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How To Make Money From Dividends -The Right Way

How To Make Money From Dividends -The Right Way?

Everyone who enters the stock market wants to make money from their investments. And in order to do that, first, they need to understand how people really make money from stocks. Basically, there are two ways to make money from the stock market – Capital appreciation and making money from dividends. 

When it comes to capital appreciation, most of the people know this method to make money from stocks. Buy low and sell high. Purchase a good stock at a low valuation and wait until the price goes up. The difference in the purchase and selling price is the profit (capital appreciation).

This is the core principle of value investing. Find an amazing stock at a cheap valuation and hold it for a long time until the market realizes its true/real value.

However, there is also a second method to make money from the stock market which is (generally) ignored by most newbie investors. It is called dividends. In this post, we are going to discuss how to make money from dividends -the right way.

Important terms to learn regarding dividends:

buy low and sell high

Before we dig deeper, first you need to learn few important terms regarding dividends-

Dividends: Dividends are the profits that a company shares with its shareholders as decided by the board of directors.

Dividend yield: Dividend yield is the ratio of annual dividend per share divided by the price per share. The formula for dividend yield is given below:

             Dividend yield = (Dividend per share/ price per share)

For example, if a company gives an annual dividend of Rs 10 and its current market price is Rs 200, the dividend yield of the company will be 10/200 = 5%.

Also read: Dividend Dates Explained – Must Know Dates for Investors

Here are the annual dividends of a few famous companies in India (2017).

  • Hdfc bank – Rs 11 per share
  • Coal India – rs 19.90 per share
  • Hindustan Unilever – Rs 17.00 per share
  • Reliance Industries- Rs 11 Per share
  • Ongc- Rs 6.05 per share

dividends

Now, if you calculate the dividend yield given by the above companies, you may find it very small.

If a company gives a dividend yield of 2% per year, it’s really difficult to build a livelihood using this income, right? For example, if you want an annual income of Rs 2 lakhs in dividends, then you have to invest Rs 1 Crore in that stock. This is not feasible for most of the average Indian investors.

However, there’s an important lesson that you need to learn here—

Dividends increase over time…

This means that a good fundamentally strong company will increase its dividends with time.

For example, if a healthy company gives a dividend of Rs 10 this year and makes more profit in upcoming years, then it will increase its dividends in future.

Another important lesson to learn here is that– your dividends are going to increase. But your purchase price is going to remain constant throughout your holding time frame.

Therefore, if you look at the dividend yield, the numerator (dividends) is going to increase with time. But the denominator (purchase price of the stock) is going to remain constant for you. In short, the dividend yield for that stock is going to increase in future.

Also read: How to Earn Rs 13,08,672 From Just One Stock?

Let us understand this better with the help of an example.

How To Make Money From Dividends?

Suppose you purchased 100 stocks of a company at Rs 200. The annual dividend for that year was Rs 10. So, for the first year, the dividend yield will be 5%. This yield is small here compared to the returns from most of the debt investments. 

Nevertheless, let us assume that the company is fundamentally healthy and going to give a consistent (increasing) dividends in the upcoming years. Here is a table describing the annual dividends in the upcoming years.

Dividend Purchase Price Dividend Yield Total Annual Dividends
YEAR1 Rs 10 Rs 200 5% Rs 1,000
YEAR2 Rs 12 Rs 200 6% Rs 1,200
YEAR3 Rs 15 Rs 200 7.5% Rs 1,500
YEAR4 Rs 18 Rs 200 9% Rs 1,800
YEAR5 Rs 21 Rs 200 10.5% Rs 2,100

Moreover, along with the dividends, your capital will also appreciate in value as you are holding the stock for a long time. In the next 5 years, maybe the purchase price of Rs 200 has now appreciated to Rs 400, 500 or whatever high price.

For the investors, who buy that stock directly in the fifth year (at an appreciated price- let’s say Rs 500), the dividend yield for them might be low. However, as you have purchased that stock long ago at a decent price, the dividend yield will be quite high (even higher than the fixed deposits). From the above table, you can notice the increase in the dividend yield as the dividend increases.

In short, here dividends are allowing you to receive a healthy income without selling your original assets.

Also read: New to stocks? Confused where to begin?  Here’s an amazing online course for beginners: ‘HOW TO PICK WINNING STOCKS?‘ This course is currently available at a discount. 

A few points of concerns regarding dividends:

The biggest point of concern regarding dividend stocks is that dividends are not obligations. This means that the company may reduce or discontinue the dividends in future.

For example, if a company suffers a heavy loss in a year or if the company is planning to invest its profit in some new project/plant, then it might reduce the dividends or do not give any dividends to its shareholders.

Therefore, if you are investing in any dividend stock, then first make sure to look at the dividend history of that company. A consistently increasing dividend for the last 10-12 years can be considered a healthy sign.

Also read:  10 Best Dividend Stocks in India That Will Make Your Portfolio Rich.

Conclusion:

Buy low and sell high is not the only way to make money from the stocks. There are many long-term investors who are generating big wealth through their annual dividends. If you want a good consistent return on your stocks without selling it, then investing in a healthy dividend stock can be a good strategy.

That’s for this post on how to make money from dividends. I hope it was helpful to you. Have a great day and happy investing.

Zerodha Review –Discount Broker in India | Brokerage, Trading Platform & More

Zerodha Review –Discount Broker in India | Brokerage, Trading Platform & More

Zerodha is the biggest discount broker in India and perfect for traders & investors looking for low brokerage and reliable trading platform.

Zerodha offers a zero brokerage for delivery equity & direct mutual fund investments. For all intraday, F&O, currency, and commodity trades across NSE, BSE, MCX, it offers a brokerage of Flat ₹20 irrespective of the trading volume. Therefore, you can save a lot of brokerage charges on your trades using Zerodha as your broker.

In this Zerodha review, we will discuss the brokerage charges, account opening charges, maintenance charges, trading platforms, products, my personal experience of using Zerodha & more. Here are the contents that we’ll cover in this post:

Table of Content

  1. Introduction
  2. Zerodha Brokerage Charges
  3. Zerodha Account Opening Charges & AMC
  4. Zerodha Products & Features
  5. Pros and cons of Zerodha Discount broker
  6. My experience of using Zerodha
  7. How to open your trading & demat account with Zerodha?
  8. Closing Thoughts 

By the end of this post, you’ll have a complete understanding of Zerodha trading services and whether this broker is right for you or not. Let’s get started.

Quick Start: Click here to open your account with Zerodha!

Zerodha Review –Brokerage, Trading Platform & More

1. Introduction

There are two types of stock brokers in India. Full-Service brokers and Discount brokers. The full-service brokers offer a trading platform along with advisory. However, their brokerage charges are high. A few major full-service brokers in India are HDFC Securities, ICICI Direct, Motilal Oswal, etc.

On the other hand, discount brokers offer trading platforms with minimum brokerage charges. Nonetheless, they do not provide advisory services. The biggest advantage of a discount broker is that it saves a lot of brokerages for the traders/investors. On all other prospects, like performance, computerized trading systems etc- both offer similar facilities.

An important point to know here is that all the brokers- Full service or discount brokers are licensed and regulated in India by regulating bodies like SEBI.

Zerodha is a leading discount broker in India in terms of daily trading volume, growth and customer base. It is one of the most technologically advanced and cheap stockbrokers. Zerodha has over +1 million clients and contributes to over 10% of daily retail trading volumes across NSE, BSE, MCX.

Ironically, the term ‘Zerodha’ is derived from the fusion of an English and Sanskrit word. ‘Zero’+’Rodha’ where ‘Rodha’ means barrier. Overall, Zerodha means ‘Zero Barrier’.

It was started by Nitin Kamath, an Engineer by qualification, in 2010. Nithin bootstrapped and founded Zerodha in 2010 to overcome the hurdles he faced during his decade long stint as a trader. He was named one of the “Top 10 Businessmen to Watch Out for in 2016 in India” by The Economic Times for pioneering and scaling discount broking in India. Here are a few of the famous awards won by Zerodha recently:

— National Stock Exchange (NSE) “Retail brokerage of the year 2018”

— Outlook Money “Retail broker of the year 2017”

— Ernst & Young “Entrepreneur of the year (Startup) 2017”

2. Zerodha Brokerage Charges 

Zerodha offers trading services to buy and sell stocks, futures & options in equities, commodities, and currency segment. Here are the Zerodha brokerage charges:

– Free equity delivery

All your equity delivery investments (NSE, BSE), absolutely free — ₹0 brokerage.

– ₹20 intraday equity and F&O trades

₹20 or 0.01% (whichever is lower) per executed order on intraday trades across equity, currency, and commodity trades across NSE, BSE, and MCX.

Type Brokerage Charges
Equity Delivery Rs. 0 (FREE)
Equity Intraday Lower of Rs. 20 per executed order or 0.01%
Equity Futures Lower of Rs. 20 per executed order or 0.01%
Equity Options Lower of Rs. 20 per executed order or 0.01%
Currency F&O Lower of Rs. 20 per executed order or 0.01%
Commodity Lower of Rs. 20 per executed order or 0.01%

Quick note:

1. You can use this Zerodha Brokerage Calculator to get more idea.

2. Apart from brokerages, there are also a few other charges that you have to pay on your transactions like transaction charge, STT, SEBI turnover charges, Stamp duty, GST, etc. You can have read this blog post to understand the different charges while trading in stocks.

3. Zerodha Account Opening Charges & AMC

Here are the account opening charges for Zerodha

  1. Equity Trading Account: ₹300
  2. Commodity Account:₹200

If you want to trade in both equity and commodity, then you need to pay an account opening charge of Rs 300+Rs 200 = Rs 500. Anyways, if you are just interested in trading in stocks i.e. equities, you can open demat and trading for equity account at Rs 300. The demat account annual maintenance (AMC) charge is Rs 300 per year.

 4. Zerodha Products & Features

 Zerodha has built its own trading applications for the customers. It offers different trading terminals, websites, and mobile apps (Android/iOS) which are free for the customers.

— Kite 3.0

zerodha kite dashboard

Kite 3.0 is a modern technology-based trading platform with streaming market data, advanced charts, an elegant UI, and more. It is a minimalistic, intuitive, responsive, light, yet powerful web and mobile trading application offered by Zerodha. Kite provides Bandwidth consumption of fewer than 0.5 Kbps for a full market watch, extensive charting with over 100 indicators and 6 chart types, advanced order types like Brackets and cover, millisecond order placements, and more.

Overall, Kite provides an excellent experience to the users through its groundbreaking innovations presented with hassle-free usability.

— Kite mobile

zerodha mobile app

This is a mobile version of KITE for a seamless experience for mobile-users and available in both Android and iOS devices.

— Coin

Zerodha Coin is a platform that lets you buy mutual funds online directly from asset management companies. This platform is absolutely free since August 24, 2018. Here, you can make your investments without any commissions.

With the help of Zerodha Coin, you can have Direct mutual funds in DEMAT form, with the convenience of one portfolio across equity, MF, currency, etc. Moreover, it also provides a Single capital gain statement, P&L visualizations, and more. This Coin by Zerodha has made investments through SIPs really simple and flexible.

Other Partner Products

Apart from the above products, Zerodha also offers a few other partner programs:

  1. Smallcase: This thematic investment platform is powered by Kite Connect APIs. Smallcase helps users to invest in different themes by intelligently providing weighted baskets of stocks in each theme.
  2. Sensibull: This is an options trading platform which offers simplified options trading for new investors by providing powerful trading tools. Sensibull aims to make options trading safe, accessible, and most importantly, profitable for all.

Besides, Zerodha has also started a few educational initiatives to improve financial literacy and increase the participation of the common people in the financial world. Here are a few other products offered by Zerodha

  1. Zerodha Varsity: An educational platform to educate people about investing and trading. Zerodha Varsity offers free modules on Technical analysis, fundamental analysis, futures, options, risk management, trading psychology & more. Recently, Zerodha Varsity also launched its Varsity mobile app.
  2. Trading Q&A: An online forum powered by Zerodha to answer people’s most troublesome investing and trading questions.

 5. Pros and cons of Zerodha Discount broker

Here are a few advantages and disadvantages of using Zerodha trading platforms:

Pros:

  1. Zero Brokerage Charges for Delivery
  2. Flat Charge for Intraday (Rs 20 or 0.01% whichever is lower per executed order for everything else)
  3. Same pricing for across all exchanges
  4. No upfront fee or turnover commitment
  5. Z-Connect, interactive blog, and portal for all your queries
  6. Trading, charting, and analysis, all rolled into one next-generation desktop platform Pi.
  7. Minimalistic, intuitive, responsive web-based trading platform Kite
  8. No minimum balance required to open Zerodha trading account

Cons:

  1. 3-in-1 account (Saving+Demat+Trading) not available.
  2. Online IPO investment not available.

 6. My experience of using Zerodha

It’s been around three years since I’m using Zerodha and I’m satisfied with the trading services provided by Zerodha.

Initially, I started with ICICI direct as my broker, but later I switched to Zerodha when I realized that I was paying way too much brokerages for my trading transactions. I wished I had switched to discount broker earlier as it could have saved me a lot of ‘unnecessary’ brokerages and trading experience is almost similar. Although I still have both the accounts, I rarely use ICICI direct account to buy stocks now, but rather use Zerodha for making my stock investments.

 7. How to open your trading & demat account with Zerodha?

Here are the documents required to open a demat and trading account at Zerodha: PAN CARD, Aadhar Card, 2 Passport size photos, Canceled cheque/ Saving bank account passbook. (I will recommend keeping photocopies of all these documents ready before you apply for opening the accounts).

To open your trading & demat account at Zerodha, go to Zerodha website and click on ‘OPEN AN ACCOUNT’. Here is the link.

open demat at trading account at 5paisa

Note: You can find the detailed explanation on how to open your demat and trading account at Zerodha here.

8. Closing Thoughts

In the past decade, Zerodha has earned trust and respect among the trading population by providing reliable and technologically advanced trading services. It is definitely the largest discount broker in India. If you are looking to open your brokerage account with a reputable brand which offers low brokerages, and have a fast trading platform, Zerodha is definitely one of the best options.

That’s all for this post. I hope this Zerodha review is useful to you. Let me know what is your review of Zerodha in the comment section below. Have a great day!

Do You Need a Finance Degree For a Career in Stock Market cover

Do You Need a Finance Degree For a Career in Stock Market?

The finance industry in India has been growing at a very fast pace since last two decades. And along with the growth in the industry, there’s also a boom in job opportunities and enthusiasts willing to work in this field.

Although there are many job opportunities available in the stock market, however, one of the most frequently asked questions is- “Can a student from non-finance degree get a job on Dalal street?” How much relevant is having a finance, commerce or business degree to land a job in the world on the stock market.

Well, the short answer to this question is that you do not need a finance or business degree to get all the jobs in the stock market. A lot of financial companies hire employees from Engineering, mathematics, science, computing or economics background. In the era of internet technology, most of the financial giants are looking more for the skills and the aptitude of the candidates rather than just the degree.

Anyways, there are still a few careers in the market like Investment Banking, Equity Research, Risk Management, Investment Management, etc where a special skill set and expert knowledge of finance is required and having a degree can give an advantage to the candidates.

Nonetheless, having or not having a finance/commerce/business degree is just the starting point. There are a lot more things that you need to know if you want to build a career in the stock market industry which we are going to discuss in this post.

It’s always beneficial to have a background in Finance

When you have a background in finance, business, accounting or commerce, you already have got a minor exposure to the investing world. You might already know the lingo and familiar with the frequently used terms in the stock market like dividends, assets, liabilities, etc.

On the other hand, most of the non-finance guys are not even familiar with the most common terms of the market. Moreover, they find reading and understanding financial statements is quite challenging compared to people with a finance background.

Getting a job at Dalal Street Market

In a scenario where you are appearing in a job interview for a financial position, knowing these financial terms can help you impress the interviewer or at least not feeling like a dumb one. Besides, as stated, in a few financial positions, the interviewers create a barrier by shortlisting only candidates with a graduate degree in finance, commerce, business or accounting. And in all these cases, having a degree can be advantageous for you.

Moreover, if you want to become a SEBI registered investment advisor or research analyst, you will require an educational qualification of graduate or post-graduate degree in finance/accounting/commerce, etc. If you don’t meet the educational qualification, you cannot become a SEBI registered advisors/analyst and hence can’t have a career in the advisory field.

Overall, if you’re planning to become an investment advisor/research analysis, you’ll require a degree in these fields. Nonetheless, you can always enroll in post-graduate degrees of one or two years to get the degree and meet the educational qualifications.

Also read: What are the Different Career Options in Indian Stock Market?

Managing your own portfolio

When it comes to trading & investing or managing your own portfolio, you don’t require any degree.

Anyone can open their trading accounts and start trading in stocks. Many engineers, math/science major, arts graduate or even people who don’t have any degree have been investing successfully and made a huge fortune from the market. A lot of successful stock market traders/investors do not have any background in finance or never did any course in this field. One of the best examples is Charlie Munger, a successful stock investor and vice-chairman of Berkshire Hathaway.

In short, if you are not interested in a 9-to-5 job or career in the Dalal street and just want to trade in stocks on your own, you won’t require any degree or certification. Here you can make money by using your knowledge and skill sets.

What to do when you don’t have a degree in Finance/Commerce?

It’s often said that Self-Education is the best form of learning. Even though if you do not have a degree in finance, you can learn the skills and impress the interviewer with your enthusiasm to master the market.

Start by learning the lingo. It’s really important to know financial terms if you want to break the initial barrier of entering the stock market world. Know the most frequently used investing terms and how to read the financial statements.

Further, if possible, take a few online courses to learn the trading/investing concept. Attend local investing workshops, seminars, etc. It would be best if you can find a mentor. Expand your knowledge base and try simulating platforms to trade in stocks without risking your money. And finally, try to land an internship in the finance company so that you can have a real experience of how things work in this industry.

Closing Thoughts

Most people believe that a career in stock market is only for the people with finance or business background. But this is not true. Do not stop yourself from entering the exciting world of the stock market just because you do not have a finance degree. Here, having a skill set is more important compared to a degree. Moreover, even if you do not have a graduation degree in Finance/Commerce, you can go for reputed financial certifications like CFA, FRM, PRM etc that will put you on the same position as those with degrees.

My final advise will be to focus on enhancing your skills and acquiring specialized knowledge. This will help you more in building your dream life than chasing over degrees.

How to Develop a Stock Investor Mindset cover

How to Develop a Stock Investor Mindset?

If you want to make a significant amount of money from the stock market, it is crucial to develop a healthy stock investor mindset. However, the problem is that most people never learn this skill set as neither it is taught in schools nor colleges. Even the best degrees in finance or MBA do not honestly explain how to invest in stocks and make money from it smartly.

Only a minority population is fortunate enough is born in the family of the investors or whose close ones have been investing efficiently in stocks or mutual funds. For the rest, they always have to start from the ground zero level, without any proper guidance or mentorship.

Therefore, when it comes to developing a successful stock investor mindset, it is the responsibility of the individual to learn this skill-set themselves. If you are one of those who has never invested in the stock market and struggling to build an investor mindset, this post can be useful to you.

In this article, we are going to discuss how a beginner can develop a successful stock investor mindset.

Stock market gives us all an amazing opportunity…

There are thousands of companies publicly listed in stock exchanges. And hence, the stock market allows everyday investors like us to buy the shares of those company and get a piece of ownership.

From big Indian companies like Tata, Reliance, Wipro, ITC, etc. to Global giants like Apple, Google, Facebook, Samsung, etc. You can invest in any public company that you like through a stock exchange. All these companies are professionally managed and give employment to hundreds of people. And by investing in these companies through the market, you can become a part-owner and shareholder.

The first step of building a successful stock investor mindset is by appreciating the fact that we are given a fantastic opportunity as an investor. And if you are not investing in stocks, you are missing an excellent opportunity to become one of the owners of the best of best companies and also be a part of the growing economy.

The majority of the investing population never appreciate this fact, and hence they end up just trading stocks entire day and never owning the stock of an amazing company that they believe in.

How to develop a stock investor mindset?

My first advice for you to develop a stock investor mindset would be to read books.

However, this is a bit of obvious advice, right? And you are not reading this post for getting an obvious answer. Therefore, I won’t write an article of 1,000 words on the best investing books to read today. Anyways, if you are interested in reading a few good investing books, you can check out this list of 10 must-read books for stock investors.

My second advice would start watching investing videos on Youtube. This is again a piece of obvious advice. However, a great benefit of watching videos on Youtube (which people forget) is that they’re FREE. And therefore, I thought to mention this point in this post.

A few great Youtube Channels to follow to learn stock investing in Indian are FinnovationZ, Pranjal Kamra, Nitin Bhatia, Varun Malhotra, Sunil Minglani and of course Trade Brains’ Youtube Channel.

Now that we have discussed the apparent answers, let’s move forward to a few fun and easy tips to help you build an investor mindset.

Here are a few essential tips to help you build a stock investor mindset:

1. Keep investing apps on your phone:

Now and then during your day, you get some time off your work. Maybe during lunch, coffee break or while traveling to and fro from your work through metro or cab. You can use this time to develop your investor mindset.

Keep a few good investing and news app in your phone to remain updated with the investing world. A few useful apps that I recommend to stay updated with the market for beginners will be Moneycontrol or Economic times market. A quick tip- do not fill your phone will dozens of stock market app as it will burn you out to check them all. Instead, have one or two good apps which you can get comfortable with.

Also read: 7 Best Stock Market Apps that Makes Stock Research 10x Easier.

2. Join online forums/Whatsapp/Telegram Group

Joining active online forums will keep you in the loop regarding what’s happening in the market and what other’s are saying. Needless to mention that you should never invest based on a post in these forums/groups without researching. However, there are a lot of genuine contributors to these forums who are willing to share their knowledge and findings with the group members.

Find a few good forums/groups that suits you and join them. A few active online forums for the Indian stock market is ValuePkr, TradingQ&A, Rakesh Jhunjhunwala forum, Traderji & Trade Brains’ forum.

3. Enroll in courses

A lot of people envy online courses and want to learn to invest for free. But if you can spend lakhs of rupees in college tuition fee, thousands of rupees in buying books, then why not also spend some money for enrolling in investing courses that can help you get financial literacy.

How is spending money for enrolling in courses different from spending money on buying books? Both give you the knowledge, right? One of the vital step to enhance your stock investor mindset is by enrolling in a few right courses to learn the investing skills.

4. Mastermind

Although joining forums/WhatsApp groups etc. will help you in masterminding. However, it is equally important to surround yourself with people interested in similar activities as of you. This will encourage and help you keep motivated towards your goal. Find a few people with whom you can hang out and discuss your investment queries.

5. Attend local investing workshops/Conferences

If you are living in a big city, the chances are that you can easily find a few good investing workshops/conferences happening in your locality. Just by doing a simple google search, you can find a list of such events. On the other hand, if you live in a tier-2 or 3 cities, then you might have to plan a visit to your nearest big city to attend such conferences.

Attending investing workshops and conferences is another fantastic way to learn new skills, keep yourself surrounded by like-minded people and ask your most troubling questions with the experts. And if you can regularly attend a few investing workshops/conferences in a year, it will help you build a winning investor mindset.

Closing Thoughts:

No matter how common a skill might look like cooking, driving or swimming, it takes time and practice to become an expert in that skill. Just think about how many swimming lessons you took before diving in the 8-ft deep water.

Similarly, you cannot develop an excellent investor mindset in a day or week. You need to put time and efforts. Moreover, consistency is key here. Always remember, he who wants the most wins. If you’re going to become a successful investor, be consistent and keep learning.

That’s all for this post. I hope it is useful for you. Cheers!

21 Do's and Don'ts of Stock Market Investing for beginners cover

21 Do’s and Don’ts of Stock Market Investing for Beginners

Making money from stocks is simple if you strictly follow the do’s and don’ts of stock market investing. However, because of the lack of financial education, the majority of the investing population do what they are not supposed to ‘do’ in the market and vice-versa.

For example, the first and foremost rule to invest intelligently in stocks is to ‘not speculate’, but invest only after proper research. However, most people speculate in stocks and bet that the share price will go high in the upcoming days without any significant analysis.

In this post, we are going to discuss the do’s and don’t of stock market investing for beginners. Let’s get started.

21 Do’s and Don’ts of Stock Market Investing for beginners.

Do’s of Stock Market Investing

Here are a few of the do’s of stock market investing that every investor should follow:

1. Get an education

stock market meme 35

This is probably the most relevant do’s of stock market investing. If you really want to become a successful stock investor, start learning the market.

It doesn’t mean that you should enroll in a college program/degree. Self-education is the best way to learn. There are tons of free information available on the internet which you access to learn the market. Moreover, if you want to get a head-start, you can also enroll in a few good online stock market investing courses. Let the learning begin.

2. Start small

If you are just starting to learn how to swim, you won’t jump in 8 ft deep water, right? Similarly, when beginning to start investing in the stock market, start small. Invest the lowest possible amount and gradually increase your investments as you get more knowledge and confidence.

3. Get started early

I cannot emphasize enough on the importance of getting started soon with your finances. Time is in your favor when you start investing early. Moreover, here you get enough time to recover even if you make some losses during the early time of your investment journey.

Also read: Bunty and Babli: A financial story of how Bunty lost Rs 1,29,94,044!

4. Research before investing

One of the key reason why people do not make money from stocks is that they do not put the initial efforts before investing in the share. Every investor needs to research the company before investing. Here you need to learn the company’s fundamentals, financial statements, ratios, management and more. If you do not want to regret later, research the company first before investing.

Also read: How To Select A Stock To Invest In Indian Stock Market For Consistent Returns?

5. Only invest what is surplus:

Stock market gives an immense opportunity to invest in your favorite companies and make money. However, there are always a few risks involved in the market, and no returns are guaranteed. Moreover, many times a bad (or bear market) may even last for years. Therefore, you should only invest the surplus money which does not affect your lifestyle even if you can’t get it out.

6. Have an investment goal

It’s easier to plan your investments (and to monitor your progress) if you have an investment goal/plan. Your goal may be to build a corpus of Rs 10 Crores in the next ten years or to build a retirement fund. Having a goal will keep you motivated and on track.

7. Build a stock portfolio

For making good consistent money from the stock market, just having two or three stocks is not enough. You need to build a winning stock portfolio of 8–12 stocks which can give you reliable returns.

Although it’s very less likely that you can find all the fantastic stocks to invest at once. However, year-after-year you can keep adding/removing stocks to build a strong portfolio which can help you reach your goals.

8. Average out:

It’s challenging to time the market and almost impossible to buy the stock at the exact bottom and sell them at the highest point. If you’ve done it, you might be lucky. A better approach here is to Buy/Sell in ‘steps’ (unless you find an amazing opportunity which the market offer sometimes).

9. Diversify

“Do not put all your eggs in one basket!”. The risk involved while investing in just one stock is way higher compared to a portfolio of ten stocks. Even if one or two of your stock starts performing poorly in later scenario, it may not affect the entire portfolio too much. Your stock portfolio should be sufficiently diversified.

10. Invest for the long-term

It’s a common fact that all the veterans of the stock market who made an incredible fortune from stocks are long term investors. But why do long-term investing helps to build wealth? Because of the power of compounding, the eighth wonder of the world. If you want to build massive wealth from the market, invest for the long-term.

stock market meme 31

11. Hold the winners, cut the losers

Cut you losing stocks if they underperform for a long time and hold your winning stocks longer to allow them to offer even better returns. This is the golden mantra of investing that you should strictly follow. Moreover, keeping your winners and cutting losers will also help in building your dream portfolio.

Also read: The Biggest Investing Mistake that 90% Beginners Make!

12. Invest consistently

Most people get excited and enter the stock market when the market is doing well, and the indexes are touching new highs. However, if you only invest in a bull market and exit when the market is down i.e. when stocks are selling at discount, you will never find fantastic opportunities to pick cheap stocks.

Do not invest in the market just for a year. If you want to make good money from stocks, invest consistently and periodically increase your investment amount.

13. Have Patience

Most stocks take at least 1–2 years to give good returns to the investors. Moreover, the performances get better when you give more time. Have patience while investing in the share market and do not sell your stocks too soon for short term gratification.

Don’ts of Stock Market Investing:

14. Don’t take investing as gambling

Let me repeat this in simple words- “INVESTING IS NOT GAMBLING!”. Do not buy any random stock and expect it to give you two times return in a month.

stock market meme 4

Also read: 5 Signs That You are Gambling in Stocks.

15. Don’t invest blindly on free tips/recommendations

The moment you open your trading account, you’ll start getting free messages on your phone with BUY/SELL calls. But remember, there is no FREE lunch in this world. Why would anyone send a stranger free tips for multi-bagger stocks? Never invest blindly on free tips or recommendation that you receive, no matter how appealing they may sound.

16. Don’t have unrealistic expectations:

Yes, many lucky guys in the market have made 400–500% return on their single investment. However, the truth is that these kinds of news get quickly circulated (and inflated).

Have a realistic expectation while investing in stocks. A return between 12–18% in a year is considered good in the market. Moreover, when you compound this return over multiple years, you will get way higher returns compared to 3.5% interest on your saving account.

Further, do not assume that you can get the same profits as others, who might be investing in stocks from many past years and may have acquired an amazing skill set. You can also get similar returns, but only after enough knowledge and practice.

17. Don’t over trade

When you are trading frequently, you are repeatedly paying for the brokerage and other charges. Don’t buy/sell the stocks too often. Take confident decisions and make transactions only when necessary.

18. Don’t follow the herd

Your colleague purchased a stock and made 67% returns from it within a year. Now, he’s boasting about it, and many of your office-mates are buying that stock. What would you do next? Should you buy the stock? Wrong!

No investor can get significant success from the market by following the herd. Do your own research, rather than following the crowd.

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19. Avoid psychological biases/traps

There are a lot of physiological biases while investing that can adversely affect your investment decisions and your ability to make effective choices. For example- Confirmation Bias, Anchoring bias, Buyer’s Remorse, Superiority trap, etc.

Most of these biases are pre-programmed in human nature, and hence it might be a little difficult to notice them by the individuals. Anyways, knowing these biases can help you to avoid them causing any serious damage. Moreover, a good thing regarding these biases is that — like any habit, you can change or get over them by practice and efforts.

Also read: 5 Psychology Traps that Investors Need to Avoid!

19. Don’t take unnecessary risks

Investing all your money in a hot stock/industry to get a little higher return is never a wise move. Safeguarding your money is equally important than getting high returns. You should never take unnecessary risks while investing in stocks and your ‘risk-reward’ should always be balanced.

21. Don’t make emotional decisions

The human mind is very complex, and there are many factors both internal and external that can affect the choices we make. While investing in the stock market, do not take emotional decisions. No matter how much you like a company, if it is not profitable and doesn’t have a bright future potential, it may not be the right investment decision. Do not get emotional while making your investment decisions.

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Bottom line:

In this post, I tried to cover the do’s and don’ts of stock market investing for beginners. However, this is just a guide and not a manual. You will learn more do’s and don’t through your personal experiences when you start investing on your own.

I hope this article is useful to you. Have a great day and happy investing!

10 Questions to Ask Before Purchasing a Stock - Investment Checklist cover

10 Questions to Ask Before Purchasing a Stock - Investment Checklist!

Picking a winning stock that can give consistent returns for many years requires a lot of analysis and research. However, you can simplify the research process if you have an investment checklist.

Having a reliable checklist for picking stocks can reduce the chances of missing an important detail that you should have studied before investing in the stock. As Charlie Munger, Vice-Chairman of Berkshire Hathaway has famously quoted:

“No wise pilot, no matter how great his talent and experience, fails to use a checklist.” — Charlie Munger

In this post, we are going to discuss ten key questions to ask before purchasing a stock by every stock investor. Let’s get started.

Quick Note: Although there are hundreds of points to check while picking a stock to invest, however, most of them can be categorized among the ten questions listed below. Anyways, by no means, I claim that this is the best checklist for picking stocks. My suggestion would be to study the investment checklist given below, improvise and make your own list of questions. Further, for simplicity, I’ve not included financial ratios.

10 Questions to ask before purchasing a stock.

Here are the ten key questions that every investor should ask before investing in a stock.

1. What does the company do?

What are the products/services that the company offer? Do you understand the company’s business model? How does the company actually make money? What are the top/best-selling products of the company?

2. Who runs the company?

Who are the promoters/owners of the company? It the company a family owned or professionally managed one? Who is managing the company? What are the credentials/background of CEO, MD, Board of directors and the management team? What is the shareholding pattern of the company?

3. Is the company profitable?

How much profits did the company generated in the last few years? How are the company’s gross, operating and net profit and what is the profit margin at each level? Is the profit of the company growing over time or stagnant/declining?

4. Does the company have a sustainable competitive advantage?

Does the company have a moat like intangible assets, customer switching cost, network effect, cost advantages or any other sustainable competitive advantage that can keep the competitors away from eating their profits?

5. How was the past performance of the company?

How is the company’s financials in the past few years? What’s the trend in the company’s income statement and cash flow statement? How are the sales, EBITDA, Cash from operating activities, free cash flow and other financial metrics over the past few years?

6. How strong is the company’s balance sheet?

Are the assets of the company growing over time? How much is the liability of the company? Is the company’s shareholder equity increasing? How much cash do the company have on the asset side? How much is the company’s Intangible assets, Inventories, Receivables, Payables and more? Does the company invest in its Research & Development, especially in a few sectors like Technology, Pharmaceutical etc?

7. Was the management involved in past fraud or scams?

Was the company’s promoters or management involved in any past scam? Does the company has any history of cheating the shareholders or any past penalty by SEBI?

8. Who are the key competitors?

Who are the direct and indirect competitors of the company? What is the market share of the company vs the competitors in the industry? What this company is doing differently compared to its competitors? Are there any global competitors or the possibility of global leaders entering the same market anytime soon?

9. How much debt the company has?

How much short-term and long-term debt the company has? Does the company generate enough profits or Free cash flow to cover the debt in the upcoming years? Have the promoters pledged any of their shares?

10. How is the stock valued?

What is the true intrinsic value of the company? Is the company currently over-valued, under-valued or decently valued? Is the company relatively undervalued compared to the competitors and industry? What is the calculated intrinsic value by different valuation method? How much is the margin of safety? Will you be overpaying if you buy the stock right now?

Also read: How To Select A Stock To Invest In Indian Stock Market For Consistent Returns?

Closing Thoughts:

Although getting a recommendation or investing where friend/colleague suggested may land you into a few profitable deals. But if you want to make consistent returns from the market (and not just being lucky), you need to build your own trustable investing strategy.

It’s true that picking a winning stock required a tremendous amount of research. However, having an investment checklist of questions to ask before investing in stock significantly reduce the chances of investing in fundamentally weak stocks. Moreover, you can easily eliminate over 90% of the companies who don’t meet your checklist.

I hope the questions discussed in this post is helpful to you. If I missed any additional important to ask before purchasing stock in this investment checklist, feel free to mention below in the comment box.

That’s all. Have a great day and Happy Investing!

Over Diversification cover

Why Over-Diversification can be Dangerous for your Stock Portfolio?

“Wide diversification is only required when investors do not understand what they are doing.” — Warren Buffett on Diversification

If you read any investing book or listen to a popular investment advisor, the first tip that most of them will give you is to diversify your portfolio. “Do not put all your eggs in one basket!!

At first glance, this tip sounds logical. After all, risks involved while investing in just one stock is way higher compared to if you diversify your investments in ten stocks. However, the problem occurs when people over diversify their portfolio.

Over-diversification is a common mistake among the investing population. In this post, we are going to discuss what exactly is over-diversification and how over-diversification can be dangerous for your stock portfolio. Let’s get started.

What is diversification?

A diversified portfolio is investing in different stocks from dissimilar industries/sectors in order to reduce overall investment risk and to avoid any damage to the portfolio by the poor performance of a single stock.

Ideally, a retail investor should hold stocks between 3 to 20 from different industries and sectors. However, personally, I believe 8–12 stocks are sufficient for a diversified portfolio. It’s crucial that your portfolio is sufficiently balanced as ‘over’ and ‘under’ diversification are both dangerous for the investors:

  • Under diversified portfolio has more risk as the poor performance of a single stock can have an adverse effect on the entire portfolio.
  • On the other hand, over-diversified portfolio gives low returns and even the good performance of a few stocks will lead to a minimum positive impact on the portfolio.

Ironically, Peter Lynch described it as ‘diworsification’ highlighting inefficient diversification, in his best-selling book ‘One up on the Wall Street’.

Why do people over diversify?

Over diversifying simply means owning an excessive number of stocks in your portfolio. If you are a retail investor and holding 30–40 stocks or more, you are over-diversifying your portfolio. Now, the next question is why do people over diversify their portfolio.

The most common answer can be that a lot of investors do not even know that they are over-diversifying. They just keep buying stocks following the famous traditional tip written in popular books i.e. diversify to reduce risk. They believe that having more stocks is good for their portfolio.

A similar thing happened to me during my rookie days. At one time, I had 27 stocks in my portfolio. Out of them, I had invested almost equally in among 18 stocks and the rest 9 were trailing stocks which contributed only a minor portion of my portfolio.

Although the returns from many of my holding stocks were high, however, the overall return on my portfolio was not that big during that period. Anyways, after a few months, when I analyzed my portfolio to understand why this was happening, I found the answer. I over-diversified my portfolio. In the upcoming months, I slowly reduced the number of my holding stocks from 27 to 14, keeping only the best ones which I was confident about.

Quick Note: An amazing book that helped me to understand that the concept of over-diversification is flawed was reading ‘The Dhandho Investor’ by Mohnish Pabrai.

The principle that I liked the most in this book was ‘Few bets, big bets, and infrequent bets’. Here, Mohnish Pabrai suggests that you do not need to make frequent bets. Every once in a while, you’ll encounter overwhelming odds in your favor. In such times, act decisively and place a large bet. If you haven’t read ‘The Dhandho Investor’ yet, I would highly recommend you to read this book.

Security

Another big reason why people over-diversify their portfolio is to have ‘security’. Buying a large number of stocks helps in spreading investment risks over many instruments.

If you diversify your portfolio with multiple stocks, you’re less likely to experience major drops. This is because the possibility of all the stocks underperforming at a particular time is quite less. When some of your stocks are having tough times, others may be out-performing. Hence, efficient diversification helps is maintaining consistent overall portfolio performance.

For defensive investors, security may be a reason for over-diversifying. It definitely reduces the risk, but it also decreases the expected returns. High returns on your best stocks will be always balanced out with the majority of average/losing stocks.

Why over-diversification can hurt your stock portfolio?

By now, you might have vaguely understood the concept of over-diversification, let’s discuss why over-diversification can hurt your stock portfolio.

  • Low expected Returns

Over diversifying or adding too many stocks to your portfolio reduces the risk, but it also reduces the expected returns. Let’s understand it better with the help of two extreme situations.

When you own 2 stocks, your portfolio is associated with high risk and high expected gains. On the other hand, when you own 100 stocks, your portfolio risk is low, but your expected gain is also lower.

Over-diversification is a point where the loss of expected return is higher than the benefit of reduced risks. For a well-diversified portfolio, you need to find the sweet spot where you neither own too many stocks nor too few.

  • Tracking them all is difficult

In order to efficiently monitor your invested stocks, you need to evaluate their quarterly reports, annual reports, corporate announcements, latest news related to the companies, etc. If you are holding 30 stocks in your portfolio, monitoring them all can be really difficult, especially for the retail investors who have a full-time day job.

On the other hand, if you are holding just 10 stocks in your portfolio, monitoring them doesn’t take too much time or efforts. However, when the number of holding stocks increases, the chances of missing important news/announcement related to your invested stocks gets higher.

  • Duplication or inefficient diversification

Diversification means owning different companies from different industries or sectors. For example, one stock from automobile sector, two stock from technology industry, one stock from pharmaceutical, two from banking, two from energy sector, etc.

However, if you’ve bought 5 banking stocks out of 10 stocks in your portfolio, you haven’t diversified your portfolio effectively. Over-diversification often leads to owning similar companies in your portfolio.

Closing Thoughts

The majority of the investing population are given flawed tip to immensely diversify their stock portfolio. However, following this strategy is quite dangerous for retail investors. Your portfolio should be sufficiently diversified, not ‘over’ or ‘under’ diversified.

That’s all for this post. I hope it was useful for you. Happy Investing!

How to eat an elephant? One bite at a time cover

How to eat an elephant? One bite at a time!

Desmond Tutu once wisely said, “there is only one way to eat an elephant: a bite at a time.”

In other words, what he meant to say was that even an enormous goal can be achieved if you take a little step at a time. Bit by bit, bite by bite, you’ll make possible what at first seemed impossible. Most people fail to achieve a massive goal because they try to eat the whole elephant at once.

Your financial goals are similar to eating an elephant. And in order to reach those goals, you need to take one step at a time!

Goal Setting:

The biggest factor for turning your dreams into reality is goal setting. No matter how big the goal, if you can set it, put a timer and start working on it, you can achieve the goal eventually.

Personally, I’ve two goals for the next five years. First, to turn my venture ‘Trade Brains’ into a massive online education platform which can provide financial literacy to thousands of investing population. And my second goal is to write a book. My long-term financial goal is to achieve FIRE- Financial freedom and retire early as soon as possible.

For those who know me, you might have watched me working on this blog ‘Trade Brains’ for over two and a half years now. I always knew that the path is not easy. But bit by bit, I’ve been adding investing lessons which can be useful for the beginners as well as matured investors. Similarly, for my long term goal of financial independence and early retirement, I have been working hard and investing consistently.

My investment strategy is simple. I do not try to get huge returns for a year or two by investing aggressively. I prefer consistent decent returns because I know that the power of compounding is in my favor. Time is the biggest friend for those who start investing early.

Now, why I’m telling you all this?

Similar to my goals, you might also have a gigantic dream of eating an elephant. Maybe you aim to build a huge retirement corpus or to buy your dream house on a beach across western ghats in India or to become a successful investor. And if you want to achieve these goals, you also need to take one step at a time.

If you want to learn how to invest intelligently and become victorious in investing, take your first step. Buy your first investing book and read it. Then read the second book and continue the process. You certainly won’t become an expert investor in a year or two. But with time, practice, and efforts, you will get better than 99% of the investing population.

In a similar way, if you want to build a huge corpus, let’s say for your retirement, you definitely cannot build this huge corpus by a few profitable investments. You need to be consistent in your investment strategy.

I receive a lot of emails from people asking for recommendations of hot stocks that can give them huge returns in the next six months or a year. But setting small goals and investing for six months won’t help in achieving a massive goal. Maybe you’ll win and get good returns on that stock. But this one-time return won’t make you any richer. You’ll probably remain at a similar financial situation compared to where you were last year. For achieving your financial goals, you need a reliable strategy that can give you consistent returns year after year, not just one-time big return by fluke.

It doesn’t matter how big your first few bites are, you cannot eat an elephant with a few big bites. Similarly, no matter how big the returns are, you cannot build your dream corpus in a year or two. Consistent returns are the steps to achieve your goals.

A few other tips to help you eat that elephant

Now that you have understood how to eat an elephant, here are a few other tips that can help you further:

— Set SMART Goals: Setting a smart goal is the first step towards achieving your massive goal. Often, SMART goal is described as (S)pecific, (M)easurable, (A)uthentic, (R)elevant and (T)ime bound

— Start breaking into small pieces: Even the biggest of the objects can be broken down into small atoms. Once you have set your goal, start breaking it down into small pieces. For example, if you are building a retirement corpus, find out how much you’ll need to invest yearly, monthly or even weekly to reach your goal in the desired time frame.

— Stick to the plan: “A goal properly set is halfway reached.” However, the next half is to stick with the goal– which is the toughest. If you are planning to build a corpus of Rs 10 crores in the next 30 years by investing in mutual funds, stick to your investment strategy. Do not stop your SIPs in between because of small-term market corrections.

— Celebrate small wins: Periodically measure how close you are to your goal and each time you reach a milestone, celebrate it. Achieving a massive goal will take time, and enjoying the small wins will keep you motivated to take your next bite.

— Mastermind: Probably the most important but often ignored tip. Keep close to people who encourage you and from whom you can learn. Surround yourself with people having similar goals as that of yours.

Closing Thoughts

The biggest mistake that people commit while chasing a massive goal is taking huge bites initially and try to eat the whole elephant at once. This eventually leads them to burn out too soon. Nonetheless, any big, enormous goal can be achieved by breaking it into small pieces and taking small steps.

Before we end this post, here is the final tip. Enjoy the journey. It’s gonna take time to achieve a huge goal. And enjoying is really crucial if you want to keep going.

That’s all. Take care and talk soon!

PROS & CONS OF dividend investing cover

Dividend Investing: Pros and Cons That You Should Know

One of the most popular ways to generate income from stocks is dividend investing. Here, the investors enjoy the benefits of dividend income along with capital appreciation.

Anyways, if you are new to dividend investing, let me give you a brief introduction.

Dividends are basically a portion of income that a company distributes to its shareholders. Dividend investing means investing in those stocks which give high consistent dividends to their investors.

For example, in the last financial year (Mar 2018), HPCL gave a dividend of Rs 17 per share to its shareholders (Dividend yield=3.8%). Therefore, if you were holding 100 shares of HPCL company in your portfolio 2018, you would have received Rs 1700, credited directly into your bank account without selling even a stock.

A lot of equity investors invests in stocks just for the dividends. Dividend investing is a good way to earn secondary income along with enjoying the capital appreciation for your invested stocks. When invested correctly, investors can earn amazing income through dividends. (Also read: How to make money from dividends- the right way?)

In this post, we are going to discuss the pros and cons of dividend investing that you should know before making your investment in dividend stocks.

Pros of investing in Dividend Stocks:

Let’s start with the pros. Here are a few best advantages of investing in dividend stocks:

1. Passive Income:

This is probably the biggest advantage of investing in dividend stocks. You can treat dividends as a passive income- which means getting paid without doing any work. For the people looking for a few alternate secondary sources of income, dividend investing is the answer.

Anyways, for making passive income through dividend investing, initially, you need to put big efforts to find good dividend stocks. However, once the work is done, you can enjoy the passive income for multiple years.

2. Double Profits:

If your invested stock goes up by 30% in the next 3 years, and you received a dividend yield of 3% per year from the same stock, the combined profits are way higher than just the capital appreciation. Here you can earn double profits compared to investing in companies that don’t give any dividends.

3. Hedge against bad markets:

Everyone makes money in a rising market. However, the scenario is different when the market turns sour.

In the bear market or corrections, the share price of a lot of your favorite stocks may fall. And hence you might not be able to make a good return from capital appreciation of stocks. However, if you have picked right dividend stocks in your portfolio, you can enjoy a decent dividend income even when your portfolio is down.

Further, dividend stocks are generally big matured companies and hence are less influenced by a bear or speculative market. Investing in these companies can provide a good hedge to your investment from a bad market. In addition, dividend investing also helps in capital preservation. Even if the stock price of your invested company doesn’t go up, if you are getting regular high dividends, you will be able to preserve your capital.

4. Steady Income:

Profits from stocks are only on ‘paper’ unless you sell them. This money is not in your bank account. The profits/loss are unrealized until the final settlement i.e. selling the stock. However, dividend stocks add steady income in your pockets without worrying about selling any stock.

5. Dividend Reinvestment:

You can use the dividends that you receive from stocks to buy more stocks and reap the benefits of dividend reinvestment. Else, you can use that money to invest in any alternative investment options like Bonds, gold etc if you want to diversify your portfolio. Once you get the money back in your account, you have immense options to re-invest them back in whichever investment option that suits you.

6. Long-term investment: 

One of the best strategies to make money from stocks is the same old philosophy of ‘buy and hold’. However, while investing for the long term, there may be a number of situations where the investors may be in the need of a few extra bucks. Here, selling stocks may be the only option available to them if they want to make money from their invested stocks.

Nevertheless, as dividend stocks offer a steady income stream, investors may prefer to hold the stocks longer and enjoy the benefits of long-term investing.

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Cons of investing in dividend stocks:

No investment strategy is perfect and the same goes with dividend investing. Here are a few biggest disadvantages of investing in dividend stocks:

1. Low-growth companies

Most growth companies do not give dividends to their shareholders as they reinvest their profits in expanding their businesses like opening new plants, entering new cities, buying new machinery, acquiring small companies, etc.

On the other hand, big matured companies do not have so many opportunities and hence they offer a large profit to their shareholders. While investing in dividend stocks, the investors may be investing in low growth companies which may not always offer high returns.

2. High dividend payout risks

High dividend payout means that the company is distributing a major portion of their profits to their shareholders. For example, if a company made a profit of Rs 100 crores in a financial year and shares Rs 85 Crores as dividends, this means that the dividend payout ratio is 85%.

At first glance, it may sound favorable for the shareholders. After all, they are getting a major portion of the profit as dividends. However, in the long run, it may not be advantageous for investors.

Think of it from the other angle. When the company is not retaining enough profit for itself, it doesn’t have any big money left for reinvesting in its growth. And if the company is not reinvesting enough, it may face problem to grow, compete with the rival companies or even to retain the same net profit in upcoming years. Moreover, if the company doesn’t grow or increase its profits, it can’t add more value or increase dividends for the shareholders in the future.

3. Double Taxation

Companies pay Dividend distribution tax (DDT) of 15% to provide dividends to their shareholders. However, once dividends are credited to the shareholders, the investors again have to pay a tax on the capital gain. Although, small investors do not have to pay any tax on dividends. However, if the dividend received is more than Rs 10 lakhs, the investor has to pay a tax of 10% on the capital gain by dividends.

Also read: Do I Need to Pay Tax on Dividend Income?

4. Dividend cut

This is the worst case scenario. Dividends are not obligations and a company may decide to cut the dividends anytime in the future. Moreover, when the company cuts the dividends, even the share price falls significantly as the public sees it as a negative sign. And that’s why the dividend investors may face double side trouble.

Further, many times, the board of directors can also change the dividend policy of a company. This can again have an adverse effect on the dividend investors if the decision is made against the existing dividend policy.

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Quick Note: New to investing? Check out this awesome investing course for beginners: HOW TO PICK WINNING STOCKS? Enroll today and start your journey in the exciting world of the stock market.

When you should exit a dividend stock?

Now, that you have understood the pros and cons of dividend investing, the next big question is when should you exit a dividend stock. If you’ve invested in dividend stocks, look for the following signs periodically to avoid any dividend pitfall in your invested company. Here are the three signals that you should exit a dividend stock:

— Dividends start declining: A fall in dividend for a year compared to the previous one can be ignored by the investors as businesses can always have a few losses in some years. However, if the dividends start continuously declining year-after-year, it may be a sign for the investors to exit.

— High dividend payout: A payout ratio greater than 70% for the continuous years may be a warning sign that the company is not retaining enough profit for its growth.

— An adverse change in dividend payout policy: If the company changes its dividend policy against the favor of the investors, then again it may be a sign to exit that stock.

Closing Thoughts:

Traditionally, dividend investing approach was used by the retirees or the people entering their retirement age. As these people do not have any primary source of income (regular paycheck) after retirement, receiving small dividends per year in their account can be a good secondary source of income.

However, these days even the young and middle-aged investors are looking forward to dividend investing. Why? Because it is always a joy to see dividends get credited to your account periodically. Moreover, they do act as a secondary income source.

That’s all for this post. I hope it was helpful to you. Happy Investing.

10 Best Dividend Stocks in India That Will Make Your Portfolio Rich 2018

10 Best Dividend Stocks in India That Will Make Your Portfolio Rich.

10 Best Dividend Stocks in India (Updated: May 2019)

“Do you know the only thing that gives me pleasure? It’s to see my dividends coming in.” – John D Rockefeller

Whenever a retail investor, like you and me, buys a stock, then their main aim is to earn money through their investment. There are two methods by which anyone can earn money by investing in stocks. They are:

  1. Capital Appreciation
  2. Dividends

The first one, capital appreciation, is quite famous among investors. Everyone knows this secret to earn in the stock market. Buy low and sell high. The difference is capital appreciation or profit.

Suppose you bought a stock at Rs 100 and two years hence, the price of the stock has increased to Rs 240. Here, the capital appreciation is Rs 240- Rs 100 = Rs 140. In short, you made a profit of Rs 140 or 140%.

Almost everyone who enters the market knows this method of earning by stocks. It can also be concluded that most people enter the market hoping that their investment will be doubled or quadrupled and will make them a millionaire one day through capital appreciation.

Now, let us move to the second method of earning through stocks- DIVIDENDS.

Whenever a company is for profit, it can use this profit amount in different ways. First, it can use the profit amount in its expansion like acquiring a new property, starting a new venture/project, etc. Second, it can distribute the profit among its owners and shareholders. Third and final, it can distribute some portion of the profit to the shareholders and use the remaining in carrying out its expansion work.

This amount distributed among the shareholders is called DIVIDEND.

What is a dividend?

“A dividend is a distribution of a portion of a company’s earnings, decided by the board of directors, to a class of its shareholders. Dividends can be issued as cash payments, as shares of stock, or other property.”

Typically, most companies give dividends two times a year, namelyInterim dividend and final dividend. However, this is not a hard and fast rule. Few companies, like MRF, gives dividends three times a year.

Read more: Dividend Dates Explained – Must Know Dates for Investors

Why are dividends good?

Suppose you are a long-term investor. You have invested in the stocks of a company for 15-20 years. Now, if the company does not give any dividends, there is no way for you to make money until you sell the stocks.

On the other hand, if the company gives a regular dividend, say 4% a year, then you can plan your expenses accordingly.

A regular dividend is a sign of a healthy company. 

A company, which has given a consistent (moreover growing) dividend for an interval of over 10 consecutive years, can be considered a financially strong company. On the contrary, the companies that give irregular dividends (or skips dividends in harsh economic conditions) can not be considered as a financially sound company.

If you want to learn stocks from scratch, I will highly recommend you to read this book: ONE UP ON THE WALL STREET by Peter Lynch- best selling book for stock market beginners.

Big dividend yield can be an incredibly attractive feature of stock for the people planning for retirement.

Now that we have understood the meaning of dividends, let us learn a few of the important financial terms that are frequently used while talking about dividends.

Must know financial terms regarding Dividends

1. Dividend yield: It is the portion of the company earnings decided by the company to distribute to the shareholders. A stock’s dividend yield is calculated as the company’s annual cash dividend per share divided by the current price of the stock and is expressed in annual percentage. It can be distributed quarterly or annually basis and they can issue in the form of cash or stocks.

Dividend Yield = (Dividend per Share) / (Price per Share)*100

For Example, If the share price of a company is Rs 100 and it is giving a dividend of Rs 10, then the dividend yield will be 10%. It totally depends on the investor whether he wants to invest in a high or low dividend yielding company.

2. Dividend %: This is the ratio of the dividend given by the company to the face value of the share.

3. Payout ratio: It is the proportion of earnings paid out as dividends to shareholders, typically expressed as a percentage. The Payout Ratio is calculated as follows:

Payout Ratio = Dividends per Share (DPS) / Earnings per Share (EPS)

As a thumb rule, avoid investing in companies with very high dividend payout ratio. In other words, be cautionary if the payout ratio is greater than 70%. (Also read: The Fundamentals of Stock Market- Must Know Terms)

To move further now that we have understood the basics behind the dividends, here is the list of 10 Best Dividend Stocks in India.

10 Best Dividend Stocks in India-

Indian stocks- 10 Best Dividend Stocks in India

In addition, if you are interested to know about other high dividend stocks, then you can find it here: BSE TOP DIVIDEND STOCKS

The growing companies give less dividend yield to their shareholders as they use the profit amount in their expansion.

On the other hand, the Blue Chip stocks, which are large and established company and has already reached a saturation point, gives good regular dividends. Further, the public sector companies are known for giving good dividends. Industries like Oil and petroleum companies, in general, give decent dividends.

Here are few of such stocks with high current dividend yields which are also worth investing:

10 Best Dividend Stocks in India That Will Make Your Portfolio Rich - Indian stocks

Also Read: PSUs with high dividend yields

Where to find dividend on a stock?

You can find the dividend of stocks on any of the major financial websites in India. Here are few:

  1. Money Control: http://www.moneycontrol.com/
  2. Economic times- Market: http://economictimes.indiatimes.com/markets
  3. Screener: https://www.screener.in/
  4. Investing.com: https://in.investing.com/
  5. Market Mojo: https://www.marketsmojo.com/markets

Top Dividend Paying Indian Stocks in 2017 quote

That’s all. I hope this post about ‘10 Best Dividend Stocks in India That Will Make Your Portfolio Richis useful to the readers. Further, I will highly recommend not investing in stocks based on just high dividend yield.

New to stocks and confused where to start? Here’s an amazing online course for the newbie investors: INVESTING IN STOCKS- THE COMPLETE COURSE FOR BEGINNERS. Enroll now and start your stock market journey today!

If you have any queries or suggestions, feel free to comment below. I will be happy to receive your feedback. #HappyInvesting.

Is Debt always bad for a Company cover 2

Is Debt always bad for a company?

While evaluating a company to invest, one of the biggest element to check is its debt level. Ideally, it is said to look for a company with Zero-debt as it means that the company is able to manage its finances predominantly through internally generated cash without any external obligations.

However, is debt always bad for a company? Should you ignore a stock just because it has some debt. Moreover, what if the debt level increases after you invest in a stock? Should you exit that company because the company is adding debts?

In this post, we are going to answer these questions and discuss whether debt is always bad for a company or NOT. Let’s get started.

How a company finances its debt?

A company can raise debt either by issuing debt securities like bonds, notes, corporate papers etc or by simply borrowing money as loans from banks or any lending institutions. However, once the company has taken a debt, it is legally obliged to pay it back based on the terms agreed by the lenders and lendee.

In general, if a company is currently debt free and later starts taking some debt, it might be good for the business as the company can invest that money in expanding its business. However, the problem arises when the company which already has a big debt in its balance sheet, decides to add more. This increasing debt level can negatively affect the shareholders as by norms, debts are to be paid first by the company and shareholders will always be the last in line to receive profits.

When debt is not bad for business?

Although a few matrices like declining profit margins or negative cash flow from operating activities for a consistently long period is considered as a bad sign for a business. However, the same is not true in the case of debts. The debt is not always bad for business.

If a company has a low debt level and decides to take a new debt to start a project which may double or quadruple their revenue, this debt may be good for the business and add more value to the investors in the long run. However, an important question to ask here is whether the company can afford the debt at that point in time. If yes, then it may not be a point of concern for the company or you as a shareholder.

To check whether the company can repay the debt or not, you can look at the free cash flow (FCF) of the company. As a rule of thumb, if the company’s long-term debt is less than three times the average FCF, it means that the company will able to repay its debt within three years using its free cash flow. Of the other hand, consistently negative free cash flow with increasing debt level can be a warning sign for the investors.

Quick note: Also check out this post by Harvard business review on When Is Debt Good?

Debt is cheaper than equity

For growing a business, the management may decide to raise money from investors (equity funding) or they may borrow money from banks as debts. However, an important concept to understand here is that debt is cheaper than equity.

In other words, equity is a comparatively expensive method of financing for a company. Why? Because, first of all, raising money by equity dilutes the ownership and control of the promoters. Second, the cost of equity is not finite. Here, the investors may be expecting bigger returns as they are taking higher risks.

On the other hand, the cost of debt is finite and they are sourced at lower rates. This is because the debt is less risky financing as the firm is obligated to pay it back (unlike equity funding where the company is not obliged to pay any dividends to the shareholders). Moreover, the company has no obligation to the lenders once the debt is paid off.

Further, debt financing doesn’t result in any dilution and change in control. Here, the lenders take no part in the equity of the company and hence the promoters and shareholders can enjoy the benefits.

How to evaluate the debt of a company?

Although checking the liability side of a balance sheet is always the first step to evaluate the debt of a company. However, there are a few financial ratios that you can use to evaluate the debt level. Here are the three most frequently used financial ratios to evaluate the debt of a company:

1. Current Ratio:

This ratio tells you the ability of a company to pay its short-term liabilities with short-term assets. Current ratio can be calculated as: Current ratio = (Current assets / current liabilities)

While investing, companies with a current ratio greater than 1 should be preferred. This means that the current assets should be greater than the current liabilities of a company.

2. Quick ratio:

This is also called the acid test ratio. Current ratio takes accounts of the assets that can pay the debt for the short term. It doesn’t consider inventory as current assets as it assumes that selling inventory will take some time and hence cannot meet the current liabilities.

Quick ratio = (Current assets — Inventory) / current liabilities

A company with a quick ratio greater that one means that it can easily meet its short-term obligations and hence quick ratio greater than 1 should be preferred while investing.

3. Debt/equity ratio:

This ratio is used to check how much capital amount is borrowed (debt) vs that of contributed by the shareholders (equity) in a company. As a thumb rule, prefer companies with debt to equity ratio less than 0.5 while investing.

Also read:

Closing Thoughts

Contrary to the general belief, debts are not always bad for a company but can help it to speed up the growth. Moreover, debts are a more affordable and effective method of financing a business when it needs cash to scale up. The problem arises only when the management does not control its debt level efficiently.

How Much Should You Save  - 50:20:30 Rule cover2

How Much Should You Save  - 50/20/30 Rule!

How much should you save — This is one of the biggest questions that comes to everyone’s mind when we talk about budgeting. The importance of smart budgeting cannot be overstated as excessive spending and irregular saving habits can lead to disasters in the future.

If you want to enjoy a healthy financial life, it’s really important to have a balance between your savings and your expenses. And budgeting for individuals helps to align the spendings with savings and figuring out how much to spend on what.

If you are also struggling with personal finance, then this post may be a holy grail for you. In this post, we are going to discuss one of the easiest budgeting strategies to figure out how much should you save. And it is called the 50/20/30 Strategy.

50/20/30 Strategy

This strategy can be extremely helpful for youngsters who are just entering the world of personal finance and don’t know how to manage their spendings. Originally developed by Elizabeth Warren and Amelia Warren Tyagi, this strategy is beautifully described in their book — All Your Worth: The Ultimate Lifetime Money Plan.

50/20/30 is a really simple and straightforward budgeting strategy that can help you to define how much should you spend on your essential spendings (needs), savings and finally on your preferences (wants and choices). According to 50/20/30 strategy, you should allocate:

  • 50% of your monthly income on ‘Needs’ (like rent, food etc)
  • 20% of your monthly income on ‘Savings’ (like your retirement fund, investments etc)
  • And the remaining 30% of your monthly income on your ‘Wants’ (like traveling, dining out etc)

how much should you save 50/20/30 budgeting

(Image Credits: Business Today)

Now, let us understand all these three spending allocations in details.

50% of your income on Needs

As soon as you get your in-hand salary (i.e. your monthly income after deducting taxes), set aside around 50% of this income to pay for the things that are essential in your day-to-day life. The expenses in this category can be spendings on rent, food, transportation, utilities, health care, basic groceries, insurances etc.

Although allocating half of your monthly income in ‘needs’ may seem massive. However, when you look at the items in this list, it makes sense to allocate around 50% of your income on your needs.

Anyways, in case you are not able to manage your needs within 50% of your monthly income, you may have to optimize your lifestyle. For example, instead of living in a fancy house in a fancy locality which is too far from your workspace and adds transportation costs, you may wanna move in an affordable house with walkable distance to your office.

20% of your income on Savings

Once all your essentials are paid, next you need to allocate the 20% of your monthly income on savings. This category includes repayment of debt like a student loan, credit card debt etc along with investing the remaining for your future goals and retirement.

It’s really important that you allocate 20% of your income in this category before moving on to the next one i.e. spending on your ‘Wants’.

30% of your income on Wants/Personal choices

This is the last category in your personal budgeting. Once you are done with your essentials and savings, the final spendings should be on the things that you want. The expenses in this category include spendings on shopping, traveling, entertainment, dining out etc.

This list may also cover a few vague expenses like Netflix subscription, membership to clubs, weekend trips etc depending on your lifestyle. However, make sure that your spendings do not cross the allocated budget of 30% of your monthly income.

Example:

Let’s say that you make Rs 1.5 lakhs per month (in-hand income after paying taxes). As soon as you get your salary, you need to allocate

  • Rs 75k in meeting your day-to-day essentials like rent, food etc.
  • Rs 30k in paying your debts and savings.
  • And the remaining Rs 45k on your personal choice like dining out, traveling, memberships etc.

Using this simple budgeting strategy, you won’t run out of money to meet your daily needs, continuously contribute towards your future and retirement savings, and can also spend guilt-freely on your personal choices.

Also read: 3 Amazing Books to Read for a Successful Investing Mindset.

A few other popular saving strategies:

Apart from the 50/20/30 strategy, here are two other popular strategies that can also help you to figure out how much should you save.

  • 10% rule: This rule says that you should save at least 10% of your monthly earnings, no matter what the circumstances. This strategy is brilliantly explained in the book — The Richest Man in Babylon and works well for the people who are struggling to save money. The basic ideology behind this strategy is to ‘Pay yourself first’ and keep 10% of your savings only to yourself.
  • 100 minus your age rule: This rule tells that you should save at least the percentage of your earnings which is equal to 100 minus your age. For example, if you are 28 years old right now, then you should save (and invest) at least 100–28 = 72% of your monthly income. This rule is based on the principle that the expenses increase as you grow older (like kids, dependents etc) and hence you should save and invest more when you are young.

Also read:

Closing Thoughts:

Although 50/20/30 budgeting strategy may seem a little difficult in the beginning, however, with discipline and persistence — it is followable. Moreover, this budgeting strategy doesn’t depend on how much you earn. Even people with moderate to low salary range can follow this strategy if they are ready to optimize their lifestyle a little.

Anyways, the last thing that I would like to add is that do not take the rule too-damn seriously. I mean, do not freak out if your essential spending crosses over 50% in a month. Sometimes, you may need to review your income and expenses and make adjustments in the budgeting strategy.

For example, if you believe that your needs are less — let’s say you already own a house and hence you don’t need to pay any rent, but your personal desires are more, then you can follow the 40/20/40 strategy {40% spending on needs, 20% spending on savings and 40% spending on wants/personal choices}.

On the other hand, if your essential expenditures are high — let’s say you pay a heavy monthly rent, but your personal wants are low, then you may prefer 60/20/20 strategy {60% spending on needs, 20% spending on savings and 20% spending on wants/personal choices}. Nonetheless, whatever strategy you prefer, try to allocate at least 20% of your monthly income in savings. Remember- ‘A Penny Saved is a Penny Earned’.

Pat Dorsey's four moats cover

Pat Dorsey’s Four Moats for Picking Quality Companies

While picking a quality company for long term investment, one of the key element to check is the company’s sustainable competitive advantage or Moat.

If you are new to the concept of Moat, I would suggest you to first read this blog post. Anyways, in general, the Moat can be defined as something that keeps a company’s competitors away from eating away their profits/margins for a stretched time. And hence the companies with big moats are able to generate economic profits for a longer time period.

Although there may be dozens of factors that may be counted as a moat for a company like patents, management, technology, switching cost, entry barrier etc. However, in the book “The Little Book that builds wealth”, Pat Dorsey, ex-director of equity research at Morningstar and founder of Dorsey Asset Management, described that there are only four moats that really matters while picking stocks.

Rest all are either confused moats or not durable for a very long time period. In this post, we are going to discuss Pat Dorsey’s four moats for picking stocks.

A little Introduction to Pat Dorsey’s Moat

“FOR MOST PEOPLE, it’s common sense to pay more for something that is more durable. From kitchen appliances to cars to houses, items that will last longer are typically able to command higher prices, because the higher up-front cost will be offset by a few more years of use. Hondas cost more than Kias, contractor-quality tools cost more than those from a corner hardware store, and so forth.

 

The same concept applies to the stock market. Durable companies — that is, companies that have strong competitive advantages — are more valuable than companies that are at risk of going from hero to zero in a matter of months because they never had much of an advantage over their competition. This is the biggest reason that economic moats should matter to you as an investor: Companies with moats are more valuable than companies without moats. So, if you can identify which companies have economic moats, you’ll pay up for only the companies that are really worth it. 

(Source: Chapter 1 — The Little Book That Builds Wealth)

In his book, ‘The little book that builds wealth’, Pat Dorsey suggested that as a company expands, it attracts more competition. And here, the biggest element that helps the company to remain profitable and beat the competitors consistently, in the long run, is their durable economic moat.

And that’s the reason why a few companies remain highly profitable for decades even in competitive spaces. A few examples of such companies can be Apple, Microsoft, Coca-cola, P&G etc.

Pat Dorsey’s Four Moats That Matters:

Here are Pat Dorsey’s four moats that you should look in a company while picking quality stocks with huge sustainable advantages:

1. Intangible Assets

Intangible assets are those assets that you can’t touch or see. A company can have intangible assets, like brands, patents, or regulatory licenses that allow it to sell products or services at a bigger margin that can’t be matched by the competitors.

For example, Coco-cola. If you look at their products, they are just carbonated sugar water and not much different from any other soda shop that you visit locally to buy cheaply priced drinks. However, when this carbonated sugar water meets the brand value of coke, they are priced way higher than what its competitors do, and still able to make way way more sales and revenue.

Similarly, in the pharmacy industry, if a company has got a patent over a specific drug, it may enjoy high sales without worrying much about the competition. And that’s why Pharmacy companies spend a lot of money on their Research and department (R&D) units.

2. Customer Switching Costs

If the customer has to cost a lot of money, time, efforts or resources to switch from one product to another, it is considered as the switching cost. If the products or services offered by a company has high switching cost (or really difficult for the customers to give up those products) then the firm enjoys a bigger pricing power and profit margin.

A great example of a customer switching cost is MS Excel. Although a lot of better tools compared to Excel are available publicly, however, to make all your employees learn any new tool, the company may have to cost a lot of time and resources.

Similarly, a few other software companies with high switching costs can be Adobe Photoshop, Auto-desk, MS Office etc. All these complicated programs cost a lot of efforts to learn and switching from one to another can be really difficult for the users. Unlearning and relearning these tools demands a lot of time, money and resources like pieces of training, courses etc.

3. The Network Effect

These are those companies whose value increases as their number of users increases.

A few examples of companies with a big network effect in recent days can be social platforms like Facebook, WhatsApp, Instagram etc. People are moving into these platforms as all their friends/peers are using them which makes them more valuable. So even if there are another better social media available, however, if your friends/family are not using them, you might be reluctant to switch there.

A few industries like e-commerce or food-delivery especially enjoy the networking effect. More customers are moving to ‘UBER Eats’ because more restaurants are associated with them. And on the other hand, more restaurants are associating with UBER Easts because more customers are moving into that platform. Overall, the users are inviting the restaurants and vice-versa and the platform benefits from the networking effect.

Another great example of industries with networking effect can be ‘Credit card’ industry. Here, customers are getting attracted to a credit card as they are accepted widely by many merchants. On the other hand, more merchants partner up with the credit cards as they have a bigger customer base. Overall, it’s all about networking effect for these companies.

4. Cost Advantages

These are those companies which are able to find better ways of producing their products or services. They enjoy cost advantages by improving processes, finding a better location, greater scalability, or access to a unique asset, which allow them to offer their products or services at a lower cost than competitors.

In general, the cost advantage is most useful in those industries where substitutes are easily available or for those products/services where the price matters the most for the customers while making their purchase decision.

A few examples of a company with cost advantage can be MacDonald (Standardized, low-cost approach and low-price menu), Walmart (low-cost advantage being scaled up to the massive effect), Vanguard (low-cost index fund that made an enormous impact on the investment world) etc.

Anyways, out of all the different sources to improve cost, Process-driven cost advantage should be carefully studied while evaluating companies. This is because processes can be easily copied. On the other hand, if the company enjoys cost advantages with greater scalability, it can do wonders for the businesses and investors.

Also read:

Closing Thoughts:

In addition to the four moats that matter, in his book, Pat Dorsey also discussed a few other confused moats (things that are not exactly moats) or the eroding moats (the ones which fade away with time) like Technology, Trends, Market Position, and management.

To understand a better picture, I would highly recommend you to read the book “The little book that builds wealth”. It will help you to learn the concept of moat far better while picking quality companies. And moreover, the book is only 210 pages long. You can easily read the entire book within a week.

Finally, there’s one more point that I would like to add before ending this post. A moat on its own is not enough. There are multiple examples of companies with big moats but saturated profits. However, a combination of a moat with strong management, and growth potential is what makes a company a great investment.

3 Dumb Stock Picking Strategies That You Need to Avoid cover

3 Dumb Stock Picking Strategies That You Need to Avoid!

“It is remarkable how much long-term advantage people like us have gotten by trying to be consistently not stupid, instead of trying to be very intelligent.” – Charlie Munger

Over the last couple of years, since I’ve started investing, I’ve come to know so many strategies followed by different investors. Whether they are- Value pickers (those who buy great businesses at a discounted price), growth picker (those who prefer stocks which are growing at a high pace compared to peers or industry) or income stock pickers (those who invests in stocks which give huge dividends), I have heard of them all.

Apart from them, another category of popular stock picking strategy are the ones who rely on algorithms, programs, expensive arrangements or robo-advisory to pick stocks. And they are also quite successful in making money from the stock market.

However, after interacting with thousands of the Trade Brains’ blog subscribers and also through my personal experience, I’ve also come to know a few dumb strategies that many people use to pick stocks which mostly turn out to be a disaster a few years later down the road. (Btw, I’ve also been a victim of a few such strategies during my rookie days. Therefore, do not feel too bad if you have been using these strategies to pick stocks.)

Now, I totally understand that picking these stupid disastrous strategies are not entirely the fault of the beginners. After all, we are neither educationally trained or psychologically programmed to pick the best strategy that suits our interests. As humans, we generally prefer taking shortcuts and this is one of the biggest reason for the individuals to pick these dumb stock picking strategies.

Nevertheless, knowing the strategies which may turn out to be a catastrophe in the future may help the newcomers to avoid them. Therefore, in this post, we are going to discuss three dumb stock investing strategies that investors need to avoid else it may turn out to be a disaster in the future.

3 Dumb Stock Picking Strategies That You Need to Avoid

1. Investing based on Free Tips/Recommendations.

You are getting consistent stock tips on your phone to buy/sell equities and you finally decided to give it a try. This is one of the most dangerous stock picking strategies. Better you should put that money on a lottery ticket if you are willing to take such a risk.

Moreover, the majority of the free tips or recommendations that you receive on your phone via SMS or WhatsApp these days– are SCAMS. Don’t believe me, then read further regarding the same here: 3 Most Common Scams in Indian Stock Market That You Should be Aware of.

Besides, let’s say you’re discussing the market with a colleague/friend/neighbor and they advised you to invest in a particular stock. Unless they are professionally trained in the market (such as research analyst or investment advisor), most of these recommendations are crap and a definite path for future regrets.

2. Picking a stock because a big investor recently invested in it.

Seriously, this is your strategy? Are you planning to match your investing strategy with that of a big successful investor?

As a matter of fact, you should understand that you can never meet the risk appetite, resources, and exit-strategies of the big investors. There are hundreds of things that may go wrong in this strategy and hence, it’s never a good idea to blindly picking a stock just because a big stock market player invested in it.

Anyways, I agree that following the stock picking strategies and portfolio of big investors can be good learning. However, do your own research before investing and avoid being anchored with big investors’ stock picks.

Also read: Is Copycat Investing Hurting Your Portfolio?

3. Picking a stock because it is continuously going higher

If there is a single lesson that you should learn from this post, then remember this- “Stock prices going upwards is not a reason to buy and prices going down is not a reason to sell.

You should never pick a stock just because it is going higher. Stock prices movement on its own tells nothing.

Here, you need to look into the fundamentals, recent quarterly/annual results, corporate announcements, and other related news to find out the reason of price movement. Always make an informed decision after properly analyzing the company, rather just the price movement.

Bonus

4. Picking a stock because you feel it will go high

Recently, I was talking with one of my friends, Manish, and we begin discussing the equity market. After debating various investing ideas, Manish said that he is planning to buy Tata Motors share because he thinks that its price will re-bounce in upcoming months (Btw, at the time of writing this post, Tata’s share was down by over 57% in last one year).

I knew that Manish didn’t have much investing experience and hence I simply asked why he thinks that Tata Motor’s price will go up. He replied that the price is really down and he’s getting a feeling that the share price will recover and go up in the future.

Now, the share price of Tata Motors ‘may’ or ‘may not’ go up in the future. This is an entirely different discussion which I do not want to start right now. However, the answer that he gave to explain why Tata’s share price may go up is really stupid, right?

If he had talked the stuff like the sales of Tata Motors is going up, or their profit margin is increasing or Tata’s are launching a new vehicle in a segment which may be demanding among the audience, then I might have considered the reasoning. I mean, if someone gives me a factual reason why they believe that the price will go up, then I might discuss it further. However, if the reason is your ‘intuition’ or ‘gut feeling’, I can’t argue much regarding the same.

While investing in stocks, remember that you are not predicting whether it’s gonna rain today or not. Here you are analyzing companies which have fundamentals. There are a lot of pieces of information like the company’s financials, the board of directors talks/speeches, related news etc which are publically available to analyze companies. However, if instead of using these informations, you are making an investment decision based on your intuitions, you should rather be ready for an investment disaster.

Also read:

stock market meme 31

Closing Thoughts:

According to Benjamin Graham, the father of value investing, investment can be defined as “An investment operation is one which, upon thorough analysis, promises safety of principal and a satisfactory return. Operations not meeting these requirements are speculative.”

If you want to make decent returns from the share market, you need to stop speculating and making decisions based on these dumb strategies. If you are new to investing, take your time, learn and start building your own repeatable strategy by properly analyzing the companies which may produce consistent returns in the long term.

That’s all for this post. I hope it was helpful for you. Happy Investing!!

Charlie munger quotes cover-min

21 All-Time Best Quotes by Charlie Munger

Charlie Munger, 95, is a name that doesn’t require any introduction for those involved in the investing world. If you are new to investing, you might have heard Charlie as Warren Buffett’s right hand. However, even individually, Charlie Munger is considered as one the world’s wittiest investor.

Anyways, let me first introduce Charlie Munger to the newbies. Charlie Munger is an American investor, businessman and a self-made billionaire with the net worth of over $1.7 Billion (as of Feb 2019). He is the vice chairman of Berkshire Hathaway, the conglomerate headed by Warren Buffett. And like Buffett, Charlie Munger is also an active philanthropist and has donated millions of his personal wealth for good causes.

Interesting, if you look into his background, Charlie Munger never took any course in investing, finance or economics while he was in university. During World War II, Charlie studied meteorology at Caltech to become an army meteorologist. Later, he earned a degree in law from Harvard Law School.

Charlie Munger and Warren Buffett met in 1959 during a dinner party and got along immediately. Although they knew each other for a very long time, however, they built their informal partnership by investing together only in the 1970s. Later in the 1980s, both started the present structure of Berkshire Hathaway and have been running in profitably ever since by building wealth for themselves and their investors. Here’s what Warren Buffett thinks of his business partner Charlie Munger:

We’ve got an extremely good partnership and business is more fun — just as life is more fun — with a good personal partner and to have a great business partner. You know it’s just — we’ve accomplished more but we’ve also had way more fun.” -Warren Buffett

Charlie munger and warren buffett-min

Charlie Munger’s wisdom is an asset for all the investing community. The knowledge and success that he has gained in the past many decades is quite inspirational.  Therefore, in this post, we are going to highlight twenty-one evergreen quotes by Charlie Munger that every investor should know. Let’s get started.

21 All-time best Quotes by Charlie Munger

Charlie Munger Quotes on investing wisdom

“People calculate too much and think too little.”

“It is remarkable how much long-term advantage people like us have gotten by trying to be consistently not stupid, instead of trying to be very intelligent.”

“What is elementary, worldly wisdom? Well, the first rule is that you can’t really know anything if you just remember isolated facts and try and bang ’em back. If the facts don’t hang together on a latticework of theory, you don’t have them in a usable form. You’ve got to have models in your head. And you’ve got to array your experience — both vicarious and direct — on this latticework of models. You may have noticed students who just try to remember and pound back what is remembered. Well, they fail in school and fail in life. You’ve got to hang experience on a latticework of models in your head.”

Charlie Munger Quotes on Wealth Creation

“The big money is not in the buying or the selling, but in the waiting.”

“What are the secrets of success? -one word answer: ”rational”

“It takes the character to sit with all that cash and to do nothing. I didn’t get to where I am by going after mediocre opportunities.”

“To get what you want, you have to deserve what you want. The world is not yet a crazy enough place to reward a whole bunch of undeserving people.”

“All I want to know is where I’m going to die so I’ll never go there.”

Charlie Munger Quotes on Importance of learning

“There isn’t a single formula. You need to know a lot about business and human nature and the numbers… It is unreasonable to expect that there is a magic system that will do it for you.”

I paid no attention to the territorial boundaries of academic disciplines and I just grabbed all the big ideas that I could.”

“In my whole life, I have known no wise people (over a broad subject matter area) who didn’t read all the time — none, zero. You’d be amazed at how much Warren reads — and at how much I read. My children laugh at me. They think I’m a book with a couple of legs sticking out.”

“Spend each day trying to be a little wiser than you were when you woke up. Day by day, and at the end of the day-if you live long enough-like most people, you will get out of life what you deserve.”

Also read: 31 Hand-Picked Best Quotes on Investing: Buffett, Munger, Graham & More.

Charlie Munger Quotes on Circle of Competence:

“Knowing what you don’t know is more useful than being brilliant.”

“If something is too hard, we move on to something else. What could be simpler than that?” 

I try to get rid of people who always confidently answer questions about which they don’t have any real knowledge.”

“We have three baskets: in, out, and too tough. … We have to have a special insight, or we’ll put it in the “too tough” basket.” 

Charlie Munger Quotes on life rules to live by

“Mimicking the herd invites regression to the mean.”

“Remember that reputation and integrity are your most valuable assets — and can be lost in a heartbeat.”

Just because you like it does not mean that the world will necessarily give it to you.”

“Life, in part, is like a poker game, wherein you have to learn to quit sometimes when holding a much-loved hand — you must learn to handle mistakes and new facts that change the odds.”

Take a simple idea, and take it seriously.”

Suggested Readings on Charlie Munger

Book: 

Articles: 

thematic investments

Why You Should Try Thematic Investments?

Suppose you believe in an idea and confident that it will perform well in future. For instance, let’s say you are optimistic towards the renewable source of energy. Here, you are assured that the grid and other conventional sources of energy will be replaced by the renewable source of energy like solar or wind energy in the future. And therefore, you want to invest in this idea.

However, you are not certain of the best leading company in this segment to invest. Moreover, you also do not want to invest in the entire energy sector through any sectoral mutual fund as you want to focus just on the renewable energy-related companies. How to proceed further with your investments? Enter the thematic investments.

What is Thematic Investment?

As you might already know, mutual funds also provide an option to invest in different sectors via sectoral funds. For example, pharmaceutical funds focus on pharma companies or banking funds focus on investing in companies in the banking Industry. However, thematic funds are different from the sectoral fund.

Thematic funds are growth-oriented equity funds that focus on investing in a set of companies based (or closely-related) to a particular theme. They follow a top-down approach and targets a broader macro-economic theme on which the fund manager has a good knowledge of. Here, the thematic fund investors studies and understand the impact of structural shift in economics, political, technological, corporate or social trends on sectors, demographics etc which may reveal investable opportunities.

For example, electric vehicles (EVs) can be considered a theme. Here, the thematic fund based on EVs do not just need to focus on one automobile industry, rather they can include a set of industries which are a part of the theme. For example- this theme may include companies from the automobile industry, battery industry, Metal companies involved in making battery parts like Graphite, Aluminium, Carbon, etc, auto-ancillaries industry or any other companies related to the EVs.

A few other popular themes in India right now are digital India, make in India, technological progress, Internet of things, blockchain, environmental sustainability, social security etc.

thematic investments approach-min

Mutual funds vs thematic funds:

As I already mentioned above, thematic funds are different from the mutual funds and here are a few major differences between them:

— Mutual funds are over diversified while thematic funds are compact. Mutual funds invest in somewhere between 40–100 stocks. On the other hand, the number of stocks in thematic funds are smaller, typically between 5–20.

— Mutual funds are rigid and not easily customizable. Although there are thousands of mutual funds available in the Indian market, however, they are not customizable. On the other hand, it’s easier for investors to choose their ideas/sentiments and factor their risk appetite through thematic funds.

— The costs involved with mutual funds are high. For managing a popular active fund, the fund house may charge an expense ratio as high as 2.5-3%. However, the fees involved with thematic funds are comparatively cheaper.

Advantages of Thematic Funds

Here are a few common advantages of thematic funds:

—  Thematic funds are potentially more rewarding compared to diversified mutual funds.

— As thematic funds offer a compact theme, they have a concentrated impact because of news or happenings in other non-related industries.

— There are a lot of publicly available popular themes in the Indian market and hence, finding the right investment opportunity is not a tough task for investors. For example, you can use FYER’s thematic investment platform to try new different themes.

— Thematic funds allow strategic exposure to the investor’s portfolio and encourage common sense investing as themes represent the investor’s ideas and thoughts.

The risk associated with thematic funds:

There’s no denying the fact that no investment strategy is perfect. And the same goes to the thematic investments. By making investments in thematic funds, you are preferring a concentrated theme. This portfolio concentration makes these thematic funds comparatively riskier over diversified mutual funds.

Moreover, there’s also a controversy regarding thematic investments which says that investing in a concentrated idea which is still untested and underappreciated, may not be a sound approach.

Also read:

Closing Thoughts:

A major difference between thematic investments and traditional ones is that the thematic investors look into the future and makes decisions based on the predictions on the future trends or upcoming shift in the structure. On the other hand, traditional investors check the history and weights more importance to past performance, market behavior etc.

Moreover, we cannot deny the fact that themes change fast with time. In the last two decades, we have witnessed massive changes in the industrial and technology theme. Therefore, if you are planning to make thematic investments, be observant and careful regarding the entry and exit decisions. Only enter these funds after you have researched the idea thoroughly.

Nonetheless, if you are able to invest in right thematic funds, they are capable of giving huge returns to the investors compared to other index or diversified funds.

How Sunk Cost Fallacy Can Affect Your Investment Decisions cover

What is Sunk Cost Fallacy? And how it Can Affect Your Decisions?

Have you ever been in a situation where you went to watch a movie in the theatre, however, it turned out to be terrible? What did you do next? Did you walked out of the theater or continued watching it till the end because you were afraid that you have already paid for the ticket? If you choose the latter, you have fallen for the sunk cost fallacy.

In this post, we are going to discuss what exactly is a sunk cost fallacy and how it can affect your investment decisions. But first, let us understand what are sunk costs.

What are sunk costs?

Sunk costs are those irrevocable costs which have already been occurred and cannot be retrieved. Here, the costs can be in term of your money, time or any other resource.

For example- Let’s suppose that you bought a brand new machine. However, after using it for three months, you realize that the machine is not actually working as you desired. And obviously, the return period of the machine has surpassed. Here, even if you sell the machine, you will get a depreciated value compared to what you originally bought. This cost is called the sunk cost.

In general, people should not consider sunk costs while making their decisions as these costs are independent of any happenings in the future. However, humans are emotional being and unlike robots, we do not always make rational decisions.

Examples of Sunk Cost Fallacy

Sunk cost fallacy, also known as Concorde fallacy, is an emotional situation where the individuals take sunk costs into consideration while making the decisions.

We have already discussed the example of watching the entire movie (even if it is terrible) just because you, as a consumer, won’t get back the money of your ticket. This is a classic example of sunk cost fallacy.

Another example can be when you eat foods that you do not like because you have already bought that food and cannot revoke that sunk cost. Similarly, overeating after ordering foods in restaurants because food has been already ordered is also an example of sunk cost fallacy.

Further, a typical example of the same fallacy is when you keep attending the miserable classes of your college (that you do not enjoy) because you have already invested a lot of time in that course and also have paid the tuition fee. Besides, salaries, loan payments etc are also considered as sunk costs as you cannot prevent these costs.

A quick point to mention here is that not all past costs are sunk costs. For example, let’s suppose you bought a shoe and you didn’t like it after reaching home. However, as the shoe is still in the return-period of 30 days, here, you can return the shoe and get back your purchase price. This is not a case of ‘sunk cost’.

Sunk Cost Dilemma

Sunk cost dilemma is an emotional difficulty to decide whether to continue with the project/deal where you have already spend a lot of money and time (i.e. sunk cost) or to quit because the desired result has not been achieved or because the project has an obscure future.

Here, the dilemma is that the person cannot easily walk away from the project as he has already spent a lot of time and energy. On the other hand, continuously pouring more money, time and resources in the project also do not seem a good idea because the outcomes are uncertain. This dilemma of deciding whether to proceed further or to quit is called sunk cost dilemma.

For example- Let’s say you started a business and invested $200,000 over the last three years. However, you haven’t achieved any wanted result so far. Moreover, you cannot see the business working out in the future. Here, the dilemma is ‘what to do next?’. Should you bear the losses and move on, or should you invest more resources in that uncertain business?

Another common example of sunk cost dilemma can be a bad marriage. Here, the couples find it difficult to decide whether to save themselves (and their spouse) by splitting up when they are sure that the things are not going to work out. Or should they hold on to the marriage just because they have already spend a lot of time together and breaking up will make them look bad?

Sunk cost dilemma in Investing

Even investors are common people and they face the sunk cost dilemma while making their investment decisions.

For example, let’s say that an investor bought a stock at Rs 100. Later, the price of that stock starts declining. In order to minimize the losses, the investor averages out the purchase price by buying more stocks when the price kept falling (also known as Rupee cost averaging). Here, the dilemma happens when the stock keeps underperforming for a stretched period of time. Here, the investors are uncertain whether they should book the loss by selling their stocks, or should they continue averaging out with the hope that they may recover the losses in the future.

Another example of the sunk cost dilemma is people buying/selling aggressively in risky stocks once they have incurred a few major losses in the past to ‘break even’ those losses. However, the losses have already been incurred and investing in risky stocks to cover those losses won’t do any good to such investors. The better approach would be to choose those stocks that can give the best possible returns in the future, not the imaginary aggressive returns that they expect to match up the sunk cost.

As an intelligent investor, people should ‘not’ consider the sunk costs while making their decision. However, this is rarely the case.

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Closing Thoughts

It is no denying the fact that nobody likes losing and hence the past losses can influence the future decisions made by the individuals. However, one must not consider sunk costs while making their investment decisions.

As sunk costs cannot be changed (recovered), a rational person should ignore them while making their judgments. Here, if you want to proceed, first you should logically assess whether the project/deal is profitable for the future. If not, then discontinue the project. In other words, try to forecast the future and react accordingly.

Anyways, a few methods of solving the sunk cost dilemma is by opting for incremental wins over the big ones, increasing your options (not just to completely quit or go all in) and in the terminal case, cutting your losses. When stuck in this dilemma, try to make minimum losses by looking at the mitigating options.

75x Returns by Sensex in last 30 Years of Performance.

The 3 Words that may be holding you back from investing in stocks.

Fear of Losing!!

Since childhood, we are taught to save money. “A penny saved is a penny earned.” And the idea of losing money is something which we are not psychologically programmed to opt for.

When you invest in stocks, there is a probability that its value may decrease if you have made the wrong investment choice. Unlike most other investment options like Fixed deposits, Gold, Real estate, bonds etc, the stock market is a place where your invested amount can fluctuate a lot within hours. And these daily fluctuation of prices ignite the fear of losing. And trust me, no one likes losing, especially their hard-earned money.

Moreover, when you invest in stocks, there is no guarantee that it will give you good returns. Even the safest stocks may decline in value because of unforeseen reasons. And that’s why, a majority of the population tries to keep a safe distance from the stock market.

But, there’s one thing that most of these people forget.

You are already losing money!!!

When you are not investing, you are losing the value of your money. How?

The old common answer- “Inflation”

Inflation can be described as a continuous increase in the general level of prices. And when the price increases, obviously the purchasing power of your money will decrease. The money in hand that you have ‘today’ is not of the same worth in ‘future’. Therefore, no matter how much safer you are keeping it in a vault or bank account, you are losing your money.

Currently, the predicted inflation rate in India is +4.89%. Therefore, if you are not making interest on over 4.89% on savings, this means that you are not beating the inflation and in other words, losing money. Frankly speaking, most of the savings account in India do not offer such high-interest rate. And in the worst case, if you are keeping cash, you won’t getting any interest at all.

inflation in india

(Source: Statista)

Historically, stocks have out-performed all other investment options.

Traditionally, people in India used to invest in gold and property. The came savings, fixed deposits, bonds etc. And finally, since the stock exchanges became more active in India, the next investment options were stocks and mutual funds. Anyways, history says that the returns from the stock market has out-performed all the other investment options.

sensex last 30 years

Also read: 75x Returns by Sensex in last 30 Years of Performance.

You can reduce the risk while investing in stocks.

Although you cannot completely get rid of the risk, nonetheless, you can definitely reduce it by following a few simple rules. And when the risk reduces, it will also decrease your fear of losing money. Here are a few methods which can help you reduce the risks while investing in stocks:

Diversify your investment:

It’s true that no one cannot correctly and precisely predict the future returns from any stock. However, you can increase the chances of being correct by making multiple good bets in different companies.

Even if two out of ten doesn’t perform well or fails miserably due to whatever reason, if the other eight stocks are performing decently, you can get decent returns and minimize the harm done on your overall portfolio. Portfolio diversification is the easiest approach that investors can follow to reduce the risks while investing in stocks.

Also read: How to create your Stock Portfolio?

Invest in blue chips

Blue chip companies are large and well-established companies with a history of consistent performance. These companies are financially strong (usually debt-free or very low debts) and are capable to survive in the tough market situations.

Most of the blue-chip companies are the market leaders in their industry. A few common examples of blue chip companies in India are HDFC Bank, ITC, Asian Paints, Maruti Suzuki etc. These companies are comparatively safer to invest vs mid or small cap companies who are associated with high risks.

Also read: 10 Best Blue Chip Companies in India that You Should Know.

Get an investment advisor.

This is the easiest approach that people anyone can follow to minimize the risk without limiting the investment options. If you do not have time to study or research stocks or your own — hire a financial planner for making your investment decisions instead of you.

Now I understand that most people are reluctant to hire investment advisors or financial planners. But think of it in this way — If you can hire a doctor for taking care of your physical health, why cann’t you get the help of an investment advisor to take care of your financial health?

Ovearll, if you find investing by your own boring or do not give sufficient time to research in order to make the right investment decisions, then hire a professional.

Apart, a few other ways to reduce risk in your stock investments are rupee cost averaging, investing in index funds and having a big margin of safety.

Closing Thoughts

It’s a fact that the fear of losing cannot be completely detached when you are investing in stocks. However, the ability to overcome this fear to make wise decisions is necessary skill to learn for the individuals if they want to build good wealth. Therefore, mind these three words and make sure that ‘fear of losing’ is not the actual reason why you are losing money.

Is Negative Price To Earnings of Stocks a Bad Sign for Investors cover

Is Negative Price To Earnings a Bad Sign for Investors?

Price to earnings ratio is definitely one of the most frequently used valuation ratio used by the investors to evaluate a company. Although I do not use this ratio too often, however, every now and then I check the PE of companies and industries to try to look them from a different angle.

Recently, I was going through the list of companies which are not making profits, in other words, losing money. Therefore, I run a simple query on stock screener to find the list of companies with negative earnings per share for the trailing twelve months.

Not surprisingly, I found the names of a lot of big companies in that list. A few of such companies with negative Earnings per share (EPS) for the trailing twelve months were State bank of India (SBI), Lupin, Adani Power, Tata Communication, Idea, Bank of Baroda, Future consumers etc. Here is a detailed list of such companies:

company with negative earnings

(Source: Trading View)

And obviously, when the earning of a company is negative, their Price to earnings will also be negative. Seeing so many big names in the list of companies with negative PE, it is easy to conclude that there will be thousands of people investing in companies that are losing money.

Therefore, in this post, I decided to discuss whether negative price to earnings of a company a bad sign for the investors. Let’s get started!

How Price to Earnings ratio is calculated?

As the name suggests, Price to earnings ratio is calculated by dividing the current market price per share by its earning per share.

PE ratio

For example, if the share price of a company is Rs 100 and the annual earning per share is Rs 20, then the Price to earnings ratio will be equal to 100/20 i.e. 5.

PE ratio of a company reflects how much people are willing to pay for that share compared to each Rs 1 in earnings. For example, for a company with a PE ratio, 5 means that the people are ready to pay a premium of 5 times for every Rs 1 of earnings. And obviously, the lower this premium, the better it is for the investors.

PE ratio is frequently used by the investors to find if a stock is undervalued or overvalued. Usually, a company with a lower PE ratio is a better valued. For example, a company with PE of 8 is comparatively undervalued against a company with a PE of 12.

Also read: No-Nonsense way to use PE Ratio.

Negative Price to Earnings

Basically, the share price of a company cannot go negative. Therefore, if the price to earnings is negative, it means that the company has negative earnings.

Although it is advisable to invest in companies with lower PE ratio, however, when this ratio becomes negative, it might not be favorable for the investors.

A negative price to earnings means that the company is not making profits and hence, why do you wanna invest in companies who are losing money? As a thumb rule, avoid investing in companies with negative price to earnings. If you want to live by a single rule for PE, then this might work perfectly well for you.

Moreover, a company with consistent negative PE means that it is not able to generate profits for a long period of time and therefore, it may fall into trouble while running its normal business operations and in the worst case, it may face the risk of bankruptcy.

Quick note: Most financial websites do not show the negative price to earnings for a company. In general, they will use the word ‘Not applicable’ or ‘ — ’ for the companies with a negative price to earnings.

When negative price to earnings might not be a bad sign.

A few industries like pharmaceutical or technology may have negative earnings if they are extensively spending in their research and development. Although it may be unfavorable for them in the short run, however, if they are able to spend their money in the right direction, it may be a good expenditure for the long term.

For example, if a pharmaceutical company is able to build a medicine for a rare disease and gets a patent for it, the company may generate a lot of profits through that research in the future.

Similarly, if a technology company is able to create a disruption through its research (a few of such trending technologies right now are artificial intelligence, deep learning or blockchain), they might be able to create a competitive advantage and generate profits in long run. And therefore, many investors are willing to invest in such industries even when they are not making money.

Note: Sometimes, a company may also have a negative PE because of the change in accounting norms or because of a few unexpected occurrences. In such scenario, you should not consider it as a bad sign and may wanna investigate further.

How to correctly analyze negative PE ratio?

While studying the price to earnings of a company, compare the PE with the competitors and historical performance. If the company’s PE is consistently falling for the last many years, it may be a warning sign. Further, if the PE of all the other competitors is positive and decently high, then the negative price to earnings for that company may be a caution sign.

Further, comparing the price to earnings of the company with the industry average can also give you a rough idea regarding the situation of that company.

Also read: #19 Most Important Financial Ratios for Investors

Closing Thoughts

In general, it is preferable for the investors to stay away from companies with a negative price to earnings. As an investor, you should find fundamentally strong companies to invest which are consistently making money.

If a company is consistently reporting a negative PE for a longer duration of time, then you should be concerned about it. Anyways, in a few industries, have a look at the company’s expenditure on Research and development by peeking in their income statement. This can give you an idea if the company is working on any cutting edge research or simply losing money in their operations.

Finally, never make your investment decision based on just one ratio. Price to earnings ratio is just a valuation tool. Apart from PE ratio, also look into other quantitative and qualitative aspects before making your choice.

inventory on balance sheet cover

How to Evaluate Inventory on Balance Sheet?

In the past two decades, we have seen countless companies which turned from zero to over billion rupees in market value with very limited inventories. It’s true that companies in the information sector (which only require a laptop and internet connection) doesn’t need a lot of inventories. After all, if the sole purpose of a company is running their mobile app (Android/iOS) and offering services through them, then what physical inventories they actually need apart from hosting, customer support and a few other development tools.

On the other hand, if you look into manufacturing companies which offer goods to the people/organization, inventory analysis plays a crucial role. The inventories of those companies are their most valuable current assets as they contribute directly to the source of revenue.

In this post, we’ll discuss what is an inventory and how to evaluate inventory on balance sheet.

What is an inventory?

inventory-control

Integratory can be defined as the goods available for sale and raw materials used to produce those goods. In other words, these can be the raw materials, goods in process and the finished goods.

There are a number of advantages of keeping sufficient inventories for a company. For example, if the company has the necessary inventories, it can quickly meet the customer orders. Stock in hand improves customer experiences. Moreover, in a few sectors, high inventories may make an attractive display and increase conversions.

On the other hand, delays in fulfilling orders, empty shelves and products out of stocks might drive away customers to the competitors. And therefore, inventory control is a key area for the company’s management to focus.

Excess Inventory

inventory

In case the company has excess inventories, it may be a little troublesome for them.

Too much inventories involve a higher cost of storage, damage issues, and insurance costs. It may also lead to increased wastage of goods if the inventories are perishable or the threat of obsolescence in case the products changes fast.

Moreover, if the company is spending a lot of money on excessive inventories, it is fixing that money which they could have used in other potentially rewarding opportunities. And that’s why excessive inventories should be controlled by the company.

How to Evaluate Inventory on Balance Sheet?

The Inventory level of a company can be evaluated by using the inventory to current asset ratio. This ratio reflects how much percentage of the current asset is kept as inventory.

Inventory to current asset=Inventory/(Current assets)  ∗100

Although the ideal inventory to current asset ratio varies industry-to-industry as a few industries may require more inventories in their shelves for timely operations compared to other. However, as a thumb rule, this ratio should be less than 40%.

Moreover, try avoiding to invest in companies with inventory to current asset ratio greater than 60% as this might reflect too much inventories and the management’s inefficiency in inventory control.

For example, here is the balance sheet of Hindustan Unilever (HUL). Let’s calculate its inventory to current assets ratio.

inventories hul

Balance sheet HUL

For Hindustan Unilever, if you calculate the inventory to current assets ratio, you can find it equal to 30.75% for the year ending March 2018.

In the last 5 years, this ratio has been continuously increasing- 21.55% (2014), 24.87%(2015), 26.87%(2016), 28.54%(2017), which means that HUL is spending more on their inventories. As the inventory to current assets ratio is still under satisfactory level, this can be considered healthy for the company.

However, to get a better idea, you need to compare the inventory to current assets ratio of HUL with its competitors in the consumer goods segment.

Note: If you are new to the financial world and want to learn how to effectively read the financial statements of companiesfeel free to check out this awesome online course on Introduction to Financial Statements & Ratio Analysis.

Summary

Although inventories are often ignored while evaluating companies in many industries, however, they are still one of the most crucial assets of a company. And that’s why inventory control is an important area to focus.

A low inventory level may lead to delays in completing orders, empty shelves and out of stocks which are not a good experience for the customers. On the flip side, excess inventory might lead to higher cost of storage, damage issues, insurance costs, spoilage costs or the threat of obsolescence. In order for a company to work effectively, its necessary to have sufficient (but not excess) inventories.

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