Make money by Investing in Stocks

A new investor always grapples with a lot of questions like:

How can I start investing in stocks?
What are the things to know before I start investing?
How should I research a stock?
How much risk should I take?
How long should I invest in a stock for before selling it?
Should I invest in stocks, or mutual funds or derivatives?
How should I select a stock for investing?
How can I ensure that I don’t lose money in the stock market?

So, if you are a new investor, and you are having these questions, don’t worry. All the investors face these questions and struggle finding right answers of these queries. In this blog, I will try to help you find your own answers of these questions to the best of my abilities. However, before we start discussing how to invest in stocks, let’s discuss a few basic issues, which are very important and will lay the foundation of our discussion.

Research: Buy stocks only if you are willing to spend some time researching stocks. If you don’t do research yourself, but still want to invest in stocks, then you should invest in equity oriented mutual funds. Hopefully, you will get decent returns on your money. Finding a good mutual fund in itself will require you to do some research on its past performance vis-à-vis its competitors, current philosophy of investing and fund management. In that sense, there are no free lunches- a little bit of effort is required if you want to make money anywhere. But once you have identified a good mutual fund, you don’t need to actively research stocks.

Investing in stock based on tips, or what others are buying or saying, is like gambling. And you don’t want to gamble with your money. If you still want to go ahead with gambling, then there so many other places to lose money.

Day trading: Only people who benefit from day trading on continuous basis are stockbrokers. They make money irrespective of your loss or profit, as they earn a percentage on every transaction you do. I have not seen anybody else making money consistently in day trading. If you have been lucky, may be you will make a few quick bucks. After that, the law of averages will catch up with you. To my mind, it’s a big farce and pure gamble that has been created to get people hooked to the stock market and keep up the volume of trades. Therefore, if you are thinking that I am going to give you tips on how to make some quick bucks, sorry to disappoint you. If anybody knows where exactly a stock is going to be in next one hour or two, he would not be advising you. Instead he will play the game himself and become a billionaire. This should help you understand the reality of day trading.

Derivatives: While finance professionals talk fondly about derivatives as investment instruments, these are complicated products and work primarily on speculation of large players in the stock market. You don’t have a good chance to make money in derivatives, as it’s not a level playing field. A retail investors should stay as far from derivatives as possible.

Short-term Vs Long-term: Short term investing is not investing; it’s speculation. At the cost of sounding repetitive, let me say again that short-term investment is gambling. There is a chance that you can make money in short term, but that will be pure chance. A stock price at any point in time is dependent on its intrinsic value (the real and reasonable potential of a stock), sentiments in the market, liquidity in the market, etc. When you are investing in a stock, you are trying to believe that the market will value this stock more in future and reward you for your early discovery. In a sense, you buy a stock at a price below its intrinsic value, and you will sell it when the market realizes that the stock is worth more. However, if you bought a stock when the liquidity and sentiments were good. And, suddenly, everything changes. The stock market crashes, liquidity dries up and everybody looks pessimistic about future. What happens to your stock? It tanks in the short term. However, sooner or later, things will get better and liquidity, sentiments will be positive; and you will find that the stock realizes its real potential. If you were a short-term investor, you would have sold the stock when the it tanked and lost money. However, if you invested for long term, you would hold on as you believe in the value of your investment and finally make money on your stock when things get better. Therefore, your chances of making money on a stock in long term are better than those in short term irrespective of the market sentiments and bull or bear phases. This is assuming that you have identified a good stock and bought it at a price, which is cheaper than its intrinsic value. A corollary is that if you need your money back in short term, you should not invest in stocks; instead you should invest in safe financial products like FD, debt oriented mutual funds, government bonds, etc.

It’s been a long post and I can go on and on. However, you should take rest and think about the points I discussed so that you can digest them and develop your own thoughts. Whatever I discussed today sets the tone for the things to come. Stay tuned.