How to invest in shares: The Smart way

INVESTING in equities is riskier than and definitely demands more time than other investments. However, it can probably be more rewarding than you can imagine and certainly very exciting! World over, and even in India, stocks have outperformed every other asset class over the long run. Stocks are probably your best bet against inflation too.
If equities tempt you but you are scared to take the plunge during these volatile times, here's a complete step-by-step guide on investing in equities.

Step 1: Understand how the stock market works
When you read you begin with A-B-C. When you sing you begin with Do-Re-Mi. And when you invest in stocks you begin with business-company-shares.
Before you embark on your journey to invest in equities, teach yourself how the stock market works.

Step 2: Learn how to choose a stockHaving understood the markets, it is important to know how to go about selecting a company, a stock and the right price. A little bit of research, some smart diversification and proper monitoring will ensure that things seldom go wrong.
It's not that difficult.
IF you want to invest in equities, there are only four things you need to remember.
1. Choose the right companyLook for superior and profitable growth. The company should earn at least 20% return on its shareholders’ capital. Ideally a long-term investment perspective (more than five years) allows you to participate in the company’s growth. At the short end (3-6 months), share performance is driven more by market sentiment and less by company fundamentals. In the long run, the relevance of the right price diminishes.
2. Be disciplinedStock investing is a long, learning experience. You will make mistakes, but also learn from them. Here is what you can do to ensure a smooth ride.--Diversify your investments. Do not put more than 10% of your corpus in one stock, even if it’s a gem. On the other hand, don’t have too many – they become difficult to monitor. For a passive long long-term investor, 15-20 is a healthy number.
--Research and analyse your company's performance through quarterly results, annual reports and news articles. --Get a good broker and understand settlement systems--Ignore hot tips. If hot tips really worked, we'd all be millionaires. --Resist the temptation to buy more. Each purchase is a new investment decision. Buy only as many shares of one company, as fits your overall allocation plan.
3. Monitor and reviewRegularly monitor and review your investments. Keep in touch with quarterly results announcements and update the prices on your portfolio worksheet at least once a week.
Also, review the reasons you earlier identified for buying a stock and check whether they are still valid or there have been significant changes in your earlier assumptions and expectations. And use an annual review process to review your exposure to equity shares within your overall asset allocation and rebalance, if necessary.
4. Learn from your mistakes When reviewing, do identify and learn from your mistakes. Nothing beats first-hand experience. Let these experiences register as `pearls of wisdom' and help you emerge a smarter equity investor.

Step 3: Decide how much to investSince equities are high risk, high return instruments, how much you should invest would really depend on how much risk you can tolerate.

What went wrong at Lehman Brothers ??

Why did Lehman Brothers go bust?

The investment bank ran out of time. CEO Richard Fuld had been trying to raise more equity to support the firm for weeks – either by selling assets, such as its Neuberger Berman asset-management unit, or by finding a deep-pocketed investor. But he tried to drive too hard a bargain. Buyers refused to pay the price he asked for Neuberger, while talks to sell a major stake to the Korean Development Bank (KDB) also failed, apparently because Fuld wanted more than KDB’s proposed $15 a share. Once the KDB deal collapsed very publicly last week, the game was up. With more writedowns coming on its $70bn of realestate-related assets, and other market participants increasingly unwilling to do business with the firm, Lehman needed a white knight quickly.

Why couldn’t it find one?
Federal Reserve and Treasury officials and Wall Street executives tried to bash out a deal to save Lehman over the weekend, in much the same way that failed hedge fund Long Term Capital Management was bailed out almost ten years ago to the day. The proposal was to hive off around up to $85bn of souring assets in a separate vehicle (a ‘bad bank’), supported by capital from other Wall Street firms. Meanwhile, the sound parts of Lehman would be bought by another firm. But other banks were reluctant to support the bad bank while the only two businesses genuinely interested in buying Lehman – Bank of America and Barclays – demanded government support on the grounds that they didn’t have a full picture of what Lehman’s problems were. The Treasury refused to provide this and the buyers walked away. Once that happened, Lehman had no option left except to file for bankruptcy.

Is this the same as Bear Stearns?
Not quite. Bear was forced to sell itself to JP Morgan because of an acute liquidity crunch – no-one would lend to it. Lehman didn’t have that problem; as a result of Bear’s fate, the Federal Reserve began lending to investment banks as and when they needed to meet their short-term liquidity needs. Lehman’s problem was more of an insolvency risk; the huge pile of real-estate-related loans and assets it piled up during the property bubble is worth considerably less than its face value. As Lehman continued to write them down, it needed to raise fresh equity to replace the losses and stay solvent.

Why did Merrill Lynch sell itself?
It looks like the chaos at the weekend convinced CEO John Thain that now was the time to find a new stable for its ‘Thundering Herd’ of brokerages. There was no doubt that with Lehman gone, the speculation – and shorting – would turn to Merrill, which, like Lehman, had plunged too deep into risky lending during the property bubble. By selling his firm a few days before he was absolutely forced to, Thain seems to have achieved a better (and more dignified) end for one of Wall Street’s most famous names than Lehman or Bear, and secured his investors at least some payment for their shares.

How big is the Lehman problem?
At $639bn, this is the biggest bankruptcy ever, dwarving Worldcom (2002, $104bn). In investment bank terms, the collapse of junk-bond pioneers Drexel Burnham Lambert in 1990 was tiny at just $3.6bn. And banking has got more complex since then: Lehman holds derivatives contracts with a face value of $729bn (notionally – the actual liability is probably 5% of that or less) and there will be a vast amount of work for Lehman’s counterparties to unwind these. The authorities tried a ‘netting session’, where counterparties pair up contracts in which Lehman can be removed from the chain and the counterparties enter into new contracts with each other. But that is said to have had a negligible effect on the pile. Meanwhile, the sale of Lehman’s real-estate assets will have a knock-on effect: if these are sold at depressed prices, other banks could be forced to writedown their holdings of similar assets. For this reason, everyone wants a controlled liquidation of Lehman, with no asset fire-sales.

Is this the end of the crisis?
No. Even as MoneyWeek went to press, the Fed took control of insurance giant AIG. The bears’ next target is probably Washington Mutual, the US’s largest savings and loan association (similar to a UK building society); the credit markets are pricing it as a certain goner. A sale to JP Morgan – which made an offerin April – looks possible. Wachovia has bad-loan problems and is often described as ‘troubled’. However, as the fourth-largest banking chain in America, this one is probably ‘too big to fail’ and would be bailed out if necessary. But many small regional banks are clearly doomed.

Will any of the big five survive?
After the disappearance of three standalone, full-service investment banks in less than six months, there are questions about whether the entire business model is sustainable. These banks depend heavily on borrowing in the market and have few depositors; hence they’re always vulnerable to a crisis of confidence.The two surviving ones – Morgan Stanley and Goldman Sachs – should be more stable than their fallen rivals. Neither plunged into real-estate lending in the manner of Bear, Lehman and Merrill, while their management seems more on top of things than Lehman’s CEO Fuld and Bear’s appallingly out-of-touch James Cayne. However, after Lehman and Merill’s demise, markets are becoming more concerned about them.

How To Survive In A Bear Market—Warren Buffett Style

As the plausibility of a bear market continues to grow, I thought it would be useful to consider ways that we could react, should the market take a turn for the worst. Even better, let’s let Warren Buffett do it. Here are some quotes of things he’s said over the years that I think can give any of us at least a few reasons to rest easy.

1. “If a business does well, the stock eventually follows”In other words, regardless of the circumstances of the market at large, you can still look for good companies.

2. “If past history was all there was to the game, the richest people would be librarians”So don’t rely too heavily on the past. If we do enter a bear market, it may not be anything like other bear markets. Creative thinking and prudent planning going forward is what could reward you more than what relying on history will.

3. “In the business world, the rearview mirror is always clearer than the windshield”This goes well with #2. What lies ahead is by no means clear. Even so, you shouldn’t let the clarity of that rearview mirror discourage you from moving forward anyways.

4. “It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price”If this is so, then all we have to do is find wonderful companies. The pricing right now might do half the work for us.

5. “Let blockheads read what blockheads wrote”If you find that you’re reading the same garbage day in and day out, read something else. Like this blog .

6. “Look at market fluctuations as your friend rather than your enemy; profit from folly rather than participate in it”If we do in fact see some serious slides in the market, and they are indeed folly, don’t slide with them. Profit by using these times as a rare buying opportunity of the first magnitude.

7. “Only when the tide goes out do you discover who’s been swimming naked”In other words, don’t be naked. The tide just might be going out. Also, don’t buy companies that are naked. If they are naked, and the economy does start to slide, guess what we’re going to see?

8. “Risk comes from not knowing what you’re doing”If you feel like there is lots of risk right now, try something new. Look for different kinds of companies than you would otherwise.

9. “We simply attempt to be fearful when others are greedy and to be greedy only when others are fearful”In other words, do it the Berkshire Hathaway way. If everyone around starts looking fearful, go get your greed on.

10. “Wide diversification is only required when investors do not understand what they are doing”Don’t be scared away from stocks. If you feel like you need incredible breadth in your portfolio to “weather the storm,” try weathering it another way: look for what you know. Look for companies being sold at discounts. There is bound to be many.

Six Things To Do In A High Risk Market

When the market turns against you, what should you do? Sell everything? We discussed that choice in a recent column. Selling everything draws your “line in the sand” and announces that you have determined there is no future for you in the market.
There are other steps you can take when things start moving against you. Here are 6 actions you take today to help protect the money you’ve worked hard to get. In my next article, I will share several more ways you can help protect your stock market and mutual fund investments.

1. Decide at what price you will buy the stock or fund if it pulls back. Take a long look at where the stock has been the last few months. Has it gone up without any kind of break? It may be due for a pullback. WRITE DOWN your reasons for buying and the ideal price you’d like to own it at...and be patient. If you miss it, you miss it. Don’t chase stocks.

2. Manage your stops. Re-examine where your stop orders are and decide if you can live with getting stopped out. These days, stop orders usually need to be renewed or revised every 60 days. If your stock has moved up nicely of late, you should move your stop up as well.

3. Buy puts on stocks. You may own a stock where you have a profit. You may really have no intention of selling the stock soon. But you know that the individual stock may have gone up too far, too fast. Buy a put on the position. It is considered protection on your original investment. If the stock falls, the puts should climb in value. This will offset the drop you have (on paper) in the underlying stock. And if you’re right, and take a profit in the put, you may have enough cash from the put sale to buy more shares of that stock at a good price, now that it has dropped.

4. Buy half of what you would normally buy. You want to tread lightly in markets when the risk is high. Buy half of what you’d normally think of doing. You‘re automatically keeping more cash than usual on the sidelines, which is smart decision in a risky market.

5. Invest in a basket instead of an individual stock. Exchange-traded funds are a great way to do this. If you feel strongly that a current theme will work, but are unsure about the market, this may be your ticket. Thinking about swapping a single stock for a basket. You’ll get diversified since you own a basket of names instead of one single stock.

6. When stocks start to fall, think about selling stocks short. It’s not for the faint of heart, since being “short” leaves you on the hook, because your loss is unlimited. But remember, stocks don’t just go in one direction. What makes it an interesting market is that stocks go up AND down. One decision you won’t see on the list is the choice to do nothing, and just “sit it out” or ride it out. You’ve worked hard to get where you are financially, the last thing you should do is sit idle and let the market take your profits away from you.

The Stock Market simply illustrated.... is there a lesson here?

Once upon a time in a village, a man appeared and announced to the villagers that he would buy monkeys for Rs10. The villagers seeingthat there were many monkeys around, went out to the forest andstarted catching them. The man bought thousands at Rs10 and as supplystarted to diminish, the villagers stopped their effort. He further announced that he would now buy at Rs20.

This renewed the efforts of the villagers and they started catching monkeys again. Soon the supply diminished even further and people started going back to their farms.The offer rate increased to Rs25 and the supply of monkeys became so little that it was an effort to even see a monkey let alone catch it.The man now announced that he would buy monkeys at Rs50! However, since he had to go to the city on some business, his assistant would now buy on behalf of him. In the absence of the man, the assistant told the villagers. Look at all these monkeys in the big cage that the man has collected. I will sell them to you at Rs35 and when the man returns from the city, you can sell it to him for Rs50." The villagers squeezed up with all their savings to buy the monkeys. Then they never saw the man nor his assistant, only monkeys everywhere!! !!

Welcome to the Market!!!!!

What are the Sensex & the Nifty?

The Sensex is an "index". What is an index? An index is basically an indicator. It gives you a general idea about whether most of the stocks have gone up or most of the stocks have gone down.

The Sensex is an indicator of all the major companies of the BSE. The Nifty is an indicator of all the major companies of the NSE.
If the Sensex goes up, it means that the prices of the stocks of most of the major companies on the BSE have gone up. If the Sensex goes down, this tells you that the stock price of most of the major stocks on the BSE have gone down.Just like the Sensex represents the top stocks of the BSE, the Nifty represents the top stocks of the NSE.Just in case you are confused, the BSE, is the Bombay Stock Exchange and the NSE is the National Stock Exchange. The BSE is situated at Bombay and the NSE is situated at Delhi. These are the major stock exchanges in the country. There are other stock exchanges like the Calcutta Stock Exchange etc. but they are not as popular as the BSE and the NSE.Most of the stock trading in the country is done though the BSE & the NSE.
Besides Sensex and the Nifty there are many other indexes. There is an index that gives you an idea about whether the mid-cap stocks go up and down. This is called the “BSE Mid-cap Index”. There are many other types of indexes. There is an index for the metal stocks. There is an index for the FMCG stocks. There is an index for the automobile stocks etc.

How to calculate BSE SENSEX?

Sensex has a very important function. The Sensex is supposed to be an indicator of the stocks in the BSE. It is supposed to show whether the stocks are generally going up, or generally going down. To show this accurately, the Sensex is calculated taking into consideration stock prices of 30 different BSE listed companies. It is calculated using the “free-float market capitalization” method. This is a world wide accepted method as one of the best methods for calculating a stock market index. Please note: The method used for calculating the Sensex and the 30 companies that are taken into consideration are changed from time to time. This is done to make the Sensex an accurate index and so that it represents the BSE stocks properly. To really understand how the Sensex is calculated, you simply need to understand what the term “free-float market capitalization” means. (As we said earlier, the Sensex is calculated on basis of the “free-float market capitalization” method) But, before we understand what “free-float market capitalization” means, you first need to understand what “market capitalization” means.

You probably think that you have never heard of the term “market capitalization” before. You have! When you are talking about “mid-cap”, “small-cap” and “large-cap” stocks, you are talking about market capitalization!Market cap or market capitalization is simply the worth of a company in terms of it’s shares! To put it in a simple way, if you were to buy all the shares of a particular company, what is the amount you would have to pay? That amount is called the “market capitalization”! To calculate the market cap of a particular company, simply multiply the “current share price” by the “number of shares issued by the company”!

Depending on the value of the market cap, the company will either be a “mid-cap” or “large-cap” or “small-cap” company! Having seen what market cap is and how to find out the market cap of a particular company, let us try to understand the concept of “free-float market cap”

Many different types of investors hold the shares of a company! The Govt. may hold some of the shares. Some of the shares may be held by the “founders” or “directors” of the company. Some of the shares may be held by the FDI’s etc. etc!Now, only the “open market” shares that are free for trading by anyone, are called the “free-float” shares. When we are calculating the Sensex, we are interested in these “free-float” shares!A particular company, may have certain shares in the open market and certain shares that are not available for trading in the open market. According the BSE, any shares that DO NOT fall under the following criteria, can be considered to be open market shares:

• Holdings by founders/directors/ acquirers which has control element
• Holdings by persons/ bodies with "controlling interest"
• Government holding as promoter/acquirer
• Holdings through the FDI Route
• Strategic stakes by private corporate bodies/ individuals
• Equity held by associate/group companies (cross-holdings)
• Equity held by employee welfare trusts
• Locked-in shares and shares which would not be sold in the open market in normal course.

A company has to submit a complete report about “who has how many of the company’s shares” to the BSE. On the basis of this, the BSE will decide the “free-float factor” of the company. The “free-float factor” is a very valuable number! If you multiply the "free-float factor" with the “market cap” of that company, you will get the “free-float market cap” which is the value of the shares of the company in the open market!A simple way to understand the “free-float market cap” would be, the total cost of buying all the shares in the open market! So, having understood what the “free float market cap” is, now what? How do you find out the value of the Sensex at a particular point? Well, it’s pretty simple….

First: Find out the “free-float market cap” of all the 30 companies that make up the Sensex!Second: Add all the “free-float market cap’s” of all the 30 companies!Third: Make all this relative to the Sensex base. The value you get is the Sensex value! The “third” step probably confused you. To understand it, you will need to understand “ratios and proportions” from 5th standard mathematics. Think of it this way:Suppose, for a “free-float market cap” of Rs.100,000 Cr... the Sensex value is 4000…Then, for a “free-float market cap” of Rs.150,000 Cr... the Sensex value will be..

1,00,000/4,000 = 1,50,000/ ?

? = 1,50,000/1,00,000 x 4,000

So, the Sensex value will be 6000 if the “free-float market cap” comes to Rs.150,000 Cr!Please Note: Every time one of the 30 companies has a “stock split” or a "bonus" etc. appropriate changes are made in the “market cap” calculations.Now, there is only one question left to be answered, which 30 companies, why those 30 companies, why no other companies? The 30 companies that make up the Sensex are selected and reviewed from time to time by an “index committee”. This “index committee” is made up of academicians, mutual fund managers, finance journalists, independent governing board members and other participants in the financial markets.

The main criteria for selecting the 30 stocks is as follows:

Market capitalization: The company should have a market capitalization in the Top 100 market capitalization’s of the BSE. Also the market capitalization of each company should be more than 0.5% of the total market capitalization of the Index. Trading frequency: The company to be included should have been traded on each and every trading day for the last one year. Exceptions can be made for extreme reasons like share suspension etc. Number of trades: The scrip should be among the top 150 companies listed by average number of trades per day for the last one year. Industry representation: The companies should be leaders in their industry group. Listed history: The companies should have a listing history of at least one year on BSE. Track record: In the opinion of the index committee, the company should have an acceptable track record.Having understood all this, you now know how the Sensex is calculated.

Stock Market for Dummies

The stock market is a place where stocks, bonds, or other securities are bought and sold. When you buy stocks or shares in a company you gain part ownership in that company. In today's world people buy stocks in order to gain dividends on money that they have invested. Some advantages of buying stocks over bank deposits; money-market funds or bonds are that stocks have a long historical track. Although the disadvantages of buying stocks are that the market fluctuates very often and the stocks are never guaranteed so you may loose all of the money you have invested.

Before deciding on what type of stock you are going to purchase, you must determine what type of investor you are. There are two types of investors: technicians and fundamentalists. Technicians are investors that tend to buy and sell stocks very quickly. These investors are not interested in book values, dividends or earning although they study the price patterns of that certain stock. Fundamentalists are investors that look for long-term growth in a company. They consider such factors as earning, dividends and book values and are as interested in the price patterns because they are in for long term growth so they know that the market will fluctuate.

When you are buying stocks there are three different types that you may choose from: penny stocks, growth stocks and blue chip stocks. Penny stocks are stocks from a company that has almost no chance of developing into a big company and the stocks are of very little monetary value. These stocks for example would be a chain of local pizza stores that would never make it into the big market of restaurants such as Pizza Hut but would do well in its local market. Growth stocks are companies that have a high potential to achieve great success, but they can also be very risky investments because they not are well established. An example of this type of company would one that invents a product that may make a big impact on the market similar to when air bags were invented their stocks probably rose drastically. These stocks would be the intermediate level in the purchasing of stocks. The highest level of stock purchasing is buying blue chip stocks. These stocks are of companies that are very well established and have almost no chance of its stocks dropping drastically. Some of these stocks would be of companies such as McDonald's Corp., General Motors Corp., Coca-Cola Co., etc. Although blue chip stocks are the best stocks to invest in, they can also be very expensive limiting you to only buy a few of that companies shares. Often when the price of a stock plateaus, the company decided to split it's stock. When this occurs you receive more stock for your money already invested. But when your companies stock splits two for one you get twice the amount of stock but the value of that stock depreciates by 50%. Reverse splitting means that the stock double in value although you only get to keep half the stocks you had before. Any way the stock may split you will not loose your money.

In any companies stock they are two different types of stocks you can buy: Common Stock and Preferred Stock. Common stock in a company shows you that you own a fraction of a company. Since common stock has a high potential for gain they are the last person to receive their dividends after those who own preferred stock. Preferred stock is sold to the public after all the common stock is sold. Companies who are going out of business have to pay out their preferred stock owners first because they have paid a higher premium for that same stock. Preferred stock owners only receive a fixed dividend payment making it the only drawback for people to purchase this type of stock.

After you have decided what type of stock to purchase you must find a broker. This person will only take orders to buy and sell stock tickets. Every brokerage firm has two types of brokers. Stockbroker's help by giving advise to on investing and by doing research on stocks. Discount brokers are the "middle man" of buying and selling stocks and do not research or give advise. After you find a broker all that you have to do is give him or her a call when wanting to buy or sell your stock.