Mr. Narendar kumar is option strategist at Assuredgain and one of the regular reader and guest author of marketcalls.
All of us have only one objective while entering the stock market, it is to make money. However, we all forget one important thing. In stock market the competition is severe. We are competing with professionals, foreign investors who are equipped with enhanced tools. But we hope to overcome them without knowing anything about the capabilities of our adversaries. You can imagine how futile will be our efforts.
We have two types of markets here.
1. Cash market.
2. Derivative market.
The cost of buying shares in the cash market is very high for retail investors because broker commissions are around 1% on one side. For example buying 100 shares of Reliance involves a cash outlay of Rs. 1, 00,000 (approximately) at the rate of Rs.1000 per share. If we buy 100 Reliance shares on a day and its price does not go up, we will be either forced to close the transaction by booking loss or taking the share for delivery. Daily buying and selling in the cash market is highly risky because nobody can predict the correct movement of a particular share on a daily basis. Short term charts are also of no help because daily movements are dictated by the actual demand and supply and this depends on the money that chases the shares. Hence daily buying and selling shares is the most risky trading strategy and nobody I have known in the last 10 years seems to have made money by this means consistently. I am sure that you know this from your own experience. Hence this activity is not advised for you. Never think of making money by this method.
Second method is to buy and hold shares in case we do not get required profit on a particular day. Let us take the case of buying 100 Reliance and making it a delivery. Once you make Reliance delivery, you will be paying a delivery commission of 0.5% and this is equal to Rs. 5 per share. While you sell these shares again you pay another Rs. 5 as brokerage. Thus to break even you need to get more than Rs. 1010 in the cash market. This normally is difficult and you will be forced to hold the shares for a long period of time with out any out put for the money you invested in this share or exit with less profit. Therefore trading in the cash markets in this manner is also of no use for a retail investor with short-term horizon. Thus operation in the cash market is not likely to benefit a short term investor at all. Most probably he will be ending with a number of shares he could not sell profitably for a long time. Therefore we have to think about the next alternative. In the derivative markets the brokerage is very low. It can go down to even 0.05% on side if your volume of trading is high. There are two major problems when you try to trade in the derivative markets
1. Most of the retail investors are totally ignorant of the derivative markets and their products. They are also prejudiced by the stories of huge losses incurred by those who played in these markets. The problem of ignorance can be solved only by study.
2. The second difficulty in dealing with derivative markets is caused by the contract size. For example to buy a lot of Reliance futures you have to purchase 300 numbers of Reliance. However you will not have to pay the full amount there. You will be asked to remit 15-20% of the notional value of the contract to the exchange. In this case the notional value of a reliance futures contract is 300*1000=3,00,000. 20% of this is Rs. 60,000. This is big money for retail investors. More over the profits and losses will be five times. As the chances of losses are 50-50, buying futures contracts or selling futures contracts in single stock is a highly risky affair for retail investor. But the broker commission for the contract for 300 shares will be around 300*1000*0.05/100=150 only. Compare this with the delivery commission of Rs 1500 in the cash market for 300 shares. More over you could hold the contract even for three months. Therefore chances of making profit are more in the derivative marks due to the availability of more time. From the figures given above you must have noticed that your funds will not be sufficient to operate in the single stock futures market.
But I have a solution to you. In the derivative markets, there are many products that will not involve a large sum of money. For example buying options in stocks and NIFTY involve only small amounts of money. Similarly buying and selling one lot of NIFTY futures involves only Rs. 25,000. One lot of NIFTY futures involves 50 NIFTY. There are many advantages in trading NIFTY.
Value of NIFTY depends on 50 shares in the NSE with highest volume of trading including Infosys, Reliance, Bajaj, Maruti, HCL, Satyam, TCS, Wipro, SBI, L&T, HDFC, Bharati, ONGC etc. Therefore it is not easy to manipulate the value of NIFTY. Moreover huge volumes are traded in NIFTY every day. Therefore there is very little spread between buying price and selling price. But in single stock case the difference between buying price and selling price might be having a large spread. More over NIFTY represents the markets as a whole because it includes shares from all sectors. Therefore movement of NIFTY can be easily predicted most of the time. However, trading in the derivative markets needs a lot of expertise in the technical analysis, as the time involved is one to three months.
Therefore I think prudent investors will stick to the methods advised by me and trade in the derivative markets rather than in the cash market. More over short selling in the cash market involves higher risks as the short seller is forced to close the contract before the end of the trading session.
Once again I request you to reconsider trading in the cash market, because it is suicidal and will ultimately result in huge losses in your capital.