The stock markets have been buoyant in the last couple of months with a renewed interest from domestic as well as foreign players. Positive results from the elections, favorable global cues, better than expected quarterly results, growth in industrial production numbers and ample liquidity have all given the markets the necessary impetus to move upwards.
Although there have been concerns of a poor monsoon and global recovery being slower than expected, the current momentum in the markets appears too strong to be shaken easily. However, caution needs to be exercised when the going is good and history has taught us time and again that the tide can turn so swiftly that one has no time to react.
For an average investor, movement of the stocks in his portfolio is more important than the overall movement in the markets. The overall direction of the markets should be given importance only to the extent that it may affect your portfolio.
Here are some tips to be kept in mind while investing in equity:
Stick to asset allocation:
It is extremely essential for investors to maintain a proper asset allocation strategy with respect to investments in different asset classes such as equity, debt, gold etc. Since equity is a high risk investment, you must allocate only that part of the capital on which you can afford to take a higher risk. If the markets are doing well, do not be tempted to put in more money. A proper asset allocation itself provides indicators as to when investments in an asset class should be increased or profits should be booked.
Division of portfolio:
Once the risk capital is allocated, devise a portfolio strategy to include high risk, medium risk and low risk stocks. Companies with high beta to the index come with a higher risk as compared to those with low beta. Also, mid-caps and small-caps are relatively riskier than their large-cap counterparts. A good portfolio strikes a balance between high risk and low risk stocks.
Diversification of the portfolio to include stocks from different sectors reduces the overall risk of the portfolio. Different sectors have different trigger points. Hence, a weak performance of a stock from one sector may get compensated by a strong performance of a stock from another sector. You must try to include stocks which are negatively correlated to each other to reduce the overall risk.
It is extremely important to do a preliminary research before buying a particular stock, rather than merely relying on tips. Some of important factors to be considered are the sector outlook, company outlook, past performance of the company, quality of management, dividend history, P/E ratio and book value per share.
Avoid stocks which appear highly over-valued at their current levels and try to pick those which offer a high margin of safety.
Entry and exit strategy:
It would be prudent to buy the selected scrips at different levels rather than invest the entire sum at one go, unless the price is too good to resist. A volatile market offers such opportunities and the overall cost of acquisition can be reduced by buying in multiple lots.
An exit strategy is equally important while investing in stocks. It is prudent to monitor your portfolio to look for signs of weakness in a stock due to changes at the fundamental level.
One of the objectives of equity investing is generating profits, and profits should be booked regularly to meet this objective.
Profits, unless realised, can be reduced to loss if you are not agile with respect to booking profits. It is advisable to either decide on a percentage return at which profits should be booked or decide on the target price of the stock at which it must be sold completely. The strategy would depend on the nature of the stock and whether it is held for a long term or short term.
The basics of equity investing do not change as per market conditions. If investors are disciplined and focused in their approach to investing in equity, it greatly reduces if not eliminates, the odds of losses.