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New to the stock market? Get your basics right…

Indira Vergis

Investing in the stock markets is not for the faint-hearted. After all, it's a market where the mood and prices can seemingly switch from mass euphoria to deep anxiety abruptly -- sometimes in a matter of minutes. Their mercurial behaviour certainly makes for good newspaper copy.

Indeed, equities may possibly be one of the most-talked about subjects in the investment world; it is also one of the least understood.

One well-known American investment website calls equities as "the greatest wealth-creation vehicle ever conceived". It was probably right.

However, it's still not the most preferred option for a vast majority of ordinary Indian investors. Most experts agree that Indians are, by nature, not instinctively inclined to take financial risks. Yet, the idea of trading in stocks is not really alien to Indians; the 101-year-old Bombay Stock Exchange --- the oldest stock exchange in Asia -- is testament to the deep roots that stock trading has in the country.

An equity share represents a proportional share in the ownership of a business. You are, to the extent of shares you own, a part-owner of the company. It follows that you are entitled to a share in the profits and dividends declared by the company. Over time, as a company begins to earn more money, its assets and profits increase, driving up the value of its shares.

The potential of earning rewards is far greater than any other form of investment (in the long term); but this is also accompanied by greater levels of risk. As a part-owner, you also share the risk that the company may go bust or run into major operational problems. In reaction, stock prices can also leap sky-high and then fall back to earth with a thud.

There are no limits - for either your rewards or your risks. At best, you can minimise your risk to the bare bones; but even the most cannily crafted portfolio won't brush aside all the risks of equity investing.

One culprit has frequently given equities a bad name: inflated expectations, which has brought many investors to grief. It is very naive to expect stellar stock performances to be replicated every year. A stock may have handed out a 100 per cent return in the past year; that doesn't mean it will do so again this year.

Circumstances may have changed; the business outlook may have taken a turn for the worse; or the company may be plagued by management squabbles -- all of which can combine to wreck profits and the share price.

It brings us to an important lesson of equity investing: study the companies whose shares you plan to invest in. There's also a visible divide between how stocks perform in the short and long term.

In the short term, stocks can be gripped by convulsions arising from any number of reasons -- political uncertainty, an economic slide, tumbling global financial markets and even natural disasters such as floods and earthquakes, at home and overseas.

Even the best of stocks may retreat time and again under the hail of these blows. The trick is to separate the survivors from the ones that will fall by the wayside. In the long term, share prices will usually climb higher on the back of improving corporate earnings.

Patience is a virtue when investing in the stock markets. Expert studies show that equities claims top honours for providing the best returns in the long term, smoothly edging past real estate, government bonds, bank deposits and gold. So, if you have a long-term financial goal (to be achieved over 15-20 years) in mind, a part of your savings deserves to be placed in the equity markets.

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