Things to remember when investing in stock market

Things to remember when investing in stock market
by Nutan Gupta 17/07/2017
New Page 1

When you think about climbing a mountain, you start with a lot of enthusiasm. However, when you realise the amount of effort that goes into it, your enthusiasm often turns into the feeling of being flabbergasted. The matter worsens when you realise that the weather conditions are about to get unfavourable for mountaineering. This is the same lifecycle of someone trying to invest. They start with a lot of enthusiasm, but when they realise that investing involves a lot of efforts, the market situation becomes unfavourable and investing requires a substantial amount of time to give considerable gains, they get overwhelmed.

Let’s revisit a few basics to remember when investing in stock market

Do not overlook the fundamentals
If you do not know the fundamentals of mountaineering, it is advisable that you know them before even thinking of setting foot on a mountain. This is true even for investing. Before investing, one needs to ensure that they have done their homework. You have to know all the basics terms and jargons of the market. Also, it is advisable that you gather information about the company you are investing in beforehand.

Set long term goals
Try to not have a prejudiced vision. Keep your eyes on the ultimate peak that you want to capture. You need to give time to reach the peak. Investing in the stock market also demands time to get you substantial gains. Occasionally, the markets could be highly volatile and your returns could be shunted as a result. Long-term investments have the prowess to unleash the true potential of interest compounding.

Understand your risk tolerance
You need to know when to back down and save yourself to give another chance at climbing the peak. You need to understand your risk tolerance. This is same when investing as well. Your risk tolerance is more psychological. However, sometimes following your heart can prove beneficial. Also, when investing, you need to limit yourself. If you don’t, there won’t be any difference between investing and gambling. If you start losing, you need to realise that you’ve reached your limits.

Buying and forgetting
Say, you’re in a situation and you are starving halfway up the peak. In these situations, you think about a power bar that could be of certain help. That’s when you remember that you did get a power bar. This was a situation of life and death. However, in the case of investing, this could be a dead investment waiting to be resurrected and resuscitated. It is advisable that you do not forget about your investments and regularly keep track of them. Ensure that you unburden the scrip at the right moment.

Not willing to book losses
It is great to be optimistic, but it pays to be realistic. When you are climbing a mountain, you need to understand if the weather conditions worsen, you need to start moving down. You cannot hope to climb and conquer the peak against all odds. That would be wonderful but highly risky. The same is the case with investing in stock market. You need to understand that if a stock is on the decline, you must not wait for too long. You should try to unburden the portfolio or re-think your strategies.

Try to not enter at peak and exit at loss
You do not start from the top and reach the bottom and get the glory. There is no glory in it. Similarly, if you enter a stock when it’s at its peak and exit when it’s losing, you suffer losses and not gains.

Ensure that you NOT follow the tips to the T
All the training that you’ve had helps you when you are trying to conquer a peak. However, your basic instincts up there ought to be your best friend. When investing as well, expert advice is good to listen to, but it must not always be followed. Take everyone’s suggestions but follow what you feel is right. Follow your experience and your training, and follow the advice only if you feel that it’s the correct option for you. Occasionally, the expert could also have an ulterior motive that you might be unaware of.

Unsupervised trading
When you get equipment for your mountain trip, you do not just blindly trust the vendor. You double verify the equipment. Similarly, you don’t put all your finances in the hands of your broker. You do not let your broker trade on your behalf. It is advisable that you keep a track of all the trading that your broker does and ensure that he follows you and not the other way round.

Do not put all your eggs in one basket
Up there, you do not want to be found without a spare bottle of oxygen. Thus, you strategically place them to ensure that they be of help when needed. When you are investing, you do not want to invest in just one sector or portfolio. You would want to diversify your investments. This will ensure that market volatility and other factors like inflation do not give you stunted returns.

Avoid Leveraged money
You do not climb mountains with borrowed money and neither should you invest in stock market. If things do not go the way you planned, there is a chance that you might fall into a debt trap. You must always invest using the money that you have to spare. This way you can ensure that the lifestyle that you’re habituated to doesn’t get disrupted if you suffer a loss.

To sum it up

Investing in stock market is subject to market risk. Read this document and many others before investing. However, do not be afraid when investing. Just follow the adage, prevention is better than cure and you will be able to conquer the peaks that only a handful have conquered before you.

Next Article

5 Stocks Recommendation For Feb 25th, 2019 – Mar 1st , 2019

Stock recommendations
by Gautam Upadhaya 21/07/2017

1) Balkrishna Industries Ltd - Buy

 

Stock Balkrishna Industries Ltd
Recommendation The stock has witnessed a breakout from its sideways consolidation
backed by an uptick in volumes on the daily chart. It has also shown
positive momentum on the daily MACD-Histogram, an indication that
the uptrend will continue in the short term.
Buy/Sell Range Target Stop Loss
Buy (Cash) Rs850-855 Rs892 Rs827
NSE Code Market Cap (in Rs cr) 52-week high/low 200-Day EMA
BALKRISIND 16543 Rs1467/741 Rs987

 

2) REC Ltd - Buy

 

Stock REC Ltd
Recommendation The stock has witnessed a consolidation breakout backed by an uptick
in volumes on the weekly chart. Derivative data indicates fresh long
positions in the stock.
Buy/Sell Range Target Stop Loss
Buy (Cash) Rs131-133 Rs139 Rs127.8
NSE Code Market Cap (in Rs cr) 52-week high/low 200-Day EMA
RECLTD 26068 Rs148/89 Rs119

 

3) Mahindra & Mahindra Ltd - Buy

 

Stock Mahindra & Mahindra Ltd
Recommendation The stock has witnessed a rounding bottom formation and has managed
to close above its 10-DEMA, short-term resistance level on the daily charts.
It has also formed a bullish hammer candlestick on the weekly charts.
Buy/Sell Range Target Stop Loss
Buy (Cash) Rs641-647 Rs672 Rs625
NSE Code Market Cap (in Rs cr) 52-week high/low 200-Day EMA
M&M 80272 Rs992/615 Rs771

 

4) Raymond Ltd - Buy
 

Stock Raymond Ltd
Recommendation The stock has witnessed a breakout above its resistance levels backed by an uptick in volumes on the daily charts. It has also shown strong momentum on the daily MACD-Histogram.
Buy/Sell Range Target Stop Loss
Buy (Cash) Rs721-728 Rs755 Rs705
NSE Code Market Cap (in Rs cr) 52-week high/low 200-Day EMA
RAYMOND 4478 Rs1151/593 Rs806

 

5) HDFC Bank Ltd - Sell

 

Stock HDFC Bank Ltd
Recommendation The stock has formed a bearish engulfing candlestick pattern backed by an uptick in volumes on the daily chart. Derivative data indicates fresh short positions in the stock.
Buy/Sell Range Target Stop Loss
Sell (March Futures) Rs2105-2120 Rs2030 Rs2164
NSE Code Market Cap (in Rs cr) 52-week high/low 200-Day EMA
HDFCBANK 569029 Rs2219/1830 Rs2041

 

Research Disclaimer

Next Article

Short Put Options Trading Strategy

Short Put Options Trading Strategy
by Nilesh Jain 02/08/2017

What is short put option strategy?

A short put is the opposite of buy put option. With this option trading strategy, you are obliged to buy the underlying security at a fixed price in the future. This option trading strategy has a low profit potential if the stock trades above the strike price and exposed to high risk if stock goes down. It is also helpful when you expect implied volatility to fall, that will decrease the price of the option you sold.

When to initiate a short put?

A short put is best used when you expect the underlying asset to rise moderately. It would still benefit if the underlying asset remains at the same level, because the time decay factor will always be in your favour as the time value of put will reduce over a period of time as you reach near to expiry. This is a good option trading strategy to use because it gives you upfront credit, which will help to somewhat offset the margin.

Strategy Short Put Option
Market Outlook Bullish or Neutral
Breakeven at expiry Strike price - Premium received
Risk Unlimited
Reward Limited to premium received
Margin required Yes

Let’s try to understand with an Example:

Current Nifty Price 8300
Strike price 8200
Premium received (per share) 80
BEP (strike Price - Premium paid) 8120
Lot size 75

Suppose Nifty is trading at Rs. 8300. A put option contract with a strike price of 8200 is trading at Rs. 80. If you expect that the price of Nifty will surge in the coming weeks, so you will sell 8200 strike and receive upfront profit of Rs. 6,000 (75*80). This transaction will result in net credit because you will receive the money in your broking account for writing the put option. This will be the maximum amount that you will gain if the option expires worthless. If the market moves against you, then you should have a stop loss based on your risk appetite to avoid unlimited loss.

So, as expected, if Nifty Increases to 8400 or higher by expiration, the options will be out of the money at expiration and therefore expire worthless. You will not have any further liability and amount of Rs. 6000 (75*80) will be your maximum profit. If Nifty goes against your expectation and falls to 7800 then the loss would be amount to Rs. 24000 (75*320). Following is the payoff schedule assuming different scenarios of expiry. For the ease of understanding, we did not take into account commission charges and Margin.

Short Put Options Trading Strategy

Analysis of Short Put Option Trading Strategy

A short put options trading strategy can help in generating regular income in a rising or sideways market but it does carry significant risk and it is not suitable for beginner traders. It’s also not a good strategy to use if you expect underlying assets to rise quickly in a short period of time; instead one should try long call trade strategy.

 

Next Article

Bear Call Option Trading Strategy

Bear Call Option Trading Strategy
by Nilesh Jain 05/08/2017

What is a Bear Call Spread Option strategy?

A Bear Call Spread is a bearish option strategy. It is also called as a Credit Call Spread because it creates net upfront credit at the time of initiation. It involves two call options with different strike prices but same expiration date. A bear call spread is initiated with anticipation of decline in the underlying assets, similar to bear put spread.

When to initiate a Bear Call Spread Option strategy?

A Bear Call Spread Option strategy is used when the option trader expects that the underlying assets will fall moderately or hold steady in the near term. It consists of two call options – short and buy call. Short call’s main purpose is to generate income, whereas higher buy call is bought to limit the upside risk.

How to construct the Bear Call Spread?

Bear Call Spread can be implemented by selling ATM call option and simultaneously buying OTM call option of the same underlying assets with same expiry. Strike price can be customized as per the convenience of the trader.

Probability of making money

A Bear Call Spread has a higher probability of making money. The probability of making money is 67% because Bear Call Spread will be profitable even if the underlying assets holds steady or falls. While, Bear Put Spread has probability of only 33% because it will be profitable only when the underlying assets fall.

Strategy

Sell 1 ATM call and Buy 1 OTM call

Market Outlook

Neutral to Bearish

Motive

Earn income with limited risk

Breakeven at expiry

Strike Price of short Call + Net Premium received

Risk

Difference between two strikes - premium received

Reward

Limited to premium received

Margin required

Yes

Let’s try to understand with an example:

Nifty Current spot price (Rs)

9300

Sell 1 ATM call of strike price (Rs)

9300

Premium received (Rs)

105

Buy 1 OTM call of strike price (Rs)

9400

Premium paid (Rs)

55

Break Even point (BEP)

9350

Lot Size

75

Net Premium Received (Rs)

50

Suppose Nifty is trading at Rs 9300. If Mr. A believes that price will fall below 9300 or holds steady on or before the expiry, so he enters Bear Call Spread by selling 9300 call strike price at Rs 105 and simultaneously buying 9400 call strike price at Rs 55. The net premium received to initiate this trade is Rs 50. Maximum profit from the above example would be Rs 3750 (50*75). It would only occur when the underlying assets expires at or below 9300. In this case both long and short call options expire worthless and you can keep the net upfront credit received. Maximum loss would also be limited if it breaches breakeven point on upside. However, loss would also be limited up to Rs 3750(50*75).

For the ease of understanding, we did not take in to account commission charges. Following is the payoff chart and payoff schedule assuming different scenarios of expiry.

The Payoff Schedule:

On Expiry Nifty closes at

Net Payoff from Call Sold 9300 (Rs)

Net Payoff from Call Bought 9400 (Rs)

Net Payoff (Rs)

8900

105

-55

50

9000

105

-55

50

9100

105

-55

50

9200

105

-55

50

9300

105

-55

50

9350

55

-55

0

9400

5

-55

-50

9500

-95

45

-50

9600

-195

145

-50

9700

-295

245

-50

9800

-395

345

-50

Bear Call Spread’s Payoff Chart:

Impact of Options Greeks:

Delta: The net Delta of Bear Call Spread would be negative, which indicates any upside movement would result in to loss. The ATM strike sold has higher Delta as compared to OTM strike bought.

Vega: Bear Call Spread has a negative Vega. Therefore, one should initiate this strategy when the volatility is high and is expected to fall.

Theta: The net Theta of Bear Call Spread will be positive. Time decay will benefit this strategy.

Gamma: This strategy will have a short Gamma position, so any upside movement in the underline asset will have a negative impact on the strategy.

How to manage Risk?

A Bear Call is exposed to limited risk; hence carrying overnight position is advisable.

Analysis of Bear Call Options strategy:

A Bear Call Spread strategy is limited-risk, limited-reward strategy. This strategy is best to use when an investor has neutral to bearish view on the underlying assets. The key benefit of this strategy is the probability of making money is higher.

 

Next Article

IPO Note - HUDCO

IPO Note - HUDCO
IPO
by Nutan Gupta 05/08/2017

Issue Opens - May 8, 2017

Issue Closes - May 11, 2017

Price Band - Rs. 56-60

Face Value - Rs. 10

Issue Type - 100% book building

% Shareholding

Pre IPO

Post IPO

Promoter

100.0

89.8

Public

0.0

10.2

Source: DRHP

HUDCO is a wholly-owned government entity with more than 4 decades of experience in providing loans for housing and urban infrastructure in India. It has an outstanding loan portfolio of Rs.36,386 cr (as on 9MFY17), which can be divided into– Housing Finance (30.86%) and Urban Infrastructure Finance (69.14%).

The offer consists of Offer for sale (OFS) of up to 204.1 mn equity shares for disinvestment by the government and employee reservation is up to 3.9 mn shares. There is a discount of Rs. 2 per share for eligible employees and retail investors.

Key Investment Rationale

HUDCO currently focuses on the low income group or the economically weaker sections for housing finance and social housing. The company’s housing finance loan book has grown at a CAGR of 21.9% over FY14-16. This segment has better NIMs and lower gross NPAs @ 3.08% (8.46% for urban infrastructure). There is an increasing demand for housing loans from Tier II/III cities. Deployment of funds towards housing loans by banks and HFCs has increased over the years.

The HUDCO Board decided to stop sanctioning new Housing Finance loans to private sector entities in FY14 in order to reduce NPAs from the private sector. As on December 31, 2016, its gross NPAs for loans made to the private sector (excluding loans given to individuals) were 5.98% compared to 0.75% for loans to state governments. Furthermore, the management decided to stop sanctions of new Urban Infrastructure Finance loans to the private sector. Since 2014, state governments and their agencies represent 99.94% of the total sanctions. As a result, net NPAs have decreased from 2.52% in FY14 to 1.51% in 9MFY17.

The issue is attractively priced at 1.4x9MFY17 P/Adj.BV (upper band price).

Risks Involved

HUDCO’s loan growth may be restricted by a slowdown in real estate and increasing competitive intensity. Also, the company faces general business risks of providing organized finance to LIG and EWS and competitive pricing of HFCs as compared to banks.

Next Article

Cash and Carry Arbitrage

Cash and Carry Arbitrage
by Nilesh Jain 05/08/2017

Arbitrage: Arbitrage is the process of simultaneous buy and sale of shares in order to profit from difference in the price of underlying assets. It is the process of exploiting risk free return which arises due to price differences. Arbitrage opportunity exists because of market inefficiencies.

Cash And Carry: Cash and Carry arbitrage is a combination of long position in underlying assets and short position in underlying futures. Cash and carry arbitrage occurs when market is in "Contango", which means the future prices of an underlying asset are higher than the current spot price. To initiate cash and carry arbitrage, the difference between spot price and future price should be reasonably high enough to cover transaction cost, financing cost as well as to earn profit. As expiration date approaches nearby, prices of spot and future converge and liquidation of position can be done at that time.

In order to exploit the risk free return, the arbitrageur/ trader will have to carry the asset until the expiration date of future contract. Therefore, this strategy would be profitable only if the cash flow from future at expiration exceeds the acquisition cost and carrying cost on long asset position.

Let’s try to understand with the help of example of DHFL.

Cash market price (as on 25th April 2017) (S)

Rs 422

June Futures (Expiry on 29th June 2017) (F)

Rs 430

Contract size

3000

Fair value is measured by the formula

F= S*(1+R)^n

Rate of Interest

9% (p.a.)

Time to expiry (n)

65 days

Amount borrowed

Rs 12,66,000 (422*3000)

Cost of Borrowing {0.09*(65/365)}

1.6%

Basis

Future price-spot price

Expected future price (F) = 422*(1+9%) ^(65/365)

Therefore, in above case F= 428.53

Current future price= 430

Hence, we can see that there is an arbitrage opportunity.

Risk free Arbitrage = Rs 1.47 (430-428.53)

To take the advantage of this mis-pricing, an arbitrageur/ trader may borrow Rs 12,66,000 at an interest rate of 9% p.a. and buy 3000 shares of DHFL in cash market at Rs 422 and sell 1 lot of DHFL Futures contract at Rs 430.

Cost of borrowing in Rs [(1266000)*(9%*(65/365))]= 20,291

Gains from price difference between futures and spot= Rs 24,000

This would result in to net arbitrage opportunity of Rs 24,000-20291= Rs 3,709

Scenario analysis:

Case 1: DHFL rises to 435, at expiry

Profit on underlying (cash) = (435-422)*3000= Rs 39,000

Loss on futures = (435-430)*3000= (Rs 15,000)

Gross Gain on Arbitrage= Rs 24,000

Cost of borrowing: Rs 20,291

Net gain from arbitrage: Rs.3,709.

Case 2: DHFL falls to 415, at expiry

Loss on underlying (cash) = (422-415)*3000= (Rs 21,000)

Profit on Futures= (430-415)*3000= Rs 45,000

Gross Gain on Arbitrage= Rs 24,000

Cost of borrowing: Rs 20,291

Net gain from arbitrage: Rs.3,709.

To round up, in any cash and carry arbitrage, the moment you lock in your position, your profit is fixed depending upon the arbitrage opportunity. This is also called risk free arbitrage because your profit is secured irrespective of underlying price movement.

Whenever futures are trading at a substantial discount to spot, a reverse cash and carry arbitrage opportunity arises.