Why and When people lose money in Stock Market

Why and When people lose money in Stock Market

If you ask 100 people their perception about stock market from gain or loss most of the people ( 80% to 90 % ) are of this opinion that most people lose in stock market than gain and hence very very risky . If you look at the penetration of equity investment in India it is less than 5 % .One obvious question comes to my mind that if only 5% people have invested how come 80-90% people can make a judgment that it is a loss making venture ? Are they right or wrong?  The person who have negative opinion have they really invested in equities through stock market route and had any experience or are they giving opinion just out of ignorance or sharing someone else opinion .

Yes investment in stock market is risky. You can end up making losses more than gains. Reason for this is your investment decision is influenced more by temptations – greed (earn more) or fear (not ready to digest any loss). If you go by this you will end up taking irrational decisions at times. Whenever you buy anything you pay a price. Two things you always evaluate. First the benefit or value you get from that product and second is even if you get the benefit and value the price which you are paying to acquire that is it worth paying that price ? We are a nation where many people are more price conscious than value conscious. This psychology gets carried in when making stock market investment as well.

What is the value for which we are buying a particular stock or share of a company? It is the net profit or earning per share ( EPS ). Are we aware what earnings we are going to get for the price which we are paying? Suppose there is a stock which was bought at a price of Rs.125 and gave a EPS of say 20. Now the moments participants in the market realises that the share has given a good profit and expected to continue that trend they are willing to pay a higher price now.. So may be now the price rises to 170. With more and better experience from earning front, more and more people start going for that stock and more and more money start chasing the price of that stock. So a situation comes when the price at which an investor buys that stock may be much higher than the price that the stocks actually deserve. Most of the investors enter buying when the stock price is already overvalued ( i.e. more than what it actually should be ) as they are just looking what has been the return based on price last different time duration forgetting it is ultimately the value for which you are paying the price and even if the company is good not necessarily the price at which you are buying is worth going for .Since such investors have been chasing price and not value it is obvious they are not looking for long term gain but short terms gain.

You should know that there are two type of market – cash and derivative market . In cash market transaction is settled within 2 days whereas derivative is something a bit longer and also at times the participants might not be having the stock to sell. Derivative market is dominated by speculators mostly . The volume of trade in derivative market is more than cash market .So if I consider all participants in stock market I see there is a dominance of those who are speculators ( trading on price differentials ) and also willing to take and bear the risk . If that is the case how can a naive investor compete with such participants?

Also just look from other perspective if everyone wants to gain and that too in short term is it practically possible? Yes it can happen for some time but when there are better informed investors also who know what is over-priced stock and  will they buy or sell ? If they sell then will there be fall in price or will there be correction in price or not ? Also volume wise they hold and trade more than what a normal retail investor can do . In other word they dictate and direct the movement of stock price and stock indices .

In the BSE there are more than 7000 stocks trading. How many of those companies you know? When I am saying knowing it does not mean you have just heard the name. It means you know the valid reasons why it is worth investing and at what price. We all have heard the name and also have a perception that large cap companies ( 50 to 100 ) are good ones . Can you say same about mid cap companies ( 500 to 1000 ) and small cap companies  ( 2500 - 3000) ? When you hardly know or heard about any companies in mid and small cap segment you can definitely not comment its good or bad company or whether worth investing or not? But what mistake many people do?

First they do not invest out of fear of losing. Then when they see and hear positive news about economy, stock indices showing appreciation, some people making gain out of equity investment they start investing. Now even if most want to buy large company and famous company stocks they will be able to buy only when someone is willing to sell . As most people are positive why someone will sell Infosys, HDFC Bank, Hindustan Lever etc stock unless he requires money or want to book profits . Those who have purchased it earlier because they know these are large good stable profit generating company , will rarely sell it and for go lesser known , less profitable company stock . Most knowledgeable and wise investors will buy and hold good company stock with long term horizon.

So now as one is positive , wants to invest his next attention gets drawn toward readily available and tradable stock ( mid and small cap ) . Also since more interest moves toward stocks the price start reaching newer heights with every successive day and so does translates into profit for investors and thereby invoking more interest and more participation and the cycle continues . If you see the reason for this upside is more to do with sentiment and less to do with earning ( EPS ) gain . Also for many investors a stock worth Rs 1000 is more costly than a stock worth Rs 50 as they feel for the same Rs 10000 he will get more share in 2^nd case and lesser shares in 1^st case . Its not the price level but scope of further appreciation due to future earning which can make the stock cheap or costly .  

Since the psychology of many investor for making quick buck there will be lateral movement of money moving from one stock to another even on the small news and views basis ( positive or negative ) . This euphoria continues with the economic cycle in general way but within that also there are more informed investors who know what is overvalued and they will book profit before you can act and may be you see a correction in pricing happening . So even in positive scenario also the timely action and inaction can lead to gain or loss to investors . Now it is for the investor to honestly evaluate that are they really better informed on right valuation level at any point of time ?

So ultimately you have to realise that there are price risk, information risk and knowledge risk apart from temptation risk ( greed ) when you are investing on your own . The clever, the wise , the more knowledgeable , the more informed will win most of the times and those lacking on these qualities will lose most of times rather than gain. After all stock market investment is a zero sum game – one person’s loss is another person’s gain . Solution to invest and gain  is invest in business ( quality product leading to better sales leading to more profit and earning ) and not merely of price movement . Can you do the research to know all these ? You might think so but its not possible always . You can just search in internet , read research report etc ( if you have ample time but again of how many companies ) but please remember market is very dynamic and news and views get incorporated in prices on real time basis . So by the time you decide to buy/sell a stock market has already corrected itself . So as an individual not possible for you to time the market on regular basis . Yes few times you might succeed but not always and regularly.

So why to do something which will lead you to failure more than success . Yes if research is the key to investment why not invest through a professional research based institution which is Mutual Fund . Mutual fund manages all types of risk in best possible manner as they are more informed than any of the retail investors .