mook June 20 final-11.29 - Sharekhansharekhan-firststep.com/Share-Market-Beginners-Guide.pdf · 2017-02-21 · account holder needing to handle securities and makes the safekeep-ing

marketfirst step to investing in the

share

1

hy should I put my hard earned money into shares

when I am not sure of a return? If there’s a science to

investing then why do we call investing a risk? And if

it’s not a risk, then why do people end up losing money from their

investments in shares? In this booklet we have tried to answer the

questions you might have about investing in shares. When is invest-

ing in shares a risk and when does it become a science? How can

you be assured that your investment in shares is safe? And more…

More importantly, we’ve tried to explain some basic concepts that

most investors take for granted but that are crucial knowledge for

a person just entering into the financial jungle. So concepts like risk

premium, dividend, stock split etc have been explained in a simple

manner for the benefit of the first-timers. Not only that this handy

booklet also seeks to educate the would-be investors in the various

aspects of share trading, both offline and online.

We hope the booklet shall succeed in satisfying your desire for

knowledge of the share market as well as in lending you a helping

hand as you take your FIRST STEP into the world of investing.

Tarun ShahCEO—Sharekhan

W

3

1: Why must I invest in shares?v Invest to create wealth v Shares—the best investment option v Benefits of share investing are many

2: How do I buy and sell shares? v Invest through primary and secondary markets

v A beginner's guide to the stock market v Placing an order to buy and sell shares

3: How do I select the right shares? v Science of investing in shares v Components of fundamental research v Learning to judge an IPO

4: How can I minimise risks and maximise returns? v Types of risk involved in investing in shares

v Reducing risk v Become a successful investor

5: How can I benefit from online trading? v Using your computer to trade v Trading online is convenient v Benefits of trading on sharekhan.com

5

21

29

37

CONTENTS

9

8 pages of trading jargonPLUS

4 51. Why must I invest in shares?

First Step to Investing

in the Share Market

in shares?IN THIS CHAPTER:v Invest to create wealth v Shares—the best investment option v Benefits of share investing are many

Why must I invest

This booklet is distributed as part of the Sharekhan First Step to Investing Program.

It is meant for private circulation ONLY and is not for sale.

First Step to Investing in the Share Market is meant to introduce new investors to the

stock market. It is not intended to be taken as the basis for an investment decision!

1. Why must I invest in shares?6 71. Why must I invest in shares?

shares are attractive as much for theappreciation in the share prices as forthe dividends their companies pay out.

Tax advantages: shares appear asthe best investment option if youalso consider the unbeatable taxbenefits that they offer. First, thedividend income is tax-free in thehands of investors. Second, you arerequired to pay only a 10% short-term capital gains tax on the profitsmade from investments in shares, ifyou book your profits within a yearof making the purchase. Third, youdon't need to pay any long-termcapital gains tax on the profits ifyou sell the shares after holdingthem for a period of one year. Thecapital gains tax rate is much high-er for other investment instruments:a 30% short-term capital gains tax(assuming that you fall in the 30%tax bracket) and a 10% long-termcapital gains tax.

Easy liquidity: shares can also bemade liquid anytime from anywhere(on sharekhan.com you can sell ashare at the click of a mouse fromanywhere in the world) and thegains can be realised in just twoworking days.

Considering the high returns, thetax advantages and the highly liquidnature, shares are the best invest-ment option to create wealth.

Why need I invest?The basic question “Why need Iinvest?” merits attention before wemove on to the bigger question ofwhy one should invest in shares.Simply put, you want to invest inorder to create wealth. Whileinvesting is relatively painless, itsrewards are plentiful. To under-stand why you need to invest, youneed to realise that you lose whenyou just save and do not invest.That is because the value of therupee decreases every year due toinflation. For example, if you ran ahousehold within a budget ofRs100,000 in 2000, to run the samehousehold today (assuming thesame set of expenses) you wouldprobably need Rs125,000--that'sRs25,000 added to your budgetbecause of inflation! Thus you needto generate an additional Rs25,000and that can be possible only by

INVESTING your hard-earnedmoney.

So what are the various invest-ment options?One can invest in various financialinstruments like equities (popularlyreferred to as shares), bank fixeddeposits, National SavingsCertificates etc as well as in gold,real estate et al. Out of these sharesare the best option for individualinvestors.

Why shares?Historically shares have outper-formed all the other investmentinstruments and given the maxi-mum returns in the long run (see thetable on page 7). In the twenty-five-year period of 1980-2005 while theother instruments have barely man-aged to generate returns at a ratehigher than the inflation rate(7.10%), on an average shares havegiven returns of about 17% in a yearand that does not even take intoaccount the dividend income fromthem. Were we to factor in the divi-dend income as well, the shareswould have given even higherreturns during the same period.

Are there any other benefits ofinvesting in shares?Dividend income: investments in

INFLATION: gen-eral rise in pricesand wagescaused by anincrease in themoney supplyand demand forgoods, andresulting in a fallin the value ofmoney. Inflation occurs when most pricesrise by some degree across the economy.

RETURNS ON DIFFERENTTYPES OF INVESTMENT

BETWEEN1980 AND 2005

17% p.a

Stock Market

9% p.a

Bank Fixed Deposits

5.7% p.a

Gold

7.1% p.a

During this timeInflation grew at

Source: Data compiled from the RBI handbook of Statistics, NCDEX

Disclaimer: Investments in equity related securi-ties involves a high degree of risk. Please read theRisk Disclosure Document as prescribed by Sebi

before investing.

*

* From 1982 to 2005


in the Share Market

2. How do I buy and sell shares?

IN THIS CHAPTER:v Invest through primary and secondary markets v A beginner's guide to the stock marketv Placing an order to buy/sell shares

shares?How do I buy and sell

8 91. Why must I invest in shares?


in the Share Market

OPENING AN ACCOUNT WITH SHAREKHAN

Shares are the best investment option for individual investorsdue to the following benefits:1) Possibility of high returns2) Easy liquidity3) Unbeatable tax benefits4) Income from dividends

2. How do I buy and sell shares?2. How do I buy and sell shares?10 11


in the Share Market

DIFFERENCE BETWEEN PRIMARY AND SECONDARY MARKETS

In the primary market securities are issued to the public and the proceeds go to theissuing company. Secondary market is a term used for stock exchanges, wherestocks are bought and sold after they are issued to the public.

What are the different ways inwhich I can invest in shares?There are basically two ways inwhich you can invest in shares:

1) Purchase shares from the primarymarket (ie IPOs)The first time that a company’sshares are issued to the public, it isby a process called the initial publicoffering (IPO). In an IPO the com-pany offloads a certain percentageof its total shares to the public at acertain price.

Most IPOs these days do nothave a fixed offer price. Instead theyfollow a method called the book-building process, where the offerprice is placed in a band or a rangewith the highest and the low-est value (refer to the newspa-per clipping on this page).

The public can bid for theshares at any price in theband specified. Once the bidscome in, the company evalu-ates all the bids and decideson an offer price in thatrange. After the offer price isfixed, the company eitherallots its shares to the peoplewho had applied for itsshares or returns them theirmoney.

2) Trade in the secondary market, iestock exchanges

Once the offer price is fixed andthe shares are issued to the people,stock exchanges facilitate the trad-ing of shares for the general public.Once a stock is listed on anexchange, people can start tradingin its shares. In a stock exchange theexisting shareholders sell theirshares to anyone who is willing tobuy them at a price agreeable toboth parties. Individuals cannot buyor sell shares in a stock exchangedirectly, they have to execute theirtransactions through authorisedmembers of the stock exchange whoare also called stock brokers.

Every IPO highlights the price band as part of thebook-building process

2. How do I buy and sell shares?2. How do I buy and sell shares? 1312


in the Share Market

transactions. c. RegistrarsThe registrar for each companymaintains records of all the share-owners of the company and thenumber of shares that they own.Whenever a transaction takes place,the registrar updates the sharehold-ers database.

d. Depository exchanges and theirparticipantsDepository exchanges are organisa-tions that hold shares of investors,on request, in electronic formthrough a registered depository par-ticipant (DP). It can be comparedwith a bank as it holds securities inan account, transfers securitiesbetween accounts on the instructionof the account holder, facilitates thetransfer of ownership without theaccount holder needing to handlesecurities and makes the safekeep-ing of shares easy.

The agent through which adepository exchange interfaces withthe investor is known as a deposito-ry participant.

You can create a demat accountwith a DP, who will keep anaccount of all the shares you own.This is much like the banking sys-tem, where you just create anaccount and have a passbook which

updates you on the money you ownand the transactions you havemade. In your demat account youown shares in an electronic formatand your account gets updated asyou buy and sell shares.

e. SebiThe regulatory body that governsall stock market transactions is theSecurities and Exchange Board ofIndia. Sebi ensures the legality of alltransactions and that the stockexchange players follow all the rulesand regulations set by it and/or thegovernment.

Sebi also looks into investorcomplaints against companies. It isquasi-judicial and can try cases andpass judgments against companies.It also looks into mergers andacquisitions of companies.

Sebi has enacted the Prohibitionof Insider Trading Regulations,2002 which is applicable to all mar-

NSDL/CDSL: the National SecuritiesDepository Ltd (NSDL) and the CentralDepository Securities Ltd (CDSL) are likethe Reserve Bank of India in the sense thatthey are the clearing and holding house forall the demat transactions. DP: depository participants are like banksin that they are agents of NSDL or CDSL inproviding depository services.

PRIMERHow does the stock marketfunction?In order to understand how thestock market operates, you shouldhave knowledge about the role offollowing institutions / organistions:

a. Stock exchanges,b. Brokers,c. Registrars,d. Depository exchanges and theirparticipants, ande. Securities and Exchange Board ofIndia (Sebi)

a. Stock exchangesA stock exchange is the marketplacewhere companies are listed andwhere the trading happens. Thereare different stock exchanges in thecountry, the pre-dominant being theNational Stock Exchange (NSE)and the Bombay Stock Exchange(BSE).

b. BrokersA stock exchange functions throughits members called brokers. If youwant to buy or sell a share, you con-tact a broker. Each stock exchangehas a limited set of brokers andthese brokers contact each otherusing trading terminals to find outwho is interested in the share youwant to buy or sell. Brokers have

terminals linked to the BSE or theNSE and they directly purchase orsell shares using these terminals.The entire transaction happens elec-tronically or through websites likewww.sharekhan.com.

Some brokers also authorise asub-broker to conduct the transac-tions on behalf of them.

Since brokers are providing aservice they charge you for thesame. This payment is not a flatrate, but a commission of the trans-action value. Brokerages normallyrange from 0.5% to 1% for deliv-ery-based transactions and from0.10% to 0.25% for intra-day

0.5 %

BROKERAGE RATES ON

SHAREKHAN.COM

for delivery-basedtransactions

for intra-day transactions

0.1 %



in the Share Market

you want to sell them. If you don'tspecify the price, the shares will besold at the prevailing market price.

Do I know whom I am buyingfrom?When you buy a share, you are basi-cally placing an order through yourbroker.

The stock exchange keeps a noteof these transactions and at the endof the day starts a process of settle-

ment which ensures that the sharesyou bought come into your accountand the person who sold them toyou (through his broker of course)has that number of shares removedfrom his demat account. Thisprocess of settlement is called a set-tlement cycle and the time taken forthis is currently T+2 days. That is,the settlement will occur two daysafter you make the trade.

If you have an online trading

Investors buy and sell shares through a stock exchange.

DYNAMICS OF THE SHARE MARKET

A fixed process is followed for easy transfer of money and shares. It is termed as a settlement cycle of “T+2” or “Trade + 2 days”, which means thatif you buy shares on Monday then you get delivery of the shares after two work-ing days, ie on Wednesday. Similarly if you sell shares on Monday then you willreceive your money on Wednesday.

ket intermediaries. SSKI InvestorServices (the parent company ofSharekhan) complies and followsthe prescribed procedures in orderto prevent the misuse of price sensi-tive information, which an employ-ee/director/officer of the companymay have access to.

What all do I needbefore I can startinvesting in shares? To start investing inshares you need toopen a stock-brokingaccount with a regis-tered broker and ademat account with aDP.

When you open aSharekhan FirstStepaccount, you get every-thing you need to startinvesting in shares.Sharekhan is a regis-tered broker with both the BSE andthe NSE, and being a DP it also pro-vides you a free demat accountalong with your trading account.

How do I actually place anorder to buy or sell shares? To facilitate the buying and sellingof shares, Sharekhan offers multipletrading channels.

You can, for example, walk intoany of our 250 share shops across120 cities in India and get yourorders executed.You can, on the other hand, eventrade online through our sitesharekhan.com. For advanced

traders we also have aspecial online tradingsoftware calledSpeedTrade.You can also call onour Dial-n-Tradenumber, which isserviced by a dedicat-ed call centre, andplace an order with aDial-n-Trade execu-tive.

When you buy ashare, you specify thecompany whoseshares you want tobuy, the quantity ofshares you want to

buy and the price at which you wantto buy them. If you don't specify theprice, the shares will be bought atthe market rate prevalent at thattime.

The process of selling a share issimilar to the process of buying ashare. Again here you have to spec-ify the company, the number ofshares to sell and the price at which

“ “Only buysomethingthat you’dbe perfectly

happy tohold if the

market shutdown for 10

years.Warren Buffet,

Investment Guru



in the Share Market

of your stock, and the stock's open-ing and closing prices of the previ-ous days.

You can also trade in shareswithout specifying the price—this isknown as a market order. In thiscase the trade happens at the mar-ket price at that point of time.

How can I track the stock mar-ket?The BSE Sensex (Bombay StockExchange Sensitive Index) measuresthe movement of 30 most activelytraded shares on the BSE. These 30companies represent a cross-sectionof sectors of the economy.

Similar to the BSE Sensex is the

Nifty or the S&P CNX Nifty, whichmeasures the movement of the NSE.This index tracks 50 stocks, whichrepresent about 60% of the marketcapitalisation of the NSE.

The upward or downwardmovement of the Sensex or Nifty isa typical indication of whether theshare prices are going up or down ingeneral.

If the Sensex goes up on a partic-ular day, it doesn't mean that theshare prices of all companies wouldhave gone up on that day. Trackingthe movement of stock indices overa longer period is an important partof intelligent investing.

Face value: this is the nominal value that is assigned to a share at the time of issue. It is usedin determining the dividend to be given to the shareholders. Apart from its use in determiningdividend, face value has lost its relevance in the modern day and has no link with the marketprice.Offer price: the price at which a company sells its shares to the people.Market price: the price at which a share is traded on stock exchanges daily and which gov-erns our investment value.Dividend: the face value of a share determines the dividend or the sharing of the company’s annual profits with its shareholders.

PRIMER

Stock Face value Price band Offer price Listing marketprice

UTV Software Comm Ltd Rs10 Rs115 to Rs130 Rs130 Rs150

Jet Airways (India) Ltd Rs10 Rs950 to Rs1,125 Rs1,100 Rs1,155

Tata Consultancy Services Ltd. Rs1 Rs775 to Rs900 Rs850 Rs1,199

Biocon Ltd. Rs5 Rs270 to Rs315 Rs315 Rs425

EXAMPLE OF DIFFERENT TYPES OF SHARE PRICES

account and a demat account withSharekhan then this settlementprocess happens as a paperlesstransaction.

How can I know the currentprice of any stock?Whenever you are buying or sellinga share, you will encounter certainterms related to share prices. Theseterms deal with the individual pricemovements of a single share as wellas the price movements of all theshares. For every share, typicallythere are four price parameters.1. Open: this is the price at whichthe share opened on a particularday, that is the price at which thefirst purchase of the share wasmade during that day.

2. High: this is the highest pricethat a share went up to on a givenday, or the highest price theinvestors paid for that share.

3. Low: this refers to the lowestprice that a share fell to during aday, or the lowest price an investorpaid for that share.

4. Close: this is the price at whichthe share closed on that day or theprice for the last trade of that day.

At any given point of time, theshare price will fluctuate betweenthe highs and the lows, sometimesreaching new highs, sometimesfalling to new lows.

When trading in shares, youneed to mention the price point atwhich you want to buy or sell. Tospecify the price point, it helps ifyou know the statistics or the trends

SENSEX: this is the common name for theBombay Stock Exchange Sensitive Index.It consists of the 30 largest and mostactively traded stocks, representative ofvarious sectors, on the Bombay StockExchange.

NIFTY: NIFTY is the common name for theindex consisting of 50 large capitalisationstocks on the Indian National StockExchange (NSE).

PRIMER

18


in the Share Market


How do I earn from my invest-ment in shares?Shares can give you returns in twoforms.a. Appreciation in share pricesYou buy shares with the belief thattheir price will increase and thatwhen this happens you will be ableto sell off your shares and earnprofit. For example, if you bought ashare for Rs100 three years ago andit is Rs500 today, then you haveearned Rs400 in three years.

b. DividendWhen a company makes profits, itcan choose to share part of its prof-its with its shareholders by payingout dividend. This dividend is paidas a percentage of the face value ofthe share. For exam-ple, a company maydeclare a dividendof 25%. Then if theface value of itsshare is Rs10 youwill get Rs2.50 forevery share you ownof that company,irrespective of themarket price.

In itself thismight not be much,but over a longerperiod of time or ifyou have a lot of

shares, you could earn quite a bitfrom the dividend itself. The bestthing about dividends is that theyare tax-free in the hands ofinvestors. Dividend yield stocks areknown to give returns higher thanfixed deposits [dividend yield = (div-idend per share / market price of theshare) x 100].

Sharekhan informs its customersof good dividend yield stocks fromtime to time.

What are the expenses during atransaction?Every share transaction attractssome tax or the other. Some of themain expenses are as follows.a. Capital gains taxIf you purchase a share and sell it at

TRADETALK: splitting the stocks

WHY DO SOME STOCKS HAVE DIFFERENT FACE VALUES?The face value of a share is typically Rs10, but many times the face value

can even be Rs100 or Rs5 or Rs2. The selection of the face value depends

on the offer price or the price band and sometimes the face value is

changed when the stock is split at a later date.

If the company announces an issue of Rs50 crore and the face value of

each share is Rs10, the company will have to issue 5 crore shares. If the

face value if Rs100, the company will have to issue 50 lakh shares.

Often it happens that a company's price rises so rapidly

that many people end up buying only one or two shares. In such cases the

company splits the face value of the stock. So if a Rs10 share is being trad-

ed at Rs5,000, splitting the stock into two will double the number of shares

that are available in the market. Because of reduced face value, the market

prices will fall (not necessarily in the same ratio) and people would be able

to buy more shares of the company.

2120


in the Share Market

3. How do I select the right shares?

IN THIS CHAPTER:v Science of investing in shares v Components of fundamental research v Learning to judge an IPO

right shares?How do Iselect the


a price higher than the purchaseprice and if this sale is within a yearof the purchase, then a 10% capitalgains tax is levied on the profit thatyou make. For example, if youbought a share for Rs100 onJanuary 1, 2005 and sold it forRs150 on July 1, 2005, then youhave to pay a tax of 10% on theRs50 profit that you make. If yousell after a year of purchase, there isno tax on the long-term gains.

b. Securities transaction taxSecurities transaction tax (STT) islevied by the government on everytransaction you do on a stockexchange. You don’t have to paythis separately; it’s collected by yourbroker. As per the Union Budget2005 the STT will be 0.10% ondelivery-based transactions and0.02% on intra-day transactions.

c. BrokerageBrokers get a commission on every

trade that they do for you. Thiscommission varies from broker tobroker; at sharekhan.com the bro-kerage is 0.5% for delivery-basedtransactions and 0.10% for intra-day transactions. On the brokerageamount you are required to pay aservice tax to the government (to becollected by the broker). The bro-kerage varies depending on the serv-ice that the broker provides you.Some brokers, such as Sharekhan,offer its clients regular updates oncompanies, multiple means to trans-act and customer service support.

d. Depository feesSince most of the shares exist in adematerialised form, every time youbuy or sell shares the transactionsare being noted by your DP. TheDPs normally levy a charge which isan annual charge or a charge oneach transaction.

You can either apply for shares through an IPO or trade inshares in the stock market. To buy/sell shares in the stockexchange, investors have to go through brokers. Sebi is theregulatory body for the stock market. It protects investors andalso handles their complaints against companies. Investing instocks can provide you with two types of gains: appreciationin stock price and dividends. To calculate returns, you mustalso be aware of transaction taxes and other charges like bro-kerages etc. Sensex and Nifty are some of the key indices youcan use to track the overall stock market movement.

2322


in the Share Market


What are the components offundamental research?A fundamental researcher looks atthe performance of a company overa period of time as well as its futuregrowth prospects. He might com-pare this data with that of the othercompanies in the same sector andmeasure the same against a stockmarket index. Most of the data nec-essary for doing fundamentalresearch comes from the quarterlyand annual reports of companies aswell as from the analysis of theirstock prices. A fundamental researcherstudies the following: (1) annual reportsand (2) ratios like EPS, PER etc.

What is there in an annual report?The annual report of a companyprovides a wealth of informationabout the company. In an annualreport investors must look for theProfit & Loss (P&L) statement andthe Balance Sheet.

i. The P&L statementThe P&L statement gives you thefigures relating to the company'sincome, expenditure, earningsbefore interest, depreciation, taxand amortisation (EBIDTA), andnet profit. Income, Expenditure andNet profit are the main heads of theP&L statement.

A Sharekhan Stock Ideas report has the followingdetails:

1) Cluster that the company belongs to (see page 25)

2) Recommendation: whether to Buy, Sell or Hold

3) Price target: price the stock is expected to go up to

4) Current market price of the stock

Sharekhanaccount holderscan also expectregular updateson each of ourrecommendations.


How do I know which stocks tobuy or sell?Your investment decisions shouldnot be based on rumours, gut feel oremotions; but should be taken aftera careful study of facts. Mostinvestors who have made theirmoney in the stock market are thosewho have been patient, have backedtheir investments with logic andhave never lost sight of commonsense.

Typically there are two ways ofselecting the right stock: (1) funda-mental research and (2) technicalanalysis.

1. Fundamental research This requires you to rate a stockbased on its historical performanceand growth parameters. This type ofresearch involves a careful scrutinyof the financials of a company.2. Technical analysis This requires you to predict thetrend in the market or the price of acompany based on historical pricemovements, using certain statisticalparameters.

Sharekhan offers a selection ofstocks based on both fundamentaland technical research techniqueswith different time frames for bothtypes of calls.

Sharekhan provides newsletters andanalytical reports to help you decidewhich shares to select and when to buyor sell them. Account holders getresearch-based investment advice withrecommendations to buy shares of com-panies whose prospects are good. Theserecommendations are termed as Stock

Ideas. Sharekhan’s customers also get a

host of services including timelyresearch reports (Sharekhan Stock

Ideas), which read like the one shownon the right.

RESEARCH-BASED ADVICE FROM SHAREKHAN

1

2

3

4

2524 3. How do I select the right shares?3. How do I select the right shares?

A) Income: the total earn-ings of the company fromvaried sources. This caninclude sales, income fromdividends, interest received,profit from asset sales,stock variation (whichrefers to the closing stock ininventory) and so on.However attention shouldbe paid to the Sales figure,which pertains to the core busi-ness of the company.

B) Expenditure: the actualmoney spent on operationalexpenses (like raw materialconsumed, labour costs etc). TheOther expenses are interest on serv-icing a debt, depreciation etc.

C) Operating profit (popularlyreferred to as EBIDTA): deductingOperational expenses from Salesgives you the Operating profit.

D) Net profit: after deducting inter-est cost, depreciation cost and taxesfrom Operating profit you get theprofit after tax or the Net profit.Sometimes one-off or non-recurringitems such as the sale of land orinvestments may boost a company’snet profit. Investors need to assesswhether the profit is driven by coreoperation and is sustainable.

ii. The Balance SheetThe Balance Sheet gives you aninsight into the assets of the com-pany, its existing liabilities and howits funds are utilised. It can also con-tain the details of the sources of thefunds (equity capital, reserves, debt etc).

How do ratios help in funda-mental analysis?Using the data from the annualreport and ratios like EPS and PER,it is possible for you to judge thefinancial health of a company.

i. EPS: earnings per share—this ratioreflects how much the company isearning per share that it has distrib-uted. The EPS is calculated as thetotal net profit divided by the total

A

B

C

A typical Profit and Loss Statement is divided intothree sections: Income, expenditure and profitability

D


in the Share Market

26 27


in the Share Market


number of shares that have beenissued. For example, if a companyhas profits of Rs100 million and hasissued 10 million shares, its EPS is10. The EPS is used to gauge a com-pany's profitability per unit ofshareholder ownership.

You can use the ratio to comparetwo companies in the same sector.For example, companies A and Bboth earn Rs100, but company Ahas ten shares outstanding, whilecompany B has 50 shares outstand-ing. It means that company A has anEPS of 10 and company B has anEPS of 2. As a general rule, a higherEPS drives up the stock price of acompany.

However the EPS should not beviewed in isolation and should alsobe analysed along with the industry

average as well as the EPS of theother companies in the same sector.

ii. PER: while the EPS looks at theprofitability of a company, the PER(ie the price/earnings ratio) is themarket price equivalent. The PERrefers to the market price divided bythe EPS. Thus in the above exampleif the EPS is 10 and the market priceis 50, then the PER is 50/10 = 5.Meaning, the share of the companyis trading at a multiple of 5.

This ratio is typically comparedwith that of the other companies inthe same sector and you get to knowwhether the company is on the fasttrack or is a slow runner. Whilecomparing the PERs it is better tostick to the companies in a particu-lar industry and not compare acrossindustries.

PROMOTERSIs the company a family-run business or

is it professionally owned? Even with a family-

run business, what are the credibility and pro-

fessional qualifications of those managing the

company? Do the top-level managers have

enough experience (of at least five years) in the

specific type of business?

INDUSTRY OUTLOOKThe products or services of the com-

pany should have a good demand and

scope for profit.

BUSINESS PLANSCheck the progress made in terms of land acqui-

sition, clearances from various departments,

purchase of machinery, letter of credits etc. A

higher initial investment from the promoters

will lead to a higher faith in the organisation.

FINANCIALSWhy does the company require

the money? Is the company

floating more equity than

required? What is the debt com-

ponent? Keep a track on the

profits, growth and margins of

the previous years. A steady

growth rate is the quality of a

fundamentally sound company.

Check the assumptions the pro-

moters are making and whether

these assumptions or expecta-

tions sound feasible.

RISK FACTORSThe offer document will list out specific risk factors

such as the company’s liabilities, court cases or other

litigations. Examine how these factors will affect the

operations of the company.

KEY NAMESEvery IPO will have lead managers and merchant

bankers. You can figure out the track record of the

merchant banker through the Sebi website.PRICINGCompare the company’s PER with

that of similar companies. With this

you can find out the P/E Growth

ratio and examine whether its earn-

ing projections seem viable.

LISTINGYou should have access to the bro-

kers of the stock exchanges where the

company will be listing itself.

8PARAMETERS TO

Good investing principles demand that you study the minutest of details priorto investing in an IPO. Here are some parameters you should evaluate.

1 2

3

4

5

6

7

8

IPOJUDGE AN

INVESTING VS TRADING

You are INVESTING in shares when you buy them with the objective of holding them for a long

period (typically two to five years). On the other hand, you are TRADING in shares if you buy

them with the intention of selling them in a short period (a day to few weeks).

As an investor when you buy shares, you pay the money equivalent to the amount and the

price of the shares you have bought and you take delivery of the shares in your demat account.

Whereas a trader typically buys and sells shares on the same day and hence does not take

delivery of his shares in his demat account. The process of buying and selling on the same day

is also termed as intra-day trading.

Sound research can keep your investments safe. Make use ofthe research reports and newsletters (Stock Ideas, SharekhanValueLine, Investor’s Eye etc) that you begin to receive fromthe Sharekhan Research team after opening a SharekhanFirstStep account. Also study the Annual Report and the otherdocuments of the company you want to invest in.


294. How can I minimise risks and maximise returns?

IN THIS CHAPTER:v Types of risk involved in investing in shares v Reducing riskv Become a successful investor

minimise risks How can I

and

maximise returns?

3130


in the Share Market


to help you with itsown set of StockIdeas, which are ourbest picks in today'smarket, chosen aftera careful analysis oftheir fundamentalsand a close scrutinyof the risks associat-ed with them.

How do I identi-fy sectordrivenrisks?

If steel pricesrise, auto companiesget affected. If low costChinese products invade thecountry's market, then local fastmoving consumer goods companiesmight find no takers for their prod-ucts. The changing nature of theindustry itself may lead to dippingstock prices; a print publicationmay see revenue loss if everyonemoves to reading on the Internet.

How do I predict market risk?It is difficult to predict market risks.The only thing we can say here isthat start noticing all the small signsearly. If the election results arefeared to lead to a fall in the stockmarket, notice the signals before-

hand. Read Sebi's bul-letins and track com-panies whose sharesprices are veryvolatile.

Why invest inshares if its risky?

Yes, there are risksinvolved in investingin shares and thereturns are also not

c e r t a i n ,but under-

standing therisks and learning

how to manage themhold the key to achieving

higher returns from shares. So at what point is the risk

safe enough to take and at what

DO NOT KEEPTRACK OF THEIRINVESTMENTSF o o l i s hinvestors areclueless aboutthe stock market movements. Themarket may seem intimidating,but you need to spend a few min-utes everyday to constantly be intouch with the market. Keep a

notebook and jot down importantpoints. There are many other software

tools that will help you keeptrack of your portfolio.

WHAT FOOLISH INVESTORS DO

PART II

”“ Prevailing

wisdom is thatmarkets are

always right, Iassume thay arealways wrong

George Soros,

Chairman, Soros

Fund Management


What are the risks involved ininvesting in shares? There are two types of risk associat-ed with this kind of investment:company specific risk and marketrisk.

The set of risks that deals with acompany and its sector is referred toas company specific risk.

Examples of company specificrisk: bad manage-ment, bad marketingstrategies, sector dis-turbances that havean impact on indus-try etc.

External factors(economic, globalfactors) that affectthe market as a wholeare referred to asmarket risk.

Examples of mar-ket risk: politicalinstability, high infla-tion, rupeed e p r e c i a -tion, risinginterest rates,global incidentslike wars and disas-ters that throttle thenation's economy etc.

How do I identify company

specific risks?

With careful scrutiny and properhomework, it might be easy to iden-tify and be forewarned of the risks acompany may be carrying.

Specifically check out for themergers and acquisitions that donot have a real synergy or are anightmare after reconciliation

( A O L - T i m eWarner, HewlettPackard-Compaq).

Also be suspi-cious of diversifica-tions that do notreally add value to a company's coreoffering.

A third kind ofrisk would be withthe companies thathave bet their stakeson a single productoffering and are

high ond e b t .

L i k e w i s ec o m p a n i e s

that depend onresearch could be

prone to higher risk,if the research doesn't

come to fruition.While you can do your

homework, Sharekhan is there

INVEST ALL THEIR SAVINGSCancelingyour sub-s c r i p t i o nto maga-zines, eat-ing outonly once a week and then usingthe money saved to invest instocks is a bad idea.

Personal finances need to betotally in order before you invest.Ensure that you do not have anydebt and all your loans have beenrepaid. Even your credit card

should not have any outstanding.Then save every month. And think of

investments in terms of requirements(education of children, marriage

etc). The money left over isthe only money you

have for the stock market.


PART I

32 33


in the Share Market


Investing the same

amount at regular inter-

vals (eg every month) is

known as systematic

investing.

With this approach

you buy more shares

when prices are low and

fewer shares when

prices are high. As a

result you may lower

your average cost per

share over time.

For example, making

a one-time investment

puts much more weight on the specific mar-

ket conditions at that one point—such as a

share price of an equity. Spreading out your

investments over regular intervals puts time

on your side.

Systematic investing in action

Let's say you invest Rs10,000 each month

in the company PQR Ltd.

In May PQR Ltd’s share price is Rs10 a

share, so your systematic investment that

month buys you 1,000 shares.

Rs10,000/Rs10 a share = 1,000 shares

In June the share price drops to Rs5 a

share, so your investment that month gets

you 2,000 shares.

Rs10,000/Rs5 per share = 2,000 shares

Systematic investing balances the dif-

ferent costs for the shares you purchased. If

you had invested all Rs20,000 in May, you

would only have 2,000 shares now, instead

of 3,000. Of course if you had invested all

Rs20,000 in June, you would have 4,000

shares.

Although cost averaging does not

assure a profit or protection against risk, it is

a logical, smart approach that can help you

even out the fluctuations in the market.

WHAT SMART INVESTORS DO?


point does it becomerisky? Risk is thechance that aninvestment's actualreturn will be differ-ent than expected.This includes thepossibility of losingsome or all of theoriginal investment.Higher risk means agreater opportunityfor highreturns anda higher poten-tial for loss.

The risk premiumis the extra return thatthe stock market providesover the risk free rate to com-pensate for market risk.

So if you are getting a risk-freereturn of 8% from an investment ingovernment bonds or providentfunds and an investment in sharesmight give you 10%, then youmight decide against investing inshares as the risk (associated withthe particular share) may not be

worth the extrareturn that the sharemay generate.

If, on the otherhand, the investmentin shares has thepotential to givereturns of 20%(12% more than therisk-free invest-ment), you might gofor it. This 12%

e x t r ad e n o t e s

the risk pre-mium. The risk

premium you selectwill depend on your

risk appetite, ie the degreeof risk that you can tolerate.Ideally before investing in a

company you would want to makea note of all the possible scenarios(decrease in price by 10%, increaseby 10%, increase by 50% and soon) and assign a probability to eachscenario.

Next compare the probabilitieswith that of getting risk-free returns

EVALUATE STOCK PRICES, NOT BUSINESSESWe frequentlymistake thecart for thehorse; that iswe look at acompany’s stock price but don'tconsider if the company itself isdoing good fundamentally! Insteadof looking at its share prices, starttaking notice of the company's

growth prospects, financial parameters, lead-ership status, debt position and other

such factors. These will automati-cally determine the rise or

fall in the company'sstock price.


PART III

34 35


in the Share Market


any problem in one sector would affect

all stocks in the sector. As a thumb rule,

if you have investments of up to

Rs50,000 invest in two to three stocks.

For about Rs150,000 invest in three to

five stocks, for around Rs500,000 have

five to seven stocks, and around ten

stocks for higher amounts.

8. DON’T INVEST ALL YOUR SAVINGS

Always maintain a core set of reserves.

You should never touch these reserves for

investing, so that even in the worst case

you still have some money. Typically

these reserves should be your salary of

about six months.

9. BE REALISTIC! Analyse the reason why you are

investing in shares, ie why you

require the money. For a better

lifestyle? For your child's

future education? For retire-

ment planning? Once you

have answered that, ask

yourself how much

appreciation do you

need to get that amount?

Work towards this

amount and you won't be

disappointed.

10. BE LEVEL-HEADED

Invest wisely, don't

get swayed by

rumours and allow

Sharekhan to be

your guide at all

t i m e s .

Investment suc-

cess won't hap-

pen overnight,

so avoid overre-

acting to short-

term market

swings.


1. DON’T ATTEMPT TIMING THE MARKET

Buy when stocks are falling, sell when

these are rising. This works well when

you are a long-term investor and there is

an extended bear or bull run. Don't try

to second guess or predict that the mar-

ket will fall today and rise tomorrow.

Even seasoned investors cannot do that!

2. DON'T TRY TO GUESS THE MARKET'S FAVOURITES

Your instincts might tell you that

pharma or technology stocks are hot

due to certain policies or events, but

remember millions of investors have

already guessed that and bought these

stocks. The prices of these stocks would

therefore be at a higher level when you

buy them. Instead focus on the long

term and don't get swayed by short-term

events.

3. AIM FOR THE LONG HAUL

Short-term investing is prone to higher

risks. When investing in stocks, aim to

get good returns after a period of three

to five years at the minimum. Also churn

your portfolio periodically and based on

the progress that a company makes in a

quarter or in six months, decide whether

to hold the stock or get out of it.

4. AVOID HOT TIPS

You may have overheard some news

about a stock or your friend may advise

that a particular stock is all geared to

move up. Avoid such tips like the plague

and your investments will remain safe.

5. BLUE-CHIPS ARE SAFE BETS

Blue-chip companies are there because

they have done well in the past and have

a high market capitalisation. It is a likely

guess that they will maintain their track

record and give you higher returns even

in future. Therefore invest in companies

that have a good track record.

6. SLOW AND STEADY STREAM OF INVESTMENTS

Set aside a certain portion of your earn-

ings every month and invest that sum in

shares irrespective of the market condi-

tions. This way, over a period of time

you can amass a substantial number of

shares of the stocks in your portfolio.

7. THINK PORTFOLIO

Don't put all your earnings in a single

stock. Try to have a diverse portfolio of

stocks. This way even if one stock

doesn't do well, you are still well pro-

tected. Also invest across sectors, since

How can i minimise riskand maximise returns?

36


in the Share Market

4. How can I minimise risks and maximise returns? 3837


in the Share Market

5. How can I benefit from online trading?

IN THIS CHAPTER:v Using your computer to trade v Trading online is convenient v Benefits of trading on sharekhan.com

online trading?How can I benefit from

and then do the evaluation. Thus ifan investment in a company isexpected to provide 50% returnswith almost a 75% probability, thiswould be much better than a safeinvestment with returns of just10%.

Again even within stocks if onestock provides higher returns with ahigher risk and another provideslower returns with a lower risk,then you could go for the stock withlower returns, since at the end of theday you want to be withan investment that has thehighest return per unit ofrisk.

Risk associated with investing in shares can be classified intocompany specific risk and market risk. You can reduce therisk by investing systematically in fundamentally strong com-panies.

SKIMP ON RESEARCHOne of themain reasonswhy peoplelose money inthe stock mar-ket is becausethey invest onthe basis of rumours or a hot tippassed by a friend. Before invest-ing in a company always doresearch on it.

The BSE and NSE websites havea wealth of information on each

company; you can even check out the com-pany's website and download its annual

reports. Analyse the financialdetails and only after all this

decide on making aninvestment in the

company.


PART IV

4039


in the Share Market


shares you sold in your account.You can transfer this amount backto your bank or use it for buyingshares.

How do I start trading online?There are three basic steps in trad-ing online.1. Go to your broker and open anonline account. During this stageyou also need to take a depositoryaccount.2. Ensure that you have a bankaccount with a bank that facilitatesonline transactions (ie allows fornet banking). Most leading bankssuch as HDFC Bank and Citibankallow this.3. Once you open an account, youget a username and password forchecking your account details aswell as another password for carry-ing out your actual transactions.This ensures a double layer of secu-rity. Using these details you go toyour broker's website(sharekhan.com in your case), logon to your account and start trad-ing.

What are the benefits of tradingonline?Online trading is quite convenientfor the following reasons.1. Freedom from paperwork Your online trading account is inte-

grated with your bank, your depos-itory and digital contracts. It thuseliminates all paperwork.

2. Instant credit and transfer Online trading gives you instantcredit money transfer to and fromyour bank account, enabling you totrade surplus credit without delay.

3. Trade from anywhere A major benefit of online trading isthe facility of trading from any-where. Even when you are in a newplace, just connect to the Internet,log on to your account onsharekhan.com and start trading.

4. Real-time portfolio trackingOnline trading provides auto-update of trades executed by youand gives you real-time informationon your investments and the currentvalue of your portfolio. Sharekhanprovides portfolio tracking serviceto its clients absolutely free of cost.

5. After-hour ordersYou can place orders even when themarket is closed. The order getsqueued up and gets executed thenext time the markets open.

6. Get live quotes Online trading provides you live,minute-by-minute streaming quotes


WHY SHOULD I TRADE ONLINE?

How does one trade online?Just like offline trading, online trad-ing also involves three main inter-mediaries and one ancillary institu-tion. n A broker, n An exchange,n Yyour bankers, andn Your depository participant.

In this form of trading, your bro-ker provides you an Internetbroking account which allows youto buy and sell shares at your con-venience. To put it simply, the bro-ker is providing an interface on thecomputer that acts like a broker.

So you no longer have to call

your broker to place a trade. Just goonline to your account, select theshares you want to buy or sell andexecute the trade! It's as simple asthat.

During this trade, your bankersprovide the feature of transferringmoney from or to your bankaccount. The brokers then collectthis trade information in real timeusing software at their end and for-ward it to the exchange.

The exchange executes the tradeand informs the broker. The brokerin turn informs you and alsoensures that your depositoryaccount gets updated; and in case ofselling shares it places the value of

Why should I trade online?Online trading is a highly convenient and transparentmedium that ensures that you are in total control ofyour investments.

Does online trading have security risks?Millions of customers trade online daily. No security riskhas been reported on any of those online transactions.

Do I have to be computer savvy?If you can check your e-mail, then you can trade online.Online trading on sharekhan.com is also very user-friendly.

Is the brokerage different for those who trade online?The brokerage is almost the same as in case of offline trading. However you arerequired to pay a small amount as account opening fee. But you will realise that thesavings in time and the flexibility that your online trading account shall offer willmake up for that expense!

41


in the Share Market


and using the software you can cre-ate appropriate filters to watch themovement of the stocks that you areinterested in.

7. Host of features a click awayPlace limit orders, check your port-

folio and calculate your earnings,check your depository account,transfer money from your bank tothe broking account and vice versa,at just a click of your mouse.

“VERY!” Because we have an effective security system in place:

1. Strong encryption: we use a 128-bit encryption to ensurea secure connection. The most advanced encryption technol-ogy, Secure Socket Layer (SSL), is used to ensure that theinformation transmitted between the trading engine and thecustomer across the Internet is safe and cannot be accessedby any outsider. In addition firewalls, internal controls andprocedures put in place have made the entire system robust.

2.Password protection: to trade on your account, you willneed to provide a user ID and a password to enter the securearea of the site (sharekhan.com) as well as an additional password to place trades. Theuser ID and password allotted to a customer are kept completely confidential.

3.Fully integrated: third, if the transaction system requires no manual intervention,you further improve the safety in the transactions. sharekhan.com is one of the veryfew fully integrated online trading sites. This eliminates the possibility of any manualintervention. Which means orders are directly sent to the exchanges, ensuring thatyou get the best and right price each time.

HOW SAFE IS ONLINE TRADING ON SHAREKHAN.COM?

The advantages of trading in shares online are many. You canbuy or sell shares from the convenience of your home/office.Online trading also removes the hassle of doing paperwork.You can even place orders when the market is closed.

4443


in the Share Market

5. How can I benefit from online trading?5. How can I benefit from online trading?

Check your demat accountand account statement

Buy and sell shares online. Youcan place market as well aslimit orders and get instantconfirmation for orders thatget executed.

Check the balance of sharesavailable in your demat account.You can also track the status of

the orders placed online.

Transfer money to yourSharekhan account. When youbuy/sell shares, money will bedebited/ credited to yourSharekhan account. You canalso transfer money fromSharekhan account back toyour online bank account.

3

4

5

Buy and sell shares

Transfer money to/from your online bank account

Get live quotes of companies, know the number of shares avail-able for buying/selling and track theoverall market movements.

Access research reports (SharekhanValueLine) and get stock-picking

advice for both short-term and long-term investing needs.

1

2

Get research based advice

6 benefits of trading on sharekhan.com

Track the market’s pulse

Now you don’t have to filllengthy forms or stand in aqueue to apply for an IPO.Instead you can apply for anIPO from the comfort of yourhome or office throughsharekhan.com.

6Apply for an IPO

4645


in the Share Market

Trade Jargon

ARBITRAGE: free lunch—the opportu-

nity to profit from two offsetting trans-

actions with zero risk. Arbitrage

basically involves spotting price differ-

entials for the same asset at different

places at a given time and simultane-

ously buying at a place where it is

cheaper and selling where it is more

expensive. A transaction of this nature

obviously means that the profits are

made with zero risk.

ASK: this is the lowest price an investor

will accept to sell a stock. Practically

speaking, this is the quoted price at

which an investor can buy shares; also

called the offer price.

AUCTION SHARES: the securities put

up for auction by the exchanges are of

those transactions that remain incom-

plete due to non-delivery of securities by

sellers. This is to ensure that a buyer

receives the securities due to him. The

non-delivery can arise on account of

short delivery, bad deliveries and com-

pany objections that go unrectified. In

the process an exchanges purchases the

requisite quantity in the auction market

and gives them to the buyer and the

costs are borne by the seller. If the shares

could not be bought in the auction, ie

shares are not offered for sale in the auc-

tion, the transactions are squared up as

per Sebi guidelines.

BID: this is the highest price an investor

is willing to pay to buy a stock.

BLUE-CHIPS: the term blue-chips refers

to stocks of renowned companies with

established and stable businesses. Such

companies have a steady earnings

stream and are preferred by market

players because of the predictability and

stability of their earnings.

BOND: simply put, a bond is an IOU of

BEAR: an investor who believes that a secu-

rity, a sector or the overall market is about to

fall (opposite of bull). A bear has a pessimistic

view of the market. A weak and declining

market is known as a bear market. When

bears are active, stock prices tend to decline.

BULL: an investor who believes that a partic-

ular security, a sector or the overall market is

about to rise (opposite of bear). A bull has an

optimistic view of the market. A strong and

rising market is known as a bull market. When bulls swing into action, the prices

tend to rise.

Trade Jargon

A brief introduction to some terms you are likely toencounter as you start investing...

TradeJargon

4847


in the Share Market

Trade Jargon

kets and have now their feet established

in the Indian markets too.

CAPEX: capital expenditure—this is the

expenditure that a company undertakes

towards building up capital like plants,

machinery etc. These expenses do not

pertain to a single year as the benefits

accrue over a larger time frame. Thus

these are normally not charged to the

profit and loss account of a single year

but amortised over a period of time.

CAPITAL GAIN: the returns from a

stock emanate from two sources: divi-

dend (a tax-free and risk-free source)

and appreciation in the share price. The

gain that accrues to a shareholder due to

the appreciation in price is called capital

gain.

CASH EPS: cash earnings per share—

cash earnings are the sum of net profit

and depreciation. Depreciation is non-

cash expenditure. It is just a book entry,

an amount set aside to account for the

use of assets. In order to compute the

cash profits (Cash EPS) accruable to

each share, we add back depreciation to

the net profit.

CIRCUIT BREAKER: there are limits

within which a stock can move during a

single day. These are called circuit

breakers, which are mechanisms to curb

excessive volatility. At present a stock

cannot move more than 16% in either

direction during one single trading ses-

sion. If there are more buyers beyond

+16%, then trading stops. This applies

in the reverse direction as well.

CONTRACT: contract is an agreement

between two parties to buy and sell an

index at a fixed time in future at a price

fixed today. Contract value is derived by

multiplying the Sensex with 50 and the

Nifty by 200.

BREAK EVEN: this is the point of no profit, no loss. This happens when the

present net value of a project is zero. The break-even point reveals the mini-

mum level of operations when

the existing value of outflows

equals the existing value of

inflows. In terms of sales, the

present value formula works

out to be: break-even sales =

(fixed cost) / (sales - variable

cost). The analysis of the level

of sales at which a project

would just break even is

called break-even analysis.

Trade Jargon

sorts. It is an agreement under which a

sum is repaid to an investor after an

agreed period of time. Bonds are

thought of as safe and reliable instru-

ments. Bonds provide a worry-free

stream of income. But this class of secu-

rities includes a wide array of instru-

ments with varying degrees of risk and

reward.

BONUS ISSUE: issue of new shares at

zero cost to existing shareholders. This

is carried out by creating fresh equity by

capitalising the reserves that a company

has built through its operations.

BOOK VALUE: ratio of net worth of a

company to the outstanding equity

share capital. It represents the net worth

available for each outstanding share of

a company. Book value stands for the

money that the owner of a single share

would realise. In other words, the book

value of a company is very similar to the

net asset value (NAV) of a fund.

However the book value can at times be

a very conservative estimate of the value

that a shareholder can realise, as assets

are valued at cost.

BOOK BUILDING PROCESS: a

process by which the offer price of an

IPO is determined based on actual

demand from investors. Book building is

called so because it refers to the collec-

tion of bids from investors which is

based on an indicative price range (floor

price). The issue price is fixed after the

bid closing date. It is a process of secur-

ing the optimum price for a company's

share. The issuing company decides the

price of the security by asking investors

how many shares they want to buy and

at what price they would be interested in

buying them. The book building process

allows for price and demand discovery.

In book building the demand for the

share is known before the issue closes. A

placement process is typically followed

with an offer to the public at large at the

same price.

BSE SENSEX: the BSE SENSEX, as it is

popularly referred to, is short for the

BSE Sensitive Index or Sensex. First

compiled in 1986 it is a Market

Capitalisation-Weighted index of 30

component stocks with the base April

1979 = 100. It represents a sample of

large, well established and financially

sound companies. These companies

account for around one-fifth of the mar-

ket capitalisation of the BSE. The

Sensex is essentially a small sub-set of

the A group scrips. The index is widely

reported in both the domestic and inter-

national print and electronic media and

is widely used to measure the perform-

ance of the Indian stock markets. The

Sensex also has the largest social recall

attached with it.

BUY-BACK: a method by which a com-

pany uses surplus cash to cancel its own

shares. This process also enables pro-

moters to increase their stake in the

company. This is typically done when

the company feels that the stock is under

priced and the prospects are bright. Buy-

backs are much in vogue in global mar-

5049


in the Share Market

Trade Jargon

DEPOSITORY PARTICIPANT (DP): a DP

is a member of a depository through

whom investors deal with a depository

exchange.

EARNING PER SHARE: earnings per

share—it is the ratio of net profit to the

outstanding equity capital. EPS stands

for the net profit on each outstanding

share. This is very useful while deter-

mining the value of a company’s busi-

ness. This is because the shareholders

pay a price for these earnings that the

business generates for the shareholders.

EQUITY DILUTION: whenever the

equity capital of a company is increased

by way of a rights/preferential issue, the

equity is diluted. Following an equity

dilution, there is more paper floating in

the market. Whether it is good or bad

depends on the issue price and the future

servicing capacity of that equity.

ESCROW: an account in which money

is placed in trust with a third party and

that can be used only for specific pur-

poses or used by a specific entity after

the fulfillment of certain conditions.

EX DIVIDEND: a stock is ex dividend

when it is quoting after the announce-

ment of dividends. An ex-dividend stock

does not allow its purchaser/transferor

the right to receive the last dividend

declared. The ex-dividend date is set by

the stock exchanges.

FACE VALUE: this is the nominal value

that is assigned to a share at the time of

issue. It is used in determining the divi-

dend to be given to the shareholders.

Let’s understand this with an example.

A company declares a dividend of 50%.

Assuming that the face value of its share

is Rs10 and the current market price of

its share is Rs100, the amount per share

that a shareholder is entitled to is Rs5,

ie 50% of Rs10 (and not 50% of

Rs100). Apart from its use in determin-

ing dividend, face value has lost its rele-

vance in the modern day and has no link

with the market price.

In today’s context, even Rs10/share is

not sacrosanct as the shares are split and

they can have face values of less than

Rs10.

FUTURES: a futures contract is a legally

binding contract to make or take deliv-

ery of a specified quantity of a specified

instrument on a specific date in the

future, at a price agreed at the time of

dealing. When two parties enter into a

futures contract, the buyer of the con-

tract assumes the obligation to buy a

specified quantity of a specified instru-

ment from the seller at a specified price

on a future date. The contract is binding

on both the parties.

GAAP: Generally Accepted Account-

ing Principles (GAAP) is a combination

of authoritative standards set by stan-

dard-setting bodies as well as accepted

ways of doing accounting.

HEDGING: taking positions in securi-

ties so that each offsets the other. For

example, if you buy security A and sell

Trade Jargon

CREDIT RATING: credit rating is an

exercise conducted by a rating organisa-

tion to explore the credit worthiness of

the issuer with respect to the instrument

being issued or a general ability to pay

back debt over specified periods of time.

The rating is given as an alphanumeric

code that represents a graded structure

or creditworthiness. Typically the high-

est credit rating is that of AAA, the low-

est being D (for default).

CUM DIVIDEND: you must have

heard of stocks quoting cum dividend. It

means before dividends. A stock trading

cum-dividend allows its

purchaser/transferor the right to receive

dividend. The cum-dividend date is set

by the stock exchanges.

DEBENTURE: akin to promissory

notes, debentures are instruments for

raising long-term debt capital.

Debenture holders are the creditors of

the company. The obligation of the

company towards its debenture holders

is similar to that of a borrower who

promises to pay interest and capital at

specified times.

DEMAND PULL: the use of advertising

to generate consumer interest and

demand.

DEMAT: demat or dematerialisation is

the conversion of physical share certifi-

cates into an electronic format. The

shares are credited in the investor's

account with his depository participant.

Demat protects the shareholder from all

the risks associated with physical certifi-

cates, such as loss, theft, mutilation and

forgery as well as the risk that arises

from handling large volumes of paper.

Shares can be immediately transferred

from one person to another. Demat

eliminates the need to fill transfer deeds

and affix share transfer stamps.

DEPOSITORY: a depository is like a

bank as it holds the securities of

investors in electronic form. A deposi-

tory holds securities (like shares, deben-

tures, bonds and units) of investors in

electronic form. Investors can deposit/with-

draw and transfer securities from their

accounts. Besides holding securities, a deposi-

tory also provides services related to transac-

tions in securities.

DIVIDEND YIELD: annual dividendpaid on a share of a company divided by

the current share price of the company.Dividend yield stocks are for safe

investors, who look at pure returns froma stock and not capital appreciation.

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time. Hence the acquisition price does

not reflect the true worth of these assets.

It is prudent to take the current value of

the investments.

MARKET CAPITALISATION: market

capitalisation is the market value of the

equity of a company. Simply put, it is the

number of outstanding shares multiplied

by the market price of the company. It

is also the currency which can be used in

case of acquisitions.

MARKET MAKER: a member of an

exchange who quotes simultaneous bid and

offer prices for an issue of securities. Usually

market makers undertake to offer quotes in

certain securities, thereby creating liquidity in

the security.

MARKET ORDER: this is an order to

buy or sell a stock at the market price.

MARKET VALUE: the market value

refers to the current resale value of a

security. The market value of a security

is easily computed as the closing price

multiplied by the shares outstanding.

NET WORTH: shareholders’ funds

comprise equity share capital and the

reserves/surpluses of their company. Net

worth is the funds that shareholders

own—their equity in other words. It

represents the capital infused by share-

holders and the accumulated net profits

after paying out dividends (retained

earnings). Hence in the event the busi-

ness is wound up, the net worth is what

the shareholders get.

OFFER FOR SALE: when an existing

shareholder of a company offers shares to

the general public through a prospectus.

ORDER ROUTING SYSTEM: in an

order routing system a broker offering

Internet trading facility provides an elec-

tronic template (space) for the customer

to enter the name of the security being

bought or sold, the quantity and the price

specifications. Once the broker’s system

receives this information, it is checked

electronically against the customer’s

account and is routed to the appropriate

exchange for execution by the broker.

After the order is executed, the customer

receives a message confirming the order.

The customer’s portfolio and ledger

account will also be updated online.

PRICE/EARNINGS RATIO: this oft-

tracked ratio is the ratio of the price per

share to the earnings per share. This

indicates the number of years that will

be required to recover the amount paid

for the shares of a company when the

latter’s earnings are constant over a

period of time. This is a widely used

benchmark for stocks and associates a

fundamental variable (earnings) with a

market variable (price).

RECORD DATE: a date set by a com-

pany on which it checks the records of

its shareholders to allocate their entitle-

ments (of rights, dividend etc).

RIGHTS ISSUE: issue of additional

equity to existing shareholders of a com-

pany. The existing shareholders have the

Trade Jargon

security B so that the overall risk of your

exposure is reduced, then it is called

hedging. A perfect hedge produces a

risk-free portfolio.

HOLDING COMPANY: when a

company holds shares in another com-

pany, the former is refereed to as the

holding company for the latter.

INSIDER TRADING: trading on infor-

mation which is not really available to

the general public.

LIABILITY: a financial obligation that

(is pending) must be made at a specific

time. Equity and debt are both liabilities

that a company owes to the respective

investors.

LIMIT ORDER: this is an order to buy

or sell a stock at a pre-determined price

only. The order will get executed only if

the market price reaches the price-point

at which you are willing to buy/sell a

stock.

LIQUIDITY: the ability of a security

to get converted into cash without

any loss of time or value is called its liq-

uidity. In the stock market, a good indi-

cator of the liquidity of a stock is the

volume of shares that get traded in the

exchanges.

MARGIN REQUIREMENTS: margin

is the amount of money, or collateral,

that a member will be required to lodge

with the clearing corporation as a per-

centage of his total value of trades.

Margins strengthen the risk manage-

ment system as they help in maintaining

the market integrity and averting pay-

ment defaults by the members.

MARK TO MARKET: the value of

investments (especially secondary mar-

ket securities) undergoes a change over

INTERNET BROKING: Internet based trading

on conventional stock exchanges uses the Internet

as a medium for communicating client orders to

the exchanges through broker websites. These

sites may serve a variety of functions from allow-

ing full trading through the website to features

like on-line stock quotes, information and analy-

sis etc. Sebi has allowed Internet trading in India,

albeit in a limited form.

The Sebi Committee on Internet-based

Securities Trading and Services has allowed the

Internet to be used as an order routing system

through registered stockbrokers on behalf of clients, for trading in the securi-

ties market.

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This booklet has been prepared by SSKI Investor Services Pvt. Ltd. (SHAREKHAN). It is subject

to changes without prior notice and is intended only for the person or entity to which it is addressed to and may con-

tain confidential and/or privileged material and is not for any type of circulation. Any review, retransmission, or any other

use is prohibited. Kindly note that this document does not constitute an offer or solicitation for the purchase or sale of

any financial instrument or as an official confirmation of any transaction.

Though disseminated to all the customers simultaneously, not all customers may receive this report at the same

time. SHAREKHAN will not treat recipients as customers by virtue of their receiving this report.

The information contained herein is from publicly available data or other sources believed to be reliable. While we

would endeavour to update the information herein on reasonable basis, SHAREKHAN, its subsidiaries and associated

companies, their directors and employees (“SHAREKHAN and affiliates”) are under no obligation to update or keep the

information current. Also, there may be regulatory, compliance, or other reasons that may prevent SHAREKHAN and affil-

iates from doing so. We do not represent that information contained herein is accurate or complete and it should not be

relied upon as such. This document is prepared for assistance only and is not intended to be and must not alone betaken

as the basis for an investment decision. The user assumes the entire risk of any use made of this information. Each

recipient of this booklet should make such investigations as it deems necessary to arrive at an independent evaluation

of an investment in the securities of companies referred to in this document (including the merits and risks involved),

and should consult its own advisors to determine the merits and risks of such an investment. The investment discussed

or views expressed may not be suitable for all investors. We do not undertake to advise you as to any change of our

views. Affiliates of Sharekhan may have issued other reports that are inconsistent with and reach different conclusion

from the information presented in this report.

This report is not directed or intended for distribution to, or use by, any person or entity who is a citizen or resi-

dent of or located in any locality, state, country or other jurisdiction, where such distribution, publication, availability or

use would be contrary to law, regulation or which would subject SHAREKHAN and affiliates to any registration or licens-

ing requirement within such jurisdiction. The securities described herein may or may not be eligible for sale in all juris-

dictions or to certain category of investors. Persons in whose possession this document may come are required to

inform themselves of and to observe such restriction.

SHAREKHAN & affiliates may have used the information set forth herein before publication and may have positions

in, may from time to time purchase or sell or may be materially interested in any of the securities mentioned or related

securities. SHAREKHAN may from time to time solicit from, or perform investment banking, or other services for, any

company mentioned herein. Without limiting any of the foregoing, in no event shall SHAREKHAN, any of its affiliates or

any third party involved in, or related to, computing or compiling the information have any liability for any damages of

any kind. Any comments or statements made herein are those of the analyst and do not necessarily reflect those of

SHAREKHAN.

DISCLAIMER

Trade Jargon

right to exercise this option to subscribe

to these shares.

RISK PREFERENCE: each individual

has a personal tolerance for risk. To set

an investment course that you will be

comfortable with, you need to think

about your willingness to accept

declines in the value of your investments

and you will need to consider your

investment goals.

SETTLEMENT: the mechanism

through which all parties to a transac-

tion get their receivables, ie either funds

or shares, is known as clearing and set-

tlement or simply settlement.

SHARE SWAP: an arrangement by

which shares of one company are

swapped for another in a specified ratio.

SHAREHOLDER VALUE: an ethos of

managing that calls for a business to be

run with the objective of maximisation

of the wealth of the shareholders.

SHORT POSITION: it occurs when a

person sells stocks he does not yet own.

Eventually the shares must be bought

back to close out the transaction. This

technique is used when an investor

believes the stock price will drop.

SHORT SALE: it suggests selling a

stock that is not actually owned. If an

investor thinks the price of a stock is

going down, the investor could borrow

the stock from a broker and sell it.

Eventually the investor must buy the

stock back in the open market.

SPECULATION: it suggests taking

large risks, especially with respect to try-

ing to predict the future or gambling, in

the hope of making quick, large gains.

STOCK OPTION: an option given to a

person to buy a stock at a predetermined

price on a future date.

TREND: trend is a basic direction in

which the prices are moving. Trends are

of three types, namely Uptrend,

Downtrend, Sideways trend.

VOLATILITY: the sharp movement, up

or down, in the price of a security, or in

the overall prices prevailing in the

market.

NET PROFIT: net profit sports various names,

including bottom line and profit after tax. In sim-

ple terms net profit stands for the money that a

business makes after paying off all its costs, both

operational and capital, and tax. In other words, it

belongs to the shareholders. It can be either given

to the shareholders as dividend or retained to

further the business.

SSKI Investor Services Pvt. Ltd. (Sharekhan)

A-206, Phoenix House, Phoenix Mills Compound, Senapati Bapat Marg, Lower Parel, Mumbai 400013.

Tel: 022-2498 2000

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