comprehensive research.

• Dividends and Capital Gains:

You can earn money from stock investing in majorly two ways. First, there is the traditional selling method of “buy low sell high.” When you buy a stock at, say, Rs.100 and sell it at, say, Rs.150, you’ve made a capital gain of Rs.50 (although there are some charges associated with investing. You must deduct those charges to calculate true capital gains). Conversely, if you are forced to sell a stock at a price lower than you bought it at, then you have made a capital loss.

You can earn money through dividends as well. Stable companies with a stable cash flow often distribute a portion of their profits to their shareholders. This is called the dividend. It is given quarterly half-yearly or even annually on a per-share basis. However, companies are not obliged to pay you a dividend. Dividend payments can be increased, decreased or suspended based on the performance of the company. A company’s dividend-paying performance can be calculated using dividend yield. Dividend Yield = Annual dividend/current stock price.

• Fundamental and Technical Analysis:

Investors don’t have any magical ball that would show them the future prices of stocks. However, they do have fundamental analysis metrics that can give them a fair idea about the performance of a stock. These metrics provide valuable insights into a company's financial health, profitability, and growth potential. For example, the Price-to-earnings (P/E) ratio shows how much investors pay for each Rupee of earnings. On the other hand, the Price-to-book (P/B) ratio compares market value to book value. Then there is Return on Equity (RoE) which gives us a fair idea about a company’s profitability. We use metrics like Debt to Equity to assess the financial health of a company while cash flow is used to assess the actual money-generation capability. Growth metrics like Earnings Growth help us understand a company’s expansion and growth trajectory.

All the above metrics are concerned with the actual performance of the company - not just the stock price and its movement. In the case of Technical Analysis, we analyse the movement of the stock price of a company, identify patterns and try to assign meaning to those patterns. The basic idea is that there is a relationship between market psychology and price patterns. And these patterns repeat themselves. For example, a Simple Moving Average is a very basic technical analysis metric denoting the average price of a stock over a set period. Technical analysts use it to identify trend direction and support and resistance levels. Similarly, we have a Relative Strength Index (RSI) that helps us identify if the stock is in an overbought or oversold condition. For sideways moving stocks, we have Bollinger Band that can help us identify when a stock is overbought or oversold - when RSI alone is not of help.

Understanding Risk Management 

Protecting your stock market investments can be achieved through good risk management. Risk management also helps to limit possible losses and protect your wealth.
The following are essential elements of risk management:

Analysing Your Risk Appetite Is The First Step In Risk Management

Can you stay calm if your portfolio value decreases by 20% to 30%? Can you stay calm if you see your portfolio in red for months? What will you do in these cases? Redeem all your investments or stay put? Knowing how much risk you can take is the first step in managing the risks associated with stock investing. Go to the Dayco India risk appetite calculator questionnaire to measure your investment risk-taking abilities and make data-driven investment decisions: https://docs.google.com/forms/d/e/1FAIpQLSd261_aqybIekp7VlUOykM2o3C8r6DM8PUkt65mWrOZdV5JRg/viewform

• Setting Stop-Loss Orders: Stop-loss orders are automatic sell orders that kick in when a stock hits a set price.
• Portfolio Rebalancing: Rebalancing your portfolio means adjusting how much you have in different investments to keep your risk where you want it.
• Common Pitfalls to Avoid: Many investors make mistakes like trading based on feelings, not spreading out their investments, or not doing enough homework. If you know about these traps and stay away from them, you can do a much better job of handling risk.

Taking part in the stock market can seem like a challenging endeavour if you are new to the market. Using the guidance of a wealth manager can prove to be extremely beneficial.

-Marifur Rahaman

Disclaimer: Investment in securities markets is subject to market risks. Please read all related documents carefully before investing.