Introduction to Stock Market Investing

The enticement of earning handsome returns has attracted people from all walks of life to invest their savings. However, most people miss out on the fact that losses have an equal probability. Apart from patience and discipline in investing, you also require a good amount of research and understanding of the market to earn a consistent income.

Also, you do not need a casket full of money to start investing. In fact, as a beginner, it makes more sense to start with a small amount and increase your investment amount gradually as you gain more understanding of the finer aspects of investing/trading.

What is stock exchange?

The stock exchange is a trading platform where buyers & sellers meet to complete the purchase/sale of financial securities such as stocks, bonds, currencies, etc. Stock exchanges act as a forum for price discovery.

The National Stock Exchange (NSE) and Bombay Stock Exchange (BSE) are the two major electronic exchanges in India. 

Index

An index can be thought of as a collective report card. In an army of more than 5,000 listed stocks on the exchange it becomes impossible to track each and every stock to decide if the market is up or down for the day. An index simplifies this by bringing together a selected group of stocks to gauge the performance of the market. Indexes can be classified in terms of market capitalization, sectors, momentum or any other suitable criteria.

The S&P BSE Sensex or Sensitive Index is a market-capitalization weighted index representing a basket of thirty most active, liquid & representative stocks on the Indian bourses. It was first compiled in 1986 with a base value of 100.

The other widely tracked bellwether, The S&P CNX Nifty 50 Index is also a market capitalization weighted index of the fifty largest & the most-liquid blue chip Indian securities listed on the NSE.  It was first compiled in 1996 with a base value of 1,000. 

Both the markets operate five days a week and are closed on weekends & national holidays. Trading is done on the automated computerized mode of trading also known as BOLT (BSE’s Online trading) and NEAT (National Exchange for Automated Trading) system. The online trading system has facilitated the traders with more transparency, efficiency, automatic order matching, and speedy processing of the transactions in comparison to traditional trading systems. 

The SEBI was established in 1988 but received the status of an autonomous body only in 1992.

SEBI is the regulatory body that oversees the developments which take place in the Indian markets. The primary duty of the market watchdog is to safeguard investor interest. The SEBI has framed a set of regulations, by-laws and surveillance systems so as to provide the end-users with safety and transparency while dealing in securities.

Click here to read more about SEBI.

So here in this module, as the name suggests, we will guide you step by step to start investing in the stock market. Therefore in the next section, we will discuss the essential prerequisites to start trading or investing in India. 

Shares or Stocks

What are shares or stocks?

Every company needs money to carry on its operations. For that purpose, companies reach out to banks or investors for loans and to common people for borrowing money by issuing bonds. But, in both cases, the company must pay a huge amount of interest. So, to avoid huge costs of interest, companies can raise money from the market by issuing its shares to the public that do not carry any such obligations.

Why do people invest in stocks?

It is because they get proportional ownership in the company depending upon the number of shares they buy. This entitles them to the share in the profits of the company which is distributed among shareholders in the form of a dividend. Apart from dividends, shareholders also enjoy capital appreciation (Increase in the price or the value of company’s stock). The share prices of the company increase as the company’s revenue & profitability grow. Hence, one can sell his/her shareholding at a price greater than his/her purchase and earn a profit.

What are the pre-requisites to start trading in the share market in India?

Here are the essentials that you need to start trading in share market:

• Pan Card: You must have a Permanent Account Number (PAN) to do any financial transaction in India. It is required to open a bank account, make investments, file income tax returns, etc. It is a unique number assigned by the Tax authorities to an individual for assessing his tax liabilities in all financial transactions. Click here to know how to apply for a PAN Card 
• Bank account: You also need to have a bank account registered in your name which shall be used for transferring money to and from your trading account.
• Broker: Transactions in the stock market cannot be carried out directly between the investor and the exchange. A stock broker acts as an intermediary between the two and facilitates seamless transactions.(We will discuss some tips and tricks for selecting the right broker for your investments in the next unit.)
• Get a Demat and trading account: You must open one with a registered stockbroker authorized by SEBI. A demat account stores all your stock holdings in the dematerialized form whereas a trading account is used for buying and selling of shares.

Selecting A Good Broker

How to select a good broker?

The choice of the right broker can make an impactful difference in the trading outcome of the trader or investor. The payoff process, the ease of trading, maintenance of proper contract notes and a good trading software, all of these are dependent upon the actions of the broker. Hence, it is important to choose the right broker for trading successfully.

Click here to read more about contract notes.

Here are the tips to select the right stockbroker:

• Conduct extensive research: A critical aspect of selecting a broker is to verify the reliability of the stockbroker through personal/online reviews. It is always recommended to have two separate demat accounts for trading & investment purposes. A genuine broker with good customer service will make sure you go a long-long way in your journey.
   
• Full-service brokers or discount brokers:  Brokers generally fall into either of the two categories: Discount brokers or Full-service brokers. The primary difference between the two is in terms of breaking charge. For instance, Broking fees in case of full-service brokers may go as high as 0.3% to 0.5%. This fee is charged both at the time of buying & selling a security. On the other hand, discount brokers charge a fixed fee, usually between ₹10-₹20 per order, irrespective of the order size. Full-service brokers charge higher fees since they also provide advisory services to their clients. Discount brokers on the other hand only play the role of an intermediary and execute trades on the client’s behalf. Opting for a discount broker can result in significant savings particularly if you have high order volumes. Some of the popular discount brokers in India are Zerodha, Upstox & Fyers. On the other hand, Sharekhan, ICICI Securities, Kotak Securities are a few reputed full-service brokers.
   
• Quality of services provided: If you have decided to go with a discount broker, then you need to make sure that their website works efficiently and you are comfortable with their in-house trading application. Otherwise you can always opt for using the NEAT/BOLT platform. Also, the website should be able to handle huge traffic during peak hours. There is no doubt in the fact that technical difficulties do happen, but your broker should provide you with an alternative option to place your orders. He/She should be able to take your order over the phone and should offer these services at no additional costs.
   
• Offers multiple investment options: You can invest in various investment options other than shares in share market such as Mutual funds, IPOs, Currencies, Commodities, Futures & Options, etc. It is best to select a broker that allows investments in all available alternatives.

Click here to read more about how to select the right broker for trading success.

Understanding The Brokerage

In the last unit, we discovered that stockbrokers take a certain percentage of the trade value as broking charges i.e brokerage for facilitating the transactions. We will discuss more on brokerages in this section and also understand the several other expenses that occur while trading in the stock market. 

The cost associated with the buying and selling of shares is called the brokerage. It can be a little confusing to understand the concept of brokerage. If you ask any relationship manager of the broker about the fee they charge, the usual reply would be “0.05% for the intraday trades and 0.50% for delivery” and if you negotiate further with them, the cost of brokerage can come down up to “0.01% for intraday and 0.40% for delivery”

Apart from this, there are various other costs that are charged and are not disclosed by the brokers. Hence, the effective cost of brokerage is different from the rates mentioned above. 

To have a clear understanding of this, you need to first understand the concept of intraday trading and delivery/positional trading.

 Intraday trading is also called day trading wherein if you enter & exit a position in a single day aka you square off the trade the very same day regardless of the profit/loss. Since, both the transactions are made on the same day, therefore, the cost of brokerage is low for intraday trading.

However, in case of delivery/positional trading, the position is not closed on the same day rather shares are held for those number of days until you reach your target price, it can be just a day time, or months’ time or years’ time until you make desired profit.

Generally, the trading cost in India includes the brokerage, securities transaction tax, stamp duty, service tax, and other charges. Here are the details of each cost separately:

• Brokerage: It is charged on the basis of the agreed percentage of the total cost of all the shares bought and sold.
• Securities transaction tax (STT):  It is charged by the Central Government. In case of delivery trading, STT is charged on both the buying and selling of shares but in case of intraday trading, STT is levied only on the sell side transaction. The STT is charged at 0.10% of the total transaction cost of buying or selling in case of delivery trading whereas 0.25% of the total transaction cost while selling the shares in intraday trading.
• Service tax: It is charged both for the intraday trading and delivery trading, it is chargeable only on the brokerage amount and does not include the stamp duty or STT. Currently, the service tax is charged at 15% of the brokerage amount.
• Stamp duty: It is charged by the State Government. Hence, each state has a different stamp duty rate, stamp duty is chargeable both on the buying and selling of shares and is charged on the total amount of transaction.
• Transaction charges: These charges are levied by the stock exchanges on intraday as well as delivery trading and on both buy-side and sell-side transactions. Presently, NSE charges a transaction fee equal to 0.00325% of the total amount whereas BSE charges a 0.003% of the total amount.
• SEBI turnover charges: The SEBI charges a turnover charge of 0.0002% of the total amount on intraday as well as delivery trading and on both buy-side and sell-side transactions.
• Depository Participant (DP) Charges.: Depository is a place where financial securities are held in dematerialised form. Depositories are primarily responsible for maintenance of ownership records & facilitation of trading in dematerialised securities.

National Securities Depository Limited (NSDL), and Central Depository Services Limited (CDSL) are the two prominent depositories in India are promoted by the National Stock Exchange (NSE) & the Bombay Stock Exchange (BSE) respectively.

A small fee is hence charged by the depositories in exchange for this service. A flat rate of depository shares of ₹10 to ₹35 is levied only for delivery trades. This charge is not applicable to intraday trading since the position is squared off on the same day.

Brokers also charge an “Annual Maintenance Charges” for your account every year. You also need to review these charges regularly and make sure that they are not charged multiple times in a year. Also, you can opt-in for paying AMC charges in monthly instalments

Understanding capital gain tax on share trading: 

It is yet another important aspect associated with share trading. There are basically two types of capital gains tax i.e. the short-term capital gain tax and long-term capital gain tax. 

In case of investments in shares, if you sell a stock after more than one year of buying it, it is considered as long-term investment and 10% long term capital gains tax is applicable on sale of securities over and above ₹1,00,000.

Likewise, if shares are bought and sold in the same financial year, it is considered as a short-term investment and the same is taxable at a flat rate of 15% irrespective of the tax slab rate. This is applicable only to the delivery trading, in case of intraday trading, investors need to pay taxes on the basis of normal slab rates applicable to him/her.

Online Trading Platforms

Previously, we named some trading applications like NEAT/BOLT that are used for trading stocks electronically. However, this was not the case a few years ago. 

Earlier, there was an 'Open OutCry' system where buyers and sellers physically meet to transact. But recently, easy accessibility to internet connection led us to Online trading platforms. 

Online trading platforms allow you to trade via the internet by using the trading software provided by the broker. As a beginner, the trading platform might confuse you but it is essential to have a thorough understanding of the trading platform so as to efficiently use the various tools provided by these platforms. You can even transfer your funds from your bank account to your share trading account instantly by just a click of a mouse.

What are the features of online trading platforms?

• Provides you with an independent automated trading platform;
• Access to various online tools to perform technical analysis of stocks;
• You will have full and direct control over your portfolio;
• You can trade on both the markets i.e. NSE and BSE simultaneously by using the same account;
• Keeps you informed about the latest market news and movements;
• No delays in the execution of trades in comparison to offline trading;
• There are no geographical and time limitations. You can access your account at any time of your day and from any part of the world.

But, make sure to check the speed and the quality of services provided by the trading software by your broker. You can check online reviews for this purpose.

How to get started with the online trading platform?

• User ID and password: Your online trading account is protected by a login ID and password. Login ID is provided by the broker and the password is needed to be set up by you. You should change your password frequently for the safety of your account. Also, make sure to opt-in for additional security measures available for your account so as to ensure the safety of your account.
   
• Market screen: It is an essential screen in your trading account. It gives you an insight into the current market position of the selected stock in a tabular format. Each row presents the data regarding one share and displays the script name, the last traded price, last traded quantity, best bid and offer rate, total transacted volume, etc. 
  
  You can configure the market watch window and decide which column you wish to view and which not to. You can even change the way the table looks in terms of colors, size, and choose whether to use a separator between row and columns or not. All the information on the market watch window is updated dynamically in real-time and gives you live market updates without refreshing the screen. Understanding the market screen might sound intimidating in the beginning but you will find it easy to use eventually. It is the prime controlling window in your trading account to initiate all your trading actions. You can trade in shares by just simply clicking on the market watch window.

Click here to check out News and Updates related to the Stock Market.

• Indices display: Your trading screen should also display indices at an appropriate location on your screen. This helps you know the movements in all the indices primarily Sensex and Nifty. It should be customizable to display the results of all the indices you want to follow. This helps the investors in getting an overall insight of the market sentiments so as to execute his trades accordingly.

Click here to check out various indices available in StockEdge. 

• Reports:  It includes the order book, trade book, margin, net positions, exercise book, and the portfolio. These reports are dynamically updated as soon as any transaction is executed without any need of refreshing them. You can perform various trading actions in the reports itself. These reports can be saved offline as well in a text or CSV format.
   
• Charts: All the trading platforms provide the chart facility nowadays. These charts enable the investor to:
  • Create an intraday tick-by-tick charts with the historical data;
  • Create a chart containing data of multiple companies;
  • Open multiple charts simultaneously;
  • Access unique drawing tools that include the trend line customization and Fibonacci tools;
  • Allows you to create different types of charts such as line, bar, and candlestick;
  • Provides you with a lot of analysis options by using the indicators like MACD, RSI, Williams % R and other indicators useful for analysing the stocks;
  • An option to save the chart offline on your system

Click here to check out charts of Reliance Industries Ltd.

• Market analyser: This feature provides you the information regarding top traded, top gainers, and top losers with the percentage change in total volume and value. It provides you with the names of the shares that touched their highest and lowest in the 52 weeks. It helps in identifying the large trades and gives you an insight into the scrip activities happening in the market.

Various Types of Orders

Online trading platforms, as we discussed in our last unit, have created a whole host of useful tools that simplify trading on the market. Another useful tool is different types of orders. Let us discuss them in this section.

Market orders:

A market order is an order to buy or sell a security at the best bid/ask rate in the orderbook. 

Say for example: Mr. X intends to buy five shares of Mphasis Ltd. If he uses a market order, the trade will be executed at the best ask rate in the order book.

Likewise, a market order to sell five shares shall be executed at the best bid rate.

It is not advisable to place a market order for illiquid stocks.

Limit orders: 

In a limit order, the trader can set a specific price at which he is willing to buy or sell a security. 

For instance, Mr. X intends to buy five shares of Mphasis Ltd at a price of ₹3388.6. He can simply place a limit order and wait for the trade to be executed at the desired price of ₹3388.6 or lesser. 

Likewise, limit orders can also be used to sell the security at a pre-specified price of ₹3388.6 or better.

It is advisable to use limit orders in illiquid stocks or during volatile movements to execute the trade at a favourable price. 

Stop-loss order:

Stop-Loss order is an order where a trader can limit his or her losses by exiting a trade if the stock reaches a specific price. 

When a trader purchases a stock, he expects its price to rise. However, it is equally probable that the stock moves against him. A trader can place a stop-loss order to automatically exit the position when the stock reaches a certain level.

For instance, a trader places a buy order:

• Buy Price- ₹3388.6
• Stop loss - ₹3383.6

In case the price falls below ₹3388.6, say it falls to ₹3383.6. The stop-loss sell order will be executed. When the trigger price is breached, the stoploss order goes into the system order book as a limit order, and is executed. The trader will book a loss of ₹5 per share and exit the trade.

After Market Orders (AMO) 

After market orders are orders that are placed beyond the normal market timings. It is suitable for those investors who are pre-occupied during the day & do not have time to actively track the price of the security.

AMO trades are executed at market opening. The exact timing between which AMOs can be placed varies from broker to broker. The investor can specify the price (limit order) at which he wants to buy the security or simply buy the stock at the prevailing market price (market order).

Based on Time Duration

Also based on time duration, there can be:

1. Good for Day Order – order will be valid only till the end of the current trading session.

2. Good till Cancelled Order – the order is valid until and shall be executed at the desired price unless cancelled.

3. Immediate or Cancel Order (IOC) - The order once placed will be executed immediately, if it is not executed it shall be cancelled. IOC orders might be partially executed. Stop-loss orders cannot be placed using the IOC route.

Placing a buy or sell order: Once you enter all the information correctly i.e., the quantity and type of order, you can go ahead with placing an order by clicking on the “Place” button. It creates an order packet and displays it to you. Then, you need to confirm if the packet is created correctly by clicking on the “confirm button” and once you click on the confirm, your order is sent to the market. A unique numbered Id is created for your order and each order is time-stamped before sending it to the broker.

The broker’s server sends an acknowledgment as soon as the order is received by it. Then, the broker verifies all the details of the order and puts it in a queue for sending it to the exchange. Then, the exchange verifies the particulars of the order and accepts the order if there are no errors. You can also modify your online order to buy or sell the shares once your original order is accepted by the exchange but not executed so far. Once the order is executed you cannot make any changes to your order. 

Another thing to keep in mind is the disclosed quantity feature:

Disclosed Quantity- This feature allows a market participant to disclose to the public only a part of the total quantity he/she intends to purchase/sell. Supposedly, Mr. X wants to buy 5,000 shares of ABC Corporation Ltd. Assuming that the stock is illiquid, such an order can significantly alter the market price of the stock. Instead, Mr. X can simply place 1,000 in the disclosed quantity column to execute the order at a limit price of say ₹102. It is only after the first order has been executed, the screen will show a pending order for another 1,000 shares and so on till the entire order has been executed.

Click here to read about various types of trading orders.

Start Investing in Stock Markets

Now that you are aware of all the crux to get started with your investment in shares. So let us begin.

How to start investing in Stock Markets?

As a beginner, it is important to learn how to evaluate the stocks and pick the right one for you. Not all stocks are a good investment. Some are overvalued or some may have weak fundamentals or poor corporate governance or whatsoever.

Hence, it is important that you identify the shares that can help you earn some profits either in terms of dividend or capital appreciation. For this purpose, it is essential for you to learn stock analysis. It is not rocket science; just a little bit of knowledge and practice will make things easier for you. 

Firstly, you need to learn how to read the financial statements of a company. The objective here is to invest in only fundamentally or financially strong companies.

Ideally, the investors will be more interested in investing in companies with higher profits since higher profits mean higher profit-sharing in terms of dividends. But, some of the companies instead of sharing profits as dividends might retain it for future expansion and growth. This, eventually helps the company to earn even higher profits in the coming years.

Also, higher retained earnings will reduce the dependence of the company on external debt thus reducing the interest expenses and increasing profitability. And higher profitability in turn has a positive rub off on the market prices of the share.

You should look at the past Earning Per Share (EPS) for the company for the past few years to understand the improvement in the market prices of the share.

Also, try avoiding the shares that are overvalued even if the company has strong fundamentals. The best way to check the reasonability of the market price of a stock is by using the Price Earnings Ratio (P/E Ratio) which is obtained by dividing market price of the share with the EPS. There is no standard rule to identify if a company is expensive or not, however, you can set your own rule, for example, if the P/E ratio comes out to be more than 15 then the stock is overvalued and hence, should be avoided.

These are just the two indicators, there are other tools such as dividend yield, current ratios, long term debt ratios, etc. that can help you in making an informed decision. Also, you should keep yourself updated with the current market news and look out for internal and external indicators that can affect the stock prices such as changes in government policies, political changes, company’s management changes, etc.

Here are the various financial ratios that shall help you in making an informed and analysed decision while investing in the stock market:

1.Earnings per share (EPS)

It is the most basic and important financial ratio that you need to know before making an investment in shares. It basically indicates the profits that the company made in the last year divided by the number of shares issued in the market. Preferred shares are not included in the total number of shares while calculating EPS.

Hence, EPS = Net profits (after deducting the dividends paid to preference shareholder)/ total number of outstanding equity shares 

So, while deciding whether to invest in a stock or not, a higher EPS is considered good. It shows the company has the capability to generate higher profits. Also, you should check the EPS for the last five years. So, if the EPS was growing in the past years, then it is a good sign, but if the EPS has been falling for the past few years, then you should avoid such stocks.

Click here to check out EPS of Reliance Industries Ltd.

2.Price to earnings ratio (P/E)

It is yet another important financial ratio while analysing a stock before investment. It helps in ensuring that the stock is not overvalued. A high P/E ratio shows that the stock is overvalued i.e. it is selling for more than its value. Hence, a stock with a lower P/E ratio is considered good.

Price to earnings ratio= Price per share/ earnings per share

You can use the closing price of the previous day and calculate the EPS by the above-mentioned formula to arrive at the P/E ratio for a stock. Usually, a P/E ratio lesser than 15 is considered good. Also, the definition of a higher or lower P/E ratio differs from industry to industry. Hence, you cannot compare the P/E ratio of one company from one industry to another.

Click here to check out P/E ratio of Reliance Industries Ltd.

3.Price to book ratio

This is calculated by dividing the current market price of the share by the book value of the share from the last quarter. It helps in determining how much the investor needs to pay for the net assets of the company. The lower P/B ratio indicates that the stock is undervalued, but again like the P/E ratio this definition varies from one industry to another.

Price to book ratio= Price per share/ Book value per share

Click here to check out the Price to Book ratio of Reliance Industries Ltd.

4.Debt to equity ratio

This helps in measuring the relationship between the borrowed capital (debt) and the shareholder’s capital (equity) in a company. Usually, the lower debt-equity ratio which is less than 1 is considered favourable since it indicates that the company has a stronger equity position and relies least on the outside debt. Whereas the companies with the higher debt to equity ratio (i.e. more than 1) are considered risky. 

Debt to equity ratio: Total liabilities/ Shareholder’s equity

Click here to check out the Debt-to-Equity ratio of Reliance Industries Ltd.

5.Return on equity

This financial ratio calculates the amount of net income that is returned to the equity shareholders. The return on equity ratio helps in measuring the profitability of the company in terms of profit generated by the company by investing the shareholder’s money. It basically determines how good is a company at rewarding the equity shareholders. Usually, the ROE i.e. more than 20% for the past three years is considered good.

Return on Equity = Net Income/Average Shareholder Equity.

Click here to check out the Return on Equity of Reliance Industries Ltd.

6.Price to sales ratio (P/S)

The price to sales ratio helps in measuring the prices of a company’s share in respect of the annual sales. It is very similar to the P/E ratio. It is a more reliable tool than other financial ratios since the sales figure cannot be easily manipulated in comparison to the profits, earnings, or income figures by using various accounting rules.

Price to sales ratio: Price per share/ Annual sales per share

Click here to check out Price to Sales ratio of Reliance Industries Ltd. (Note: Market Cap to Sales is referred to as Price to sales ratio)

7.Current ratio

Current ratio is the critical financial ratio to measure the liquidity of the company. It helps in determining how many current assets does the company owe to cover the current liabilities. A current ratio greater than 1 is generally considered good since the company has more current assets than the current liabilities.

Current ratio = Current assets/ Current liabilities

Click here to check out the current ratio of Reliance Industries Ltd.

8.Dividend yield

This financial ratio helps in calculating the dividend that a share can yield in comparison to the current market price of the share. It is calculated on a percentage basis. 

Dividend yield= Dividend per share/ Price per share.

Click here to check out the Dividend Yield of Reliance Industries Ltd.

Usually, higher dividend yield signifies that the company is out of investment avenues and wants to distribute the retained earnings to its shareholders. 

Click here to check various ratios of Reliance Industries Ltd. 

Besides this, you can also check out our ELM School module on 'Financial Statement Analysis' to get a better understanding of stock analysis for your investments.