sharetrading | Investment In Equity

December 23, 2013 – 11:39 am

By Sunil M S | Posted in Equities, Share Trading, Stock Market | Also tagged equity, investment, Shares, stockmarket, SunilMS, sunilmssunilms | Comments (0)

Investment in Equity (Part 18)

All the previous chapters had focused on a trading system in which only one position was envisaged. In that system, the entire capital gets utilized for buying shares for creating one single long position. One single long position means one single long position in one scrip. There can be one position each in more than one scrips. For example, you can have one position each in a number of scrips at the same time; example: Reliance, Tata Steel, Tata Motors, ITC, ICICI Bank, and so on. To make it clearer, while one position each can be created in a number of scrips, there will be only one position in any given scrip.

One of the discouraging factors of this system is the risk of loss which can amount up to the scale employed. When 5% is the scale employed, the risk of loss in any single deal can be as high as 5% of capital employed in that deal. The actual risk may be even more when brokerage is also reckoned. The 5% loss can become massive when the capital allocated to each scrip is large. It is here a multiple positions system becomes relevant.

Before I proceed to introduce the multiple position system, I must caution here that the risk of loss is very much there even in the multiple position system. But, its relative advantage is that the risk gets almost equally divided among the multiple positions so that the risk of loss in any one deal may not be massive. It also has to be mentioned that while the risk of loss in the multiple position system is lesser than the single position system, the prospects of profitability and growth, too, will be lesser than the single position system. It can be said that when the risk of loss is lower, the profits too will be, correspondingly, lower. However, despite the lower profit and growth prospects, the multiple position system will definitely find favour with many traders for the main reason of lower per deal risk of loss.

I shall now explain the multiple position system, with the help of the following graph:

The above given graph was drawn from the actual figures of Reliance Capital. The graph uses a scale of 3.33%. It means that the gap between any two consecutive levels is 3.33% of the lower of the two. For example, let us take the levels of 281 and 291. 3.33% of 281 is 9.35. When this is added to 281, we get 290.35. For the ease of trading, we round fractions upward. Thus the level next to 281 is 291.

Let us imagine that we shall have three positions at a gap of 3.33%. Three positions at a gap of 3.33% will add up 9.99% or roughly 10%.

In the above shown graph, the price movement starts at Rs. 301. The price first falls from Rs. 301 to Rs. 291 and then to Rs. 281. During this fall, we will not do anything; we will just wait for the price to start rising. Without forcing us to wait any longer, the price starts to climb. First it rises from Rs. 281 to Rs. 291 and then to Rs. 301. Even thereafter, it goes on climbing.

Here, a bottom was formed at Rs. 281. When price forms a bottom and then rises, we are to buy. When the price rises one division i.e., 3.33% from the last formed bottom of Rs. 281 (as shown in the graph) to Rs. 291, we shall make one purchase at Rs. 291 and create our first long position.

The price then rises one more division, from Rs. 291 to Rs. 301. We had decided to create a series of three long positions. So, we will make another purchase at Rs. 301. Thus a second long position gets created.

The price does not stop at Rs. 301; it continues to rise and hits Rs. 312. We buy again and create the third long position.

Thus, we have created three long positions, at Rs. 291, Rs. 301 and Rs. 312 respectively. Since our decision was to create a series of three long positions, we will not make a fourth long position even if the price climbs another one or several divisions. Therefore, even though the price rises further to Rs. 323, Rs. 334, Rs. 346 and to Rs. 358, we will not do anything other than to keep holding on to the three long positions which we created at Rs. 291, Rs. 301 and Rs. 312.

Let us pursue the price movement again. After touching the level of Rs. 358, price falls one division to Rs. 346. Thus a high was formed at Rs. 358.

Whether it is a single position trading system or a multiple position trading system, the basic principle of our trading system remains the same: it tells us to buy when the price starts rising, and to sell when price starts falling. In the single position trading system, we used to create one single long position whenever the price rose 5% after forming a bottom, and we used to sell the position away whenever the price fell 5% from a top. Here, in the multiple position system, instead of just one long position, we create a series of long positions at the first three levels above a bottom, and we sell them away, one by one, at the first three levels below a top.

So, when the price falls from the top formed at Rs. 358 to Rs. 346, we will sell away one of our three long positions at that level, i.e., at Rs. 346. We will continue to hold the remaining two long positions.

In short, when we were holding three long positions, the price climbed down one division; this forced us to sell away one of our three long positions. If the price continues to fall two more divisions, we would sell away both the remaining long positions.

But, the price did not fall any further. Instead, it climbed back from Rs. 346 to Rs. 358. A bottom was thus formed at Rs. 346. Since we are holding only two long positions and since we had decided to have three long positions, we will fulfill the target by making another purchase at Rs. 358. Thus we make a purchase at Rs. 358 and create a third long position. Now, our quota of three long positions has been met again.

The price rises to Rs. 370. When it does, we do not do anything. We just wait. Here comes the next action: the price falls from Rs. 370 to Rs. 358. It continues its fall and hits Rs. 346.

A top has been formed at Rs. 370. When the price falls from this top to Rs. 358, we have to sell away one of our three long positions. Thus we sell one long position away at Rs. 358.

When the price falls to Rs. 346, we will sell away one of the remaining two long positions. After this sale, we will, still, be holding one long position.

The price now rises from Rs. 346 to 358, forming a bottom at Rs. 346. Since we are holding just one long position, and we can (and have to) create two more long positions, we will now make a purchase at Rs. 358. Thus we will be having two long positions.

The price rises further to Rs. 370. Since we are having two long positions only, we will make another purchase, at Rs. 370, to fill the quota of three long positions. Thus we will be having three long positions.

The price continues to rise. It passes through Rs. 383, Rs. 396, Rs. 410, Rs. 424, Rs. 439, Rs. 454, Rs. 470, Rs. 486, Rs. 503, Rs. 520 to hit Rs. 538. All this while, we will not be doing anything. We shall be clutching to our three long positions and watching the price movement.

After hitting a high of Rs. 538, the price falls one division to Rs. 520. Whenever price falls from a high, our theory asks us to sell. So we sell one of our three long positions at Rs. 520. We will now be having two long positions only.

The price rises from Rs. 520 to Rs. 538. Since we are having two long positions only, and we can (and have to) buy one more long position, we shall make a purchase at Rs. 538. When this purchase is made, we will again have three long positions.

The price rises from Rs. 538 to Rs. 556. From there, it falls three divisions continuously. First it falls to Rs. 538; here we sell one of our three long positions. Then the price falls further to Rs. 520, and here we sell another long position. Only one more long position is remaining with us now. The price now falls to Rs. 503 and we sell away the remaining one long position too.

Thus all the three long positions are sold away and we are back to the zero holding position.

The price now rises from Rs. 503 to Rs. 520. We shall now start a fresh series of buyings. But meanwhile, we shall try to assess the profits we have earned and the losses we have sustained in the first series of deals.

Here we follow the first-in first out method. The first purchase was at Rs. 291 and the first sale was at Rs. 346. We earned a profit in that deal. The gross profit in that deal was Rs. 55. Let us imagine that half percent of the purchase and sale has to be paid as brokerage. At this rate the brokerage on Rs. 291 will come to Rs. 1.50 (rounded upward for the sake of convenience), and the brokerage on Rs. 346 will come to Rs. 1.70. The total brokerage will be Rs. 3.20. We shall deduct Rs. 3.20 from the gross profit of Rs. 55. The net profit from the deal will thus be Rs. 51.80.

In order to make the whole thing easy, all the deals and the net profit or net loss from each of them have been calculated and listed in the following table:

e following table:

The maximum fund requirement, at a time, is computed in the following table:

As can be seen from the above given table, the maximum funds needed for this series of deals was Rs. 958. In other words, a maximum capital of Rs. 958 had to be made readily available throughout this series of deals.

Let us now calculate the return on capital employed:

Capital employed Rs. 958.00

Net Profit earned Rs. 596.90

Net Profit as a percentage of the capital employed: 62.3%

I will not dare to claim that every series of deals will return this kind of, rosy, results. There can be several series of deals which end up in loss. The net returns or net loss over a period of time will depend on the price movement in that period. Price movement is the main factor which will decide your profits and losses.

But, though within that frame work, the multiple position system has a few advantages. The foremost among them is the lower per-deal risk of loss. As you can see from the above given illustrations, the maximum risk of loss from any one deal is 3.33% only. Had we been following a single position trading system of a corresponding scale (which in this case is 10%), we would have been undertaking a 10% risk of loss in every deal. Losing 10% of our capital in one single deal will be a proposition which we need to think twice, or thrice, before accepting.

In comparison with the single position system, the multiple positions system has higher per deal profitability prospects. In the multiple positions system with three positions, only if the price falls three consecutive levels, the whole long positions will get closed. If we decide to have five (instead of three) multiple positions, the long positions will not get fully squared up unless the price falls five consecutive divisions. A series of 10 multiple positions will require a continuous ten division fall for the whole long positions to get closed. When the number of positions in the series is more, the survival prospects of the long positions will also be more. In other words, the long positions will have a better safety if the number of positions in the series is greater.

We can express the same idea differently: over a long period, the profit earned per deal in a multiple positions system will be greater than the profit earned per deal in a single position system. To stretch it further, the per-deal profit earned in a 10-position trading system is, over a long period, likely to be greater than the per-deal profit earned in a 5-position trading system or in a 3-position trading system. Over a long period, the net profit per deal will keep climbing at a greater pace in a multiple position trading system.

This advantage can, at the same time, be a disadvantage too. When you follow a 10 position trading system, though your per-deal profit is likely to be greater, and climbing at a faster pace, the overall net profit amount is likely to be much smaller than the single position trading system explained in the preceding chapters. The reason has been mentioned already: when the risk is greater, the profits are greater; when the risk is lower, the profits too will be lower.

Despite this disadvantage, more traders are likely to favour this multiple position trading system, as I have already indicated. Personally, I too favour this system over the single position trading system; the reasons are two: lower per deal risk of loss and greater per deal profit prospects.

But, I have a very firm advice: Take your time choosing the system which suits you the best. But, having chosen your favourite trading system, adhere to it, come what may, and never switch systems. Switching systems can cause disaster.

The multiple position trading system has a feature which, perhaps, you might have noticed already: the long positions keep climbing when price climbs. Or, the long positions keep following the price whenever price is rising. This makes sure that the profit the trader earns is market-wide. In stock market, the market-wide profit is the maximum one can aspire for.

Very few readers are likely to find this series of writings interesting let alone useful. This series is aimed at traders who frequent stock market trading halls. Many traders may be regular in their visits to trading halls, and I doubt whether a visit to blogsites such as this would interest them. However, I fervently hope that traders would somehow visit blogsites and happen to come across these chapters. In case a trader happens to or takes pains to read these chapters, and make his or her trading more systematic (that is, minimize per deal risk of loss and maximize per deal profits) I will feel rewarded. I am anxious too, to learn from regular stock market traders what they actually think about this series of chapters, and whether they find them useful.

(Yet to be concluded)

By Sunil M S | Posted in Equities, Share Trading, Stock Market | Also tagged equity, investment, Shares, stockmarket, SunilMS, sunilmssunilms | Comments (0)

Investment in Equity (Part 17)

June 30, 2013 – 11:16 am

As promised, this chapter is being devoted to an overnight trading system with multiple long positions, and, this is important, a much lower risk of loss per deal. The graph given below will illustrate the concept clearly:

I shall explain the graph. The graph begins when the price is at Rs. 356. It falls one division (each division is equal to 5%) to Rs. 339. Then it rises one division and touches Rs. 356. Our principle advises that the scrip be bought when it rises 5% from the recently formed bottom. Rs. 339 was the recently formed bottom. When the price rose to Rs. 356, we were to buy. Let us imagine that we have bought just one share at that time.

The price rises another division (that is, another 5%) to Rs. 374. Under our original scheme, we would not have done anything at all; we would have simply waited, holding the shares we had bought at Rs. 356. But in the present variant of the system, which envisages multiple long positions, we are to buy one share when the price touches Rs. 374. Thus we have 2 shares. In real situations, we might buy more than one share, but, here, for illustration, buying just one share would be enough.

The price rises another division and touches Rs. 393. We buy one more share at this level. Thus we hold 3 shares in all.

The price rises another division and touches Rs. 413. We buy one more share at this level. Now we hold 4 shares in all. We repeat this purchase at each of the levels of Rs. 434, Rs. 456, Rs. 479, Rs. 503, Rs. 529 and Rs. 556. Ten purchases of one share each have been made in all, and we now hold a total of 10 shares of the scrip.

Now comes the fall: the price falls one division (that is, 5%) from Rs. 556 to 529. Our system tells us to sell the scrip away whenever it falls 5% from the last formed high. As per our graph, Rs. 556 is the last formed high. When the price falls from Rs. 556 to Rs. 529, we have to sell all the 10 shares. Let us imagine that we sold all of them at Rs. 529.

The logic behind all these purchases and sales is that, as long as the price keeps climbing, we will go on making purchases at regular intervals, and when price starts falling, we will sell the whole holdings away.

We have definitely earned some imaginary profit on these imaginary purchases. Let us calculate it.

I hope the calculations given in the table above are transparent enough. The net profit earned was Rs. 748. It comes to 16.65% of the total buying cost of Rs. 4493. The 10^th purchase, which was the last, ended in loss. As you can see from the last column, the gross loss of Rs. 27 (before accounting the brokerage) came to 4.86% of its respective buying cost of Rs. 556. This loss of Rs. 27 was equal to a mere 0.60% of the total buying cost of Rs. 4493.

One important point to note from this example is that the gross loss (gross loss here means loss before brokerage) from any single deal will not exceed 4.86% of its respective buying cost. The actual loss, after the brokerage is added, will be a little less than 5.5% of its respective buying cost.

One requirement of this system of multiple long positions is that we must first decide the maximum number of long positions we will create. In this particular illustration, we chose 10 positions. We could have selected a lesser number of positions; say 5 positions. If we decide that we will create a maximum of five positions only, then, we will be dividing our opening capital into five equal parts, and using each part for each position. Thus, if our maximum number of positions was just 5, we would have, in the example illustrated above, made the first five purchases only, and would not have made the purchases after the 5^th.

In the illustrated example, we had chosen to create 10 long positions and had divided our opening capital into 10 equal parts. Let us imagine that our opening capital was Rs. 20000, and that we had divided it into 10 equal parts of Rs. 2000 each. Thus Rs. 2000 was available for creating each position. In order to find out the number of shares in the first position, we need to divide Rs. 2000 with the price at the level of the first position, which was Rs. 356. 2000/356 = 5 shares. So, we will buy 5 shares to create the first long position.

We will find out the number of shares in the second long position in a similar way: 2000/374 = 5 shares. I am giving below the number of shares in each of the positions from the first to the 10^th:

Since a fraction of a share cannot be purchased, the decimals have to be omitted in these computations.

The number of shares was as high as 5 in the first position while the number went down to just 3 in the last three positions. This was because the price of the scrip had gone up, and the capital allocated for each of the positions remained fixed at Rs. 2000. When the scrip was cheaper, more shares could be bought; when the scrip became costlier, only a lesser number could be bought. However, the total cost of buying in every deal remained almost at the same level which was well within the allocated per-deal amount of Rs. 2000.

The single position system had been explained at length in several of the preceding chapters. The present chapter is devoted to the multiple positions system. We shall now compare this multiple positions system with the single position system. The whole opening capital is utilized for creating one single position in the single position system. If the price reverses without rising at all, 5 to 5.5% of the opening capital will be lost. This is because the gap between the selling trigger price and the last formed high is 5%.

In the multiple positions system, if we have chosen 10 as the maximum number of positions, and if we have divided our opening capital into 10 equal parts, then the risk of loss from one single deal will be around 0.50% only. This is because only one-tenth of the capital gets allocated to each deal. If our opening capital is Rs. 20000, we will have a risk of loss of 5% per deal in the single position system; this amounts to Rs. 1000 (Rupees one thousand) plus brokerage. The share of opening capital allocated for each of the 10 positions under the multiple positions system will be Rs. 2000; the maximum risk of loss we will have in one deal under this system will be just Rs.100 (Rupees one hundred) plus brokerage.

A much lower risk of loss is the main attraction of the multiple positions system. A much lower percentage of profit will be its main disadvantage. People can be of two different kinds: one might want higher profit and may be ready to undertake heavier risks. The other group may prefer much lower risks of loss and will be satisfied with a correspondingly lower profit.

I have already mentioned that in the single position system, we will have a risk of loss ranging over 5% of the opening capital. It is quite possible that the price moves violently up and down, and that more than one deal takes place on the same day, and that all the deals end up in loss. In every such deal, ending up in loss, the risk of loss can be 5% plus brokerage. The total loss which the multiple positions system might cause us on any given day is likely to be much less than the loss which we might suffer from the single position system.

If the price movement is favourable, the single position system will give our capital a much faster growth than what the multiple positions system will. The converse of the same is also true: when the price movement is unfavourable (showing frequent reversals), we will lose more amount in the single position system than in the multiple positions system.

So, each individual will have to select the system with which he or she feels at home; those who are ready for heavier losses, can select the single position system. Those who prefer small losses and small profits, can go in for the multiple positions system. Here is a caution: if the maximum number of deals selected is very high, say, 30, it will take a long time for the capital to grow. The greater the number of positions, the lower the profits, and the slower the growth.

Just for the sake of curiosity, let us calculate the net profit from the single position system, and compare the net profit with that of the multiple positions system. Had the single position system been followed, there would have been only one deal in the example given at the top of this chapter; its buying would have been made at Rs. 356, and the selling at Rs. 529. Rs. 173 would have been the gross profit, and Rs. 168, the net profit after brokerage. This net profit would have been equal to 48% of the opening capital of Rs. 356. In comparison, the net profit from the 10 deals in the multiple positions system was, if you haven’t forgotten, 16.65%

Under the single position system, there will be only a single deal. If it reverses (that is, if it ends in loss), the loss can be as high as 5.5% of the opening capital. Contrary to this, under the multiple positions system with a maximum of, say for instance 10 deals, only the 10^th deal might end in gross loss; the remaining nine deals will not end in gross loss.

Though we might be ready to create 10 long positions, the upward moment might, at times, dissipate after rising one or two divisions. The example given above, in which the price rose 10 divisions at a stretch, was based on an actual price movement. However, such rosy situations have been rare and far apart in the past. The loss-deals may, more or less, match the profit-deals. The data in Chapter 5 shows that Reliance Capital had 67 profit-deals and 49 loss-deals over a period of eight years. This ratio looks good enough, but no one can guarantee that the same ratio will prevail always.

(To continue)

By Sunil M S | Posted in Equities, Share Trading, Stock Market | Also tagged equity, investment, Shares, stockmarket, sunilmssunilms | Comments (0)

Investment in Equity (Part 16)

June 28, 2013 – 5:30 pm

Fear of loss is the greatest worry of those who invest in stock market. One is uncertain about the extent of loss one might have to incur, and how soon. Satyam Computer, which, for years, was a blue chip scrip and a darling of traders, fell from around Rs. 180 to a little more than Rs. 6 in a matter of 48 hours. More than 96% gone in just two days! If one had invested one lakh rupees in that scrip, the capital would have got reduced by a whopping 96%, and just 4% of the capital, i.e., just Rs. 4000, would have remained at the end of the 48 hours. If the risk is so high as 96% in two days, who will be bold enough to invest in stock market?

That leads us to the question, how much loss are we ready to bear in any given single day?

Definitely not 96%. How about 10%? If we lose 10% of our capital every day, in just 10 days the total capital can vanish. How about 5%? It looks better. As already mentioned, very few persons will come forward and invest in stock market if the risk of loss is so high as 96%. More people might be ready, if the risk is much lesser, at 10%. Still more people might come forward, if the risk of loss is still lower, at, say, 5%, or even less. It is loss per day, mind you. If one loses 5% of one’s capital every day, the whole capital will last for 20 days, in simple arithmetic. One may not, in the least, like the idea of one’s whole capital getting wiped out in a matter of 20 days. Then, are you ready for 1%?

The risk-bearing capability of different persons is different. The size of the money one possesses may not have much of a bearing in one’s risk bearing capability. Some people, though rich, may not be willing to take up much risk. Some others, though with small-sized funds, may be ready for risks which are, percentage-wise, huge. Some may even be reckless. We are, however, not professing recklessness; we are only seeking levels of risk which are prudent.

The overnight trading system, of which I am the proponent, provides the investor two means of limiting his risk of loss. It has already been mentioned more than once in the preceding chapters that whenever we are holding a scrip, there will be a stoploss sell order entered at the level which is 5% below the last formed high, so that if the scrip crashes 5% or more than 5%, the sale order will get executed and the scrip will get sold away. This stoploss sell order limits the risk of loss.

However, some investors might view even this, reduced risk of loss as too high to bear. Here I would like to draw your attention to the Chapter 5 of this write up. (A click on Chapter 5 will take you to that chapter.) The net profit or net loss, as a percentage of the respective opening capital, earned or suffered in all the deals indicated in that chapter, are given below for ready reference:

Deal	% of	Deal	% of	Deal	% of	Deal	% of
Number	Net P or L	Number	Net P or L	Number	Net P or L	Number	Net P or L

Deal 5	148.30	Deal 94	11.86	Deal 28	1.40	Deal 102	-3.06
Deal 100	79.46	Deal 115	11.35	Deal 108	0.92	Deal 75	-3.09
Deal 72	49.63	Deal 71	9.52	Deal 106	0.55	Deal 103	-3.10
Deal 29	47.63	Deal 15	9.46	Deal 98	0.54	Deal 47	-3.24
Deal 69	45.15	Deal 34	8.97	Deal 87	0.40	Deal 43	-3.48
Deal 20	41.54	Deal 62	8.89	Deal 8	0.38	Deal 113	-3.49
Deal 33	41.29	Deal 2	8.58	Deal 85	0.38	Deal 19	-3.61
Deal 22	34.25	Deal 79	8.58	Deal 14	0.21	Deal 7	-3.64
Deal 110	28.51	Deal 74	8.55	Deal 96	0.10	Deal 49	-3.85
Deal 91	26.79	Deal 24	8.16	Deal 114	-0.24	Deal 88	-3.93
Deal 36	26.71	Deal 39	7.77	Deal 27	-0.42	Deal 4	-4.13
Deal 52	26.38	Deal 35	7.10	Deal 23	-0.48	Deal 6	-4.20
Deal 11	23.62	Deal 55	6.72	Deal 50	-0.78	Deal 95	-4.25
Deal 1	21.27	Deal 53	5.90	Deal 82	-0.83	Deal 48	-4.27
Deal 31	20.87	Deal 93	5.89	Deal 65	-0.84	Deal 83	-4.40
Deal 42	20.08	Deal 66	5.56	Deal 59	-1.16	Deal 116	-4.42
Deal 112	19.62	Deal 25	5.54	Deal 86	-1.17	Deal 76	-4.58
Deal 44	18.17	Deal 92	5.51	Deal 60	-1.26	Deal 111	-4.66
Deal 45	18.08	Deal 63	5.38	Deal 70	-1.48	Deal 30	-4.81
Deal 80	17.45	Deal 40	5.22	Deal 46	-1.84	Deal 64	-4.83
Deal 58	16.87	Deal 89	4.73	Deal 41	-1.97	Deal 104	-4.88
Deal 37	16.25	Deal 97	4.44	Deal 109	-2.11	Deal 10	-4.94
Deal 61	16.21	Deal 38	4.12	Deal 68	-2.37	Deal 105	-5.16
Deal 67	16.00	Deal 54	3.77	Deal 26	-2.49	Deal 90	-5.25
Deal 107	14.66	Deal 101	3.37	Deal 73	-2.51	Deal 21	-5.34
Deal 84	14.66	Deal 18	2.27	Deal 77	-2.69	Deal 32	-5.53
Deal 51	14.38	Deal 3	2.04	Deal 16	-2.70	Deal 12	-5.58
Deal 17	13.96	Deal 57	1.76	Deal 13	-2.82	Deal 9	-5.72
Deal 78	12.70	Deal 81	1.75	Deal 99	-2.91	Deal 56	-5.91

It can be seen from the above given figures that the maximum loss suffered was 5.91%, inclusive of the brokerage. None of the losses exceeded 5.91%. This shows that the risk of loss on any given day is limited to 5% (plus brokerage) of the opening capital. I hope you will also notice that the net profit is not subjected to any such limit. On one day (Deal 5), the net profit was as high as 148%. On another day (Deal 100), the net profit was 79%. On 31 days, the net profit exceeded two digits.

The point is, while loss was limited to 5% and brokerage, the loss was unlimited. While the potential for profit was unlimited, the risk of loss was limited. This is the greatest advantage of my system.

However, there may be several investors who consider 5% loss, per day, as too high to bear. For them, there are several options. Suppose one investor is comfortable with a loss of 2.5%. One of the options open to him is to apportion his total opening capital into two equal halves every morning. One of the two equal halves will be considered as not available for the trading of that day. In this way, his risk of loss will get reduced by half. In this case, only 50% of his opening capital will be used for trading. This percentage can be increased or reduced in accordance with the risk-perception. At the same time, it should also be borne in mind that when only a portion of the opening capital is used, the profits too will fall in that proportion.

Another option is to follow a system with multiple positions. Only one single long position was mentioned so far in all the preceding chapters. However, it is possible to have more than one long position too. In such a system wherein the whole capital gets divided or distributed equally over a number of positions, the risk of loss per position will get reduced in proportion to the total number of positions. This will be dealt in more detail in the next chapter.

(To continue)

By Sunil M S | Posted in Equities, Share Trading, Stock Market | Also tagged equity, investment, Shares, stockmarket, sunilmssunilms | Comments (0)

Investment in Equity (Part 15)

June 25, 2013 – 9:02 am

Buy when price rises 5% from the last formed low and sell when price falls 5% from the last formed high – this is my theory in a nutshell; I keep repeating it lest we forget.

The theory is easy to follow most of the time. But there are times when it becomes difficult. One of the difficult moments is when the price jumps the level at which we were to buy or sell. This needs some explanation.

Let us imagine that Rs. 100 is the last formed low or bottom of the scrip A. Our guiding principle tells us to buy it if the price climbs 5% and touches the level of Rs. 105. Let us imagine that yesterday, the price had risen to Rs. 104.50 and had closed at that level. Let us also imagine that today the scrip opens at Rs. 107.

When the scrip had closed at Rs. 104.50, we had hoped that we would be able to buy the scrip if it climbs further and touches Rs. 105 today. Unfortunately, it is at a much higher level of Rs. 107 that the scrip opens today. The price has jumped (over) the level of Rs. 105, at which we were to buy in accordance with our system, to Rs. 107. The sudden spurt in price did not give us the chance to buy the scrip at Rs. 105, which was the level we had desired.

What do we do now?

The answer is simple: buy it at the present level of Rs. 107. That is, since the scrip has opened at Rs. 107, buy it for Rs. 107.

Some might think that the scrip will come down to Rs. 105 at some point of time soon, and that there is no need to hurriedly buy the scrip right now at the high price of Rs. 107; they might even advise us to wait until the scrip comes down to Rs. 105.

I do not favour such a stand. My advice is simple: buy the scrip at Rs. 107 if that is the level at which the scrip opens.

The logic behind my stand is that the scrip can continue its climb and can rise to Rs. 108, Rs. 109, Rs. 110, and so on, giving us no chance to buy it at every level at which we hesitate to purchase. The principle is this: if the price doesn’t come to the desired level, accept the level that becomes available, and adhere to the price movement. The point is, we should not wait in the sidelines when the price keeps moving upward. The system is intended to make sure that whenever the price keeps rising, we remain invested.

We shall take an example of selling too.

Suppose the high or top the scrip B had last formed is Rs. 200, and that we are holding 10 shares of the scrip. According to our theory, we are to sell the scrip away if it falls 5% from its last formed high. Thus, we should sell the scrip if it falls from Rs. 200 to Rs. 190. Suppose the scrip had closed at Rs. 191 yesterday, but opens today at Rs. 185. This denies us the opportunity to sell the scrip at Rs. 190. Instead, we are given a choice to sell at Rs. 185, or not to sell at all.

In such a scenario too, we should sell the scrip at the current rate of Rs. 185, even though it is five rupees lower than the level at which we were to sell it away. We shouldn’t wait thinking that the scrip will rise from the current rate of Rs. 185 to Rs. 190 giving us a chance to sell it at that level. No, we shouldn’t wait for the scrip to rise to Rs. 190. Instead, just sell it away at the current price of Rs. 185.

The logic behind this advice is that the scrip can crash to Rs. 180, Rs. 170, and so on, and, if we do not sell the scrip away at the price available now, we will find ourselves remaining invested while the price keeps crashing. The aim of the system is to see that we are not holding the scrip when it is crashing; we must have sold it away as soon as it had started crashing. Simply put, we must not be, and we will not be, holding the scrip, when it is crashing. I am repeating this repeatedly, I know, but this repeated repetition is to emphasize the principle.

Thus, when the price is rallying we will rush in to cling to the rising price. When the price is crashing, we will have sold it away at the first signal of the downward spiral, the signal being a 5% fall from the last formed high.

In the buying example given above, we will be incurring a higher cost. In the selling example given above, the proceeds which will be getting from the sale will be less than what we would have got in accordance with the principle we were following. We can’t help it. When price thus jumps over the level which we want the scrip to hit, we should boldly bear the additional cost or losses which such price-jumps might cause us.

The point is, we should cling to the price movement by readily undertaking such risks. There should not be a moment in which we are not moving in tandem with the price movement. If we are not moving in tandem with the price movement, two things can happen: (1) We might lose the opportunity to buy the scrip and gain appreciation in wealth when the price rises further. (2) We might lose the opportunity to sell the scrip away, and the failure to sell the scrip at the appropriate time might cause us loss which can be massive.

Here, clinging to the price movement means two things: remaining invested in a scrip when it climbs, and distancing from the scrip while it crashes. Price jumps are common and will certainly have adverse effects on the profitability of the system, but we have no choice but to boldly stick to the system. In the long run, these adverse effects which the price jumps cause are most likely to be only marginal. If we are part of every major rally and if we manage to keep away from major crashes, that itself should be enough to ensure substantial profits and growth.

Not being invested when a scrip rallies, and remaining invested when a scrip crashes, are two blunders which many an investor has committed. The trading system which we profess will prevent you from committing these two serious blunders, the risk of price jumps notwithstanding.

Several other circumstances can also cause price jumps. Power failures can cause it. If the power fails for several hours, with no alternative source of power supply, and if the price jumps over the desired price level, without our getting a chance to take the desired action, we might lose the chance to stick to the trading principles, though temporarily.

I will stress the word, temporarily. Because, if the power failure occurs in the middle of the trading hours, it may not affect us much if we take the precaution of entering the necessary stoploss orders. If we were to buy at a certain level, we will have entered a stoploss buy order. Even our computer terminal remains shut down owing to power failure, the stoploss order remains valid in NSE, and if the price touches the ordered level, the order will get duly executed. You can keep checking with another office (preferably the regional office or the head office) of the dealer, and can ascertain the status of the order. In case they say that the order has got executed, you can, then and there, give them the next order.

If you are trading from home, using your computer, and power fails, you can contact the dealer over phone, find out the status of the past orders, and if any of the orders has got executed, you can get your next order entered by the dealer himself.

I had been promising to devote one chapter to home-trading. By home-trading, I do not mean sitting idle at home and occasionally calling the dealer over phone and giving him orders. No, that is not the way of trading in equity. Such a method should never be adopted. Everyone following my method of trading should watch the trading terminal from close quarters; the investor should remain within a few feet of the terminal, and should watch the price movements. Unless he watches the price movements, he will not be able to stick to the trading system we profess. For watching the price movements, either the investor should visit the dealer’s trading hall and remain there throughout the trading hours, or he should have internet (broadband) at home, and should be able to keep the trading terminal open in his own computer throughout the trading hours.

When the investor has the necessary infrastructure, the dealer will, upon request, provide the necessary software. Either they will send the software file through email or, the investor can visit the dealer’s website and download the software. The downloaded file will have to be double-clicked and got installed. In the process, the necessary icon will get created on the desktop. Well before the trading hours start, he can click on the icon and the trading screen will open.

Initially, the trading screen will not be having any scrips in it. The screen will have a plus sign and a minus sign prominently displayed somewhere on it. When the plus sign is clicked on, a small window appears. Enter the code of the scrip you want, and press enter, the scrip will appear on the trading screen. In the same way, you can enter all those scrips which you want to deal in. If you want to delete a scrip from the terminal, select the scrip first, and then click on the minus sign; it might ask you whether you want to delete the scrip, and if you confirm it by clicking on ok, the scrip will disappear from the terminal.

Some of the dealers provide an alternative trading screen too. It is a simpler one, and does not need a software to be installed in your computer. You can visit the related webpage on your dealer’s website, enter your username and password, and the trading screen will open up. This screen will not be having some of the features and facilities which are available in the software-supported terminal, but is still good enough. Since it is simpler, many investors might prefer it too.

The software-supported terminal might need updation occasionally. The dealer will improve the software at times in order to make the trading easier and faster. My terminal has a Help menu. One of the items under the Help menu is Check for updates. When I click on it, it will tell us if the software needs updation. If an updation is necessary, it will take us through all the necessary steps. All of this should be over in a matter of seconds or, at the most, a minute. Sometimes, you may have to log out and log in again, for the updated version to take effect.

As indicated already, there are four things which might adversely affect home-trading: power, internet, dealer’s own website and your own computer. Your own computer is well within your own control. Keep it in excellent condition. Get it serviced and maintained in good shape at all times. Any unusual symptom should be taken up with the technician and got rectified then and there. If you do not do it promptly, it might disrupt the trading at some crucial hour, causing you loss.

A UPS is a must whenever a computer is used. Whenever power fails, the UPS will automatically take over, so that the operating system does not get corrupt and the unsaved work does not get lost. The capabilities of a UPS are limited. It might give you power for some minutes only. In course of time, if the trading has been sufficiently profitable, you can go in for a UPS of a larger capacity. Until then, if power fails, you will have to rely on your phones. If you are using a laptop, it will help you tide over two to three hours of power failure. The laptop battery will have to be kept fully charged throughout the trading hours.

If the broadband connection is through a fixed telephone line, the internet connectivity will be lost if the telephone line snaps or is damaged. Needless to mention, the trading screen will freeze the moment internet connectivity gets lost. When the telephone line breaks, the DSL lamp in the modem will turn off. If the line isn’t broken, but there is some other fault in the line, the DSL lamp will start flickering. In either case, you need to get in touch with the related telephone exchange, if it is a BSNL line.

Having broadband connections from two different internet providers will be ideal. If one of the lines fails, the other will take over. This is going to be costlier than having just one broadband, but it will ensure disruption-free trading. Though initially such an additional facility may not be warranted, if the level of trading is high enough, such infrastructural facilities are a must.

At times the dealer’s own server might fail or malfunction. In such cases, there is no alternative other than just to bring the issue to the notice of the dealer, and wait for him to rectify it. Keep in touch with the dealer until the fault gets rectified. In my experience, such interruptions were rare. At times deleting cookies and temporary files will rectify the fault.

Home-trading has its own comforts too. You are sitting comfortably in your own chair in your own room in your own house. This could be a great advantage. You can have your lunch, snacks or tea, while the trading is going on. While the trading is going on, you can also use your computer for other, useful works.

You should have two phones too. One can be a fixed line phone, while the other must be a mobile phone. If the telephone line breaks disrupting the broadband connectivity that comes through it, you can use your cell phone to get in touch with your dealer. Keep the cell phone battery too fully charged during the trading hours. Some of the dealers allow their customers to access the stock market through mobile phones, too. Frankly, I am not familiar with mobile phone trading, and therefore I am not able to comment whether the mobile phone trading facility will be adequate or safe enough for us to follow our trading system. The costs and reliability of the mobile connection too have to be ascertained and compared.

A TV is also a necessity. You will be able to monitor the prices watching the related channels on the TV. This will eliminate the need to frequently get in touch with your dealer. Good dealers will always be busy. Even getting into touch with them can be a time consuming affair. When you are frantically trying to get in touch with them, the delay can be maddening.

An alternative trading method – Graph Walking – will be dealt with in the next chapter.

(To continue)

By Sunil M S | Posted in Equities, Share Trading, Stock Market | Also tagged equity, investment, Shares, stockmarket, sunilmssunilms | Comments (0)

Investment in Equity (Part 14)

June 17, 2013 – 11:38 pm

Speculation and daytrading were the main topics in the preceding chapter. When we purchase scrips with our own cash, it is not speculation, it is a transaction fully supported with cash. When our purchases exceed our cash balance, we are entering the domain of speculation. In the same way, when we are selling scrips which we are holding, it is not speculation since the deal is fully covered by scrips. But, when we are selling more scrips or shares than we actually hold, then we are speculating.

A bit more about speculation. I had mentioned that the NSE dealers might allow you to speculate. They might allow you to buy scrips far beyond your cash balance. They stipulate margin for each scrip. For buying a scrip intraday, you need to remit only the margin amount. Let us imagine that the margin stipulated for Tatasteel is just 10%. Let us also imagine that the price of Tatasteel is Rs. 300. Since the margin stipulated on it is 10%, if you remit Rs. 300 to the dealer, he might allow you to buy 10 shares of Tatasteel intraday. This will be subject to the condition that the position should be closed well before the trading hours come to an end. I will cite my dealer as an example. If I create a speculative position intraday, and if I do not close the position by 3 PM, my dealer himself closes the position in the next five or 10 minutes. The computerized trading system which he uses, is programmed to close all such speculative positions during the first 10 minutes of the last half hour of trading.

As I had mentioned in the preceding chapter, the intraday speculative position can be long as well as short. I might have gone long in some scrips while I might have gone short in some others. Or, I might have gone short in all the scrips. Or, I might have gone long in all the scrips. Whatever be my speculative positions, I have to close them all by 3 PM. As already mentioned, if I do not close them all myself, my dealer will close all those positions in the first 10 minutes of the last half hour. On some days, the dealer may have a large number of speculative positions to close, and the automatic, system-driven closure of the speculative positions might get delayed by five or ten minutes.

Thus there are two different pairs of deals. One pair is cash deals: we buy with our own cash, and we sell our own holdings. The other pair is intraday speculative deals: we buy far in excess of our cash balance, and we sell far in excess of our holdings. So, cash deals and intraday deals are the two kinds of deals. When we purchase with our own cash, we can hold the scrip for any period of our choice. But when we buy far in excess of our cash balance, we have to sell them away and thus close the speculative positions well before the trading closes. The same thing applies to sales also. If we have sold more than what we are holding, we will have to compulsorily close the short position (by buying the scrips back, i.e., by coverbuying) well before the trading closes. On the contrary, if we are selling only what we have been holding, we will be under no compulsion to buy the scrips back.

The brokerage too might vary. The dealer will charge a lesser rate of brokerage on every deal (whether cash or intraday) which gets squared up or closed on the same day. If we buy a scrip with our own cash as soon as the trading begins, and sell it away before the trading closes, brokerage will be charged at a lower rate because we squared up the position on the same day. If we buy a scrip with our own cash, and do not sell it away on the same day, the brokerage charged in this case will be higher than that charged on intraday transactions. Likewise, let us imagine that we have been holding a scrip for the past several days, and we sell it away today. In this transaction, we sold what we had, and we did not buy the scrip back. This involves delivery of the scrip, and therefore a higher rate of brokerage will get charged on it. When you buy a scrip and do not sell it away, the dealer will have to collect the scrip from NSE, and deliver it to you. Since delivery is involved, the higher rate of brokerage will be charged. When you sell a scrip which you have been holding, and if you do not buy it back on the same day, your dealer will have to take that scrip from your account and deliver it to NSE; NSE will deliver it to the buyer. Here also, delivery of scrip is involved, and the brokerage charged will be more. Where delivery of scrip is not necessitated, the brokerage will be lower; where delivery is necessitated, the brokerage will be higher.

The foregoing was given merely as an information. I must make it very clear at this juncture that my theory does not, in any way whatsoever, support speculative deals. Under the theory, our purchases will always be within our cash balance, and our sales will always be within our holdings. We never exceed our cash balance or holdings. We never transgress into the domain of speculation. This protects us from all the risks and strains of speculation.

Let us imagine that we have bought a scrip today, in accordance with my theory. Let us also imagine that we had enough cash balance with the dealer to meet the purchase and its brokerage thereon. The settlement of the purchase will take place on T+2 basis. If today is June 17, the scrip will get credited to our account on June 19, provided there is no intervening holiday. Only after the scrip gets credited to our account, can we sell it away. That means, we will not be able to sell the scrip tomorrow, since the scrip will not have arrived in our account tomorrow. Here rises the question: how will we be able to sell the scrip tomorrow, if the price movement is such that the theory demands the scrip to be sold tomorrow? The question is quite reasonable. Here is one solution: if the scrip is a heavily traded one, most dealers will have a collection or a pool of such scrips which they will use to eliminate such hitches. The dealer will deliver the scrip from his pool account on behalf of us, and, when our scrip arrives, he will appropriate it back into the pool.

Although the dealer might help us out in such circumstances, he won’t be able to help us if our sale happens to be for a very large quantity, such as 5000 shares. It is quite possible that the dealer doesn’t have enough shares of the scrip in his pool to meet our sale. In such cases, where we sell the scrip before it arrives into our account, we might be landing ourselves into trouble. We will fail to deliver the scrip which we have sold. At the same time, NSE has the obligation to deliver the scrip to the buyer on T+2 basis itself. If we fail to deliver, NSE will buy the scrip from the open market through a public auction, and deliver it to the buyer. Here there is a problem: NSE will charge us a penalty of 20% for having failed to deliver to NSE by the due date, the scrip which we had sold. Needless to say, this penalty can be huge, if the quantity we had sold was huge.

Being proactive will be a great help in such occasions. If your holding in a scrip has risen to say, 5000 shares, you need to discuss the matter with your dealer. You need to ascertain from the dealer, whether he would be able to deliver 5000 shares of the scrip on your behalf, if you are forced by the price movement to sell the scrip before it gets credited to your account. If the dealer assures you of it, fine. If he says that he won’t be able to churn out that kind of a quantity, you have two options: one, to switch your account to a dealer who will be able to take care of your needs. Two, proactively limit the volume of each of the scrips you deal in, to the levels which are within the comfort level of your dealer. If the latter is the option open to you, then you can start dealing in a larger number of heavily traded scrips so that the quantity in each scrip may remain at lower levels which are well within the capabilities of your dealer. The intention should be to avoid failure in the delivery of scrips sold.

From the foregoing paragraphs, you might have guessed that you will need two accounts with the dealer. One, an account in which all the amounts you pay your dealer will get credited. When the dealer pays you, all such amounts of withdrawal will be deducted from this account. This is somewhat similar to a savings bank account. This account is often known as the trading account. When you buy a scrip, its amount is deducted from this trading account. When you sell a scrip, its sale proceeds are credited to this trading account.

But, when you buy a scrip how does the scrip come to you, or, how do you receive it?

This question needs some explanation. It is here, the second account becomes necessary. This account will be exclusively for crediting and debiting scrips only. Amounts will not be credited or debited to this account. When you buy 10 shares of scrip A, all the 10 shares of scrip A will get credited to this account on the due date (that is, on the T+2 basis). When you sell 3 shares of the scrip A away, 3 shares will get deducted from this depository account. The remaining seven shares will continue in the account. The account, which is exclusively for crediting and debiting scrips, is known as a depository account. While the trading account is an account with the dealer, the depository account is actually an account with a depository. There are two depositories in India: (1) National Securities Depository Limited, and (2) Central Depository Service Ltd. The former is called NSDL, and the latter, CDSL. Although your dealer will help you open both the accounts, only your trading account will be with the dealer, while your depository account will be with either the NSDL or the CDSL. You can choose the depository yourself.

When a scrip gets credited to your depository account, you will get an SMS from the depository itself. Likewise, every debit to the depository account, also, will be intimated to you through an SMS.

Whenever you have an account, you will incur some charges on it. It will always be better to find out from your dealer, the extent and periodicity of his charges. The necessary funds to meet all these charges should be provided well before the charges are debited.

Needless to say, you will also need a bank account. All payments to the dealer should be from this bank account. Likewise, the dealer’s payments to you will go straight to this bank account. If you make an online payment to the dealer, the amount might get credited to your trading account in a matter of hours. Likewise, the online payment which the dealer makes, might get credited to your bank account in a matter of hours. However, delay is possible.

(To continue)

By Sunil M S | Posted in Equities, Share Trading, Stock Market | Also tagged equity, investment, Shares, stockmarket, sunilmssunilms | Comments (0)

Investment in Equity (Part 13)

June 16, 2013 – 9:39 am

In chapter 11, I had promised to deal with daytrading, speculation, trading from home, etc. I shall try to deal with some of them in this chapter.

The dictionary meaning of speculation is ‘Engagement in risky business transactions on the chance of quick or considerable profit.’

When we try to find out what speculation is, we need to go a little deeper into the whole topic. As its first step, we shall divide equity investors into three broad groups:

(1) Long term investors

(2) Short term investors

(3) Daytraders

A long term investor holds on to his scrips for several years just as someone holds on to his investment in real estate. There are people who buy landed property and never sell them. Similarly, there are shareholders who buy shares and hold on to them infinitely. Whether the scrips crash or rally, does not sway them.

A short term investor holds scrips for a short period. A short period can be as short as a few days or as long as a few years. All that I have talked about in these chapters were about short term investment. Profit is their main motive; at the same time, they are also conscious of the risks.

Daytraders may buy and sell the same scrip many times the same day. They watch the price movement, and if they think that the price will rise, they buy. If the price rises, they will sell the scrip away, at a profit. If, contrary to their expectations, a scrip which they have bought falls, they might sell it away to limit their losses. They square up their positions before the trading hours end. In other words, they close all their positions before the trading closes on the same day. Every share they had bought during the day, will be sold away on the same day. They will buy back every share on which they had gone short during the day.

The last mentioned sentence needs some clarification.

A daytrader might create two different positions. Let us take scrip A and scrip B. He might think that the scrip A will rise, and he will buy the scrip. When he has bought the scrip and is holding it, he is said to be long on it. The position he has created in that scrip is a long position. His intention is to sell the scrip when it has risen, and earn the profit. Before the trading comes to an end, the daytrader will be selling the scrip away. Thus the long position gets squared or closed. A long position can be closed by selling the scrip away. If the selling price is greater than the buying price, the daytrader earns gross profit. The brokerage will have to be paid out of it. If the selling price is smaller than the buying price, he incurs loss.

At the same time, he might be thinking that the scrip B will crash. He does not hold the scrip. Still, he will sell the scrip. This will sound strange to those who are not familiar with the stock market. If I want to sell a motorcycle, first I should possess one, and only if I possess a motorcycle, can I sell it. If I do not possess a motorcycle, I cannot sell it. I can sell a book, only if I already possess it. I cannot sell a book if I do not possess it. Stock market is different on this count. A daytrader in a stock market can sell a scrip even if he does not hold it. But there is a condition: he should buy it back before the trading ends.

It works like this: suppose I am a daytrader and that I do not hold the SBI scrip. Still, I can sell SBI in daytrading. Let us imagine that I am selling 10 shares of SBI. If I sell a scrip which I do not hold, such selling is called shortselling. The position I thus create is a short position. Creation of a short position is subject to one condition: I should buy the shares back before trading ends. So, before the trading ends, I will buy 10 shares of SBI. Number of shares sold = 10. Number of shares bought = 10. The position thus gets squared. In other words, a short position gets closed when the shares sold are bought back. If the selling price is greater than the buying price, the daytrader earns profit. If the selling price is smaller than the buying price, he incurs loss.

A daytrader thus has two opportunities to earn profit. He can create a long position in one scrip and a short position in another. Or, he can create long positions in a number of scrips and short positions in a number of other scrips. Both the long and short positions have, all, to be closed before the trading ends. Both the creation and the closing of positions take place on the very same day. No position will be in existence overnight. All the positions will exist only during the trading hours which are all during the daytime. Hence the terms daytrading and daytrader.

When the market is rising, it is known as a bull market. In a bull market, a daytrader creates long positions first, and squares them off later in the day, making the best use of a bullish market. A falling market is called a bear market. A daytrader creates short positions in a bear market, and, later in the day, squares them all by buying back all the short-sold shares. Thus a daytrader can take advantage of both the bullish market and the bearish market.

When a daytrader buys a scrip, he is creating a long position. We can call such buyings as long-buyings. When he sells the scrips away, he squares off the long positions; hence we can also call such sellings as square-sellings. When a daytrader sells a scrip, creating a short position, we can say that he is short-selling. When, later, he buys the scrip back to square the short position, we can say that he is square-buying or cover-buying or simply covering.

All that he does are just two pairs of actions: (1) long-buying and square-selling. (2) Short-selling and then cover-buying. In both the cases, profit is computed in the same way: selling price minus buying price. If the selling price is greater than the buying price, he earns profit. If the selling price is lesser than the buying price, he suffers loss.

There are a couple of differences between a short term investor and a daytrader. A short term investor cannot short-sell. He sells only those scrips which he already holds. On the contrary, a daytrader can short-sell; he can sell a scrip which he does not hold. Of course, he will have to buy it back on the same day. Thus we can safely say that the position a short term investor creates is always a long position. Later, perhaps after days or months or even years, he sells the scrip away to square off or close the position.

The second difference between the short term investor and the daytrader is that, the latter closes all his positions before the trading comes to a close on the very same day. A short term investor may take days, months or years before finally closing his long positions.

The third difference is a more serious one. Let us imagine that I am a short term investor and that I buy a scrip today. I have to pay the NSE dealer the whole amount either today itself or, at the latest, tomorrow morning itself. It is compulsory. In other words, when I buy a scrip for overnight or short term investment, I should have sufficient funds ready to meet the buying cost and the dealer’s brokerage. On the contrary, a daytrader, who has gained net profit on a given trading day, will not have to pay anything to the dealer; instead of paying the dealer, the dealer will credit the net profit to the daytrader’s account.

There is more to say about the third difference. Let us imagine that the daytrader has a cash balance of Rs. 10000 with his NSE dealer. For the sake of illustration, let us imagine that the daytrader is dealing in just one scrip: Tatasteel. Let us also imagine that the dealer has stipulated a margin of 10% on Tatasteel. This means that, if he pays the dealer just 10%, you can have a position equal to ten times the amount you have paid. If you have paid the dealer Rs. 10000, you can have positions up to Rs. 1,00,000 during that day. Let us also imagine that Tatasteel is priced at Rs. 250. The amount you have paid the dealer is Rs. 10000. Normally, the amount would have been sufficient for buying just 40 shares of Tatasteel. This is how: Rs. 10000 ÷ 250 = 40 shares. Although your cash balance is sufficient to buy 40 shares only, by stipulating 10% margin on Tatasteel, the dealer is allowing you to buy 400 shares; this is the calculation: Rs. 100000 ÷ 250 = 400 shares.

In short, the daytrader can buy shares up to a value which is 10 times his cash balance, if the margin on the scrip is 10%. The margin can vary. Some scrips carry a margin of 15%. These percentages of margin may vary from day to day. If SEBI or a stock exchange believes that there is excessive speculation in one particular scrip, they will raise the margin. As of now, I can name two scrips which carry 100% margin: HDIL and Manappuram. When the margin is high, a daytrader will be able to have only an accordingly lower position in that scrip. When speculative activity decreases, and the share attains stability, the high margins usually get lowered.

The facility of high intraday position is what mainly attracts a daytrader. He thinks that since he can have positions which can be as high as 10 times his capital, he would be able to earn substantial profit from daytrading. Whether any daytrader is, in reality, earning huge profits over the long term is a question the daytraders alone will be able to answer. Going through the charts showing the intraday price movements of certain scrips on certain days, the notion which I came to have about the profitability of daytraders, was not all that pleasant.

A daytrader can be engaged in three activities:

(1) buying scrips within his own funds, and then selling them. Actually, this is what the short investors too do: they buy scrips with their own funds, and later sell them away. On this count, I do not see much difference between a daytrader and a short term investor, except that the daytrader closes his positions on the very same day, while the short term investor waits longer. This is not a speculative activity.

(2) short-selling scrips which he does not hold. Here, he is selling what he does not possess. I will call this speculation.

(3) creating intraday positions several times his capital. Here, he is creating positions (or, overtrading) with money which he does not actually have. This is clear speculation.

The theory, which I have put forth in these chapters, has nothing to do with speculation. Under my theory, you will be buying with your own funds, and you will be selling what you already possess. Further, I recommend that you should not even think of daytrading as well as speculation. Adhere to the theory, which I must repeat here, lest we forget: buy when price rises 5% from the last formed bottom, and sell when price falls 5% from the last formed top.

Before I conclude this chapter on speculation, I should also briefly deal with futures and options which are generally known as derivatives. Futures are agreements to buy or sell a certain quantity of a certain scrip or an index, by a certain date (which usually is the last Thursday of the month). On the due date, one of the two parties to the agreement wins while the other loses. Actual delivery of the scrip underlying the derivative, does not take place on the maturity date of the agreement. Settlement takes place on the basis of the actual price governing on that day.

Options too are a variant of the futures. Under options, you pay a premium and buy the right to either buy or sell a certain quantity of a certain scrip by a certain date which is usually the last Thursday of the month. Depending on the ruling price of the scrip on the maturity date, settlement takes place. Actual delivery of the scrip never takes place.

Deals under both the futures and options are, in my firm view, speculative in nature, since their settlement takes place in cash, instead of by actual delivery of shares. If you want to invest in a scrip, buy it in the cash market, when it’s time to buy in accordance with my theory. If you want to sell it away, then sell it away when it’s time to sell in accordance with my theory. Under my theory, you get delivery of the scrip when you buy it, and you give delivery of the scrip when you sell it away.

I am not saying, even for a moment, that speculation is unethical. Ethics is not at all my topic. I am against speculation, solely because one is quite uncertain about the outcome of a speculative deal. In a speculative deal of the kind indicated above, you have a 50% chance to earn profit and 50% chance to suffer loss. If you enter into 100 speculative deals in a day, there is 50% chance for all the deals to end up in loss. I do not forget their 50% chance to bring in profit. Still, I wouldn’t dare to enter into any deal that has only 50% chance for success. 50% chance is not enough. Even the toss of a coin has 50% chance of success.

Compared to speculation, the deals under my theory have less uncertainty, because all of them go in tandem with the price movement. You are clinging to the price movement. You know that you will gain all those profit that the price movement provides you (market-wide profit); though you know that you will incur loss too, you also know that the loss will be limited to the trigger percentage and not market-wide. The market-wide profit and the limited loss will make all the difference under the theory.

(To continue)

By Sunil M S | Posted in Equities, Share Trading, Stock Market | Also tagged equity, investment, Shares, stockmarket, sunilmssunilms | Comments (1)

Investment in Equity (Part 12)

June 14, 2013 – 8:14 am

In the preceding chapter, I had promised to deal with daytrading, speculation, trading from home, etc. Before I go into those topics, let me say something more about stoploss orders.

Let me compare stoploss orders with normal orders.

Before we do so, let us be clear about our concepts. In one of the previous chapters it had been mentioned that when a scrip is shooting up, people will rush in to buy it. When a scrip is crashing, those who are still holding it, will frantically try to sell their holdings away. When a scrip keeps climbing, it brings about some kind of a snowball effect, and more people hurry to buy it. A similar snowballing effect, but in the reverse direction, occurs when a scrip is crashing. So, the tendency of the majority of those present in the trading hall is to buy a scrip when it is steadily rising, and to sell a scrip away when it is steadily falling. These general sentiments are the bases of my own theory which asks us to buy when the price starts rising and to sell when the price starts falling. For making it clearer, let me list out the two basic principles which a majority of the investors or traders follow:

(1) Buy when price is rising.

(2) Sell when price is falling.

We can derive another two principles from the above listed two principles; they are:

(1) Do not sell when price is rising.

(2) Do not buy when price is falling.

We shall now get on with the task of comparing normal orders with stoploss orders. Let us imagine that a scrip is now priced at Rs. 100. Investor A thinks that the present price is too high, and that the scrip would be worth buying if it falls to Rs. 95. So he enters a normal buy order for Rs. 95. If the scrip falls to Rs. 95, his buy order will get executed. Suppose the price falls to Rs. 95 and the buy order gets executed. Let us now view this purchase against the background of the above given four principles. One of the principles had asked us to buy when the price was rising, while another principle (a converse of the former) had asked us not to buy when the price was falling. Here, in the case on hand, the investor A bought the scrip for Rs. 95 when the scrip was falling. Buying a falling scrip is against the above quoted principles. A normal buy order of the above kind goes against the above listed principles.

Let us consider stoploss orders now. Let us take the same instance, but a different investor, investor B. The scrip is priced at Rs. 100. Investor B is not sure where the scrip is headed, whether it is rising or it is falling. He thinks that if the price climbs to Rs. 105, it will further climb to far higher heights, and decides that he will buy it only if the scrip climbs to Rs.105. Since the current ruling price is Rs. 100, and he wants to buy the scrip only after it climbs to Rs. 105, the only order Investor B can now enter is a stoploss buy order. The trigger price of the stoploss buy order should be Rs. 105 and the limit price can be anything higher than the trigger price, say, Rs. 106. Let us imagine that the price rises to Rs. 105 and the stoploss buy order gets executed. Here, the purchase was made when the price was rising. Such purchases, through stoploss buy orders, adhere to the above listed principles which ask us to buy when price is rising.

We shall now consider sale through normal sell order as well as through stoploss sell order.

Let us imagine that a scrip is currently priced at Rs. 100. Investor A, who holds some shares of the scrip, thinks that if the scrip rises to Rs. 105, he will sell the scrip away as he would, at that rate, get a reasonable profit. He might also be thinking that once the scrip hits Rs. 105, the scrip is unlikely to climb any further, and that it would only fall thereafter. So, he enters a normal sell order for Rs. 105. Let us imagine that the price rises to Rs. 105 and his normal sell order gets executed. Here, the sale took place when the scrip rose from Rs. 100 to Rs. 105. The sale took place when the price was rising. Our principles tell us to sell when price starts falling. The same principles further tell us not to sell when price is rising. The sale in the instant case violated both our principles (sell when price starts falling, and do not sell when price is rising). Investor A sold the scrip away while the scrip was rising.

Besides, more important, by selling at Rs. 105, the investor A denied himself further profit which he would have got if the price had kept rising further above Rs. 105. The scrip could have risen to Rs. 120 or Rs. 130 in course of time, who knows? Nobody knows for sure how far a scrip will climb. So, once invested, it will be better to wait until the scrip, steadily climbing, exhausts itself and starts falling. When the investor waits until the scrip stops climbing and starts falling, the profit he will gain is market-wide. In other words, he takes all the profit which the market provides. If an investors decides that it will be enough if he gets 10% profit, such a policy can have two serious deficiencies: (1) it will deny him a part (it could be a substantial part) of the market-wide profit. (2) In other cases, he may be incurring loss. Thus on the one hand he denies himself a part of the eligible profit, and on the other, he incurs loss which he can’t avoid. Such a policy will often end up in net loss over a period of time. The policy must always be (this is important) to take market-wide profit, and, at the same time, limit the losses. This is the winning combination.

There are two never-dos in stock market: (1) never let yourself suffer market-wide losses and (2) never fail to take market-wide profits. The first one (‘never let yourself suffer market-wide losses’) requires you to sell your holdings away when the scrip falls 5% (or whatever is chosen as the trigger) from the last formed high. The second one requires you to buy the scrip as soon as it rises 5% (or whatever is chosen as the trigger) from the last formed bottom, and to sell it away when, only when, it falls 5% (or whatever is chosen as the trigger) from the last formed high. In this way, you can ensure that you take all the profit that one can take, and, at the same time, limit your loss in any given deal to 5%. The net result of this policy over the long term will be that your loss in every deal will be limited to 5% while your profit in every deal will be market-wide. In the long run, the market-wide profits (which can range as high as 40%, 50%, and so on) are bound to far exceed the losses which are limited to 5% per deal. The figures of Reliance Capital (please see the chapter 5) had shown an unbelievably high net growth of 179503.36% in 8 and a half years! Of course, such huge profits are can’t be common, but, I will stick to my humble prediction: ‘In the long run, the market-wide profits are bound to far exceed the losses which are limited to 5% per deal’.

Why do we limit our profit? Why do we not take market-wide profit?

We are afraid of crashes, that’s why. Agreed. It is natural. Stock markets have witnessed too many crashes to forget. But, then, it is to insure us against such crashes that my theory asks us to protect our scrips by entering stoploss sell orders 5% below the last formed high. Whenever we are holding a scrip, the necessary stoploss sell order must be in place. There should not be any time when your holdings are not thus protected with the necessary stoploss sell orders. By ‘any time’, I mean any time during the trading hours. Stoploss orders cannot continue to be in existence overnight. When the trading hours are over, all the pending stoploss orders will get automatically cancelled. The next trading day, as soon as trading commences, you will have to enter stoploss orders afresh. Entering all the necessary stoploss orders (stoploss sell orders as well as stoploss buy orders), as soon as trading commences every day, is something you should do rather religiously. Needless to add, every stoploss order should be modified whenever the related top rises or the related bottom falls. This has already been dealt with in one of the previous chapters. Stoploss sell orders protect your holdings, but stoploss buy orders are also equally important because, unless you buy the scrip on time, you cannot hope to earn market-wide profit. Any delay in the purchase will reduce your profits and might even force the deal to end in loss. So, both the stoploss buy order and the stoploss sell order should be entered at the appropriate time itself, i.e., without any delay at all.

At the end of the figures given in chapter 5, the quantity of Reliance Capital had grown as high as 5238 shares. When the quantity in every deal becomes so high as this, a problem can creep in. Now-a-days, a few million shares of Reliance Capital get traded daily. Suppose you enter a stoploss buy order for 10 shares, and with Rs. 325 as the trigger price and Rs. 330 as the limit price. The quantity is very small, and, hence, the stoploss buy order has good chance of getting executed at the trigger price of Rs. 325 itself if price rises to that level. We need to remember here that, execution of this stoploss buy order at the limit price of Rs. 330 is also possible. If the execution takes place at Rs. 330, our cost will increase to that extent. We always want to reduce our costs as much as possible. If the quantity is 5000, and not just 10, there is every chance that some part of this quantity gets bought at rates closer to the limit price of Rs. 330. The average price at which the buying takes place (when the stoploss buy order gets executed) may be nearer to Rs. 330 than to the trigger price. When the average buying price is moves away from the trigger price and moves nearer to the limit price, our cost increases. When our cost increases, our ultimate profit will decrease.

The problem, in a nutshell, is that when the quantity is huge, the average buying price rises, increasing our cost. Likewise, when the quantity is huge, the average selling price (in a stoploss sell order) falls, reducing our profit in the deal. However, this is nothing to be afraid of. Ideally, the average buying price or the average selling price (as the case may be) should be either the trigger price itself, or, it should, at least, be closer to the trigger price, rather than nearer to the limit price. When the average price of execution tends to move closer to the limit price, it will be the signal for us not to increase the quantity of that scrip any further. If the daily traded quantity of the scrip in the whole market increases, it could be one of the solutions, but this solution is not within our hands. The only solution open to us is not to increase the quantity of the scrip in our future stoploss buy orders any further. You can continue to deal in the scrip, but all the future profits you gain and the losses you suffer in future deals of the scrip, should be shifted to another scrip the quantity of which hasn’t reached such high levels.

The idea in a nutshell is, when the quantity has grown to levels as high as 5000, it will be better not to increase the quantity any further.

(To continue)

By Sunil M S | Posted in Equities, Share Trading, Stock Market | Also tagged equity, investment, Shares, stockmarket, sunilmssunilms | Comments (1)

Investment in Equity (Part 11)

June 13, 2013 – 9:49 am

In the previous chapter I had promised to discuss scrip selection. In accordance with my theory, we are to buy a scrip when it rises 5% from the last formed bottom. If the price rises 5% from the last formed bottom and we buy it, we will be holding it until we sell it away when it falls 5% from its last formed high. So, the implementation of the system begins with the purchase of the scrip. Whenever we purchase any scrip, it should be one of the best scrips. At this point, the buying of a scrip is similar to the buying of any commodity. When you buy any commodity, you would want only the best, wouldn’t you? In the same way, when you buy a scrip, it should be one of the best scrips available. How do we determine whether the scrip is one of the best scrips or not?

Oh, no, don’t go into the company’s balance sheet. The company may have made huge profit during the past periods, but one of the things I have learnt in the stock market is that a past performance does not guarantee a future performance; the past is the past, and the future can be different from the past. The future can be the same as, better than or worse than the past.

Sometimes, the balance sheet is beautiful, but analysts might consider the future of the company’s sector as bleak or gloomy. When the whole sector is directed downward, the balance sheet of a company, alone, cannot rescue it.

Yet another scenario: the company balance sheet may be good, the sector may be having bright prospects, but the whole economy of the country may be in doldrums. Or, the country may be facing political instability. Or, the foreign nations, such as the USA, the Europe, etc., may be facing tough economic hurdles. When most of our exports are to those nations, our prospects are bound to turn bleak when those economies fall in dire straits. There can be umpteen other reasons too, affecting the stock market and/or the scrip. The point is, it is extremely difficult to look into all those aspects and choose the best scrips. My advice is not to even attempt it.

You are in the stock market. The stock market shows you the direction, it gives you the signals. You should heed those signals. You are following the price movement for both buying a scrip and selling it away. You do not heed anything else for it. The price movement is a creation of the market. When the price rises 5% from the last formed bottom, you buy. When the price falls 5% from the last formed high, you sell. Under the system, you do not go into the balance sheet, the prospects of the company, the sector, the nation, the overseas client-nations, etc. for deciding whether to buy or sell. The market will look into all those aspects, and adjust the scrip-price suitably. The price of a scrip takes everything into account. Following the price movement is all that you have to do. In my view, it is much easier too, than going into the balance sheet, prospects of the sector, economy of the nations, etc., etc. Do not be bothered by all those things. But be guided by the price movement. In other words, cling to the price movement.

The point is, since the price movement, which is the market’s own creation, is your sole guide in deciding whether to buy or to sell, the market itself should be relied on for choosing the scrips too. Look at the market closely for selecting your scrips. There are a few criteria you can apply for selecting scrips. One of the criteria for selection of scrip is the turnover. The scrip should regularly figure in the list of scrips with the highest daily turnover. That is the first criterion. The second criterion is that it should be a part of either the Nifty or Jifty. Nifty is the most important index of the National Stock Exchange. It consists of 50 very large scrips which satisfy certain quality requisites fixed by the stock exchange. There is another index known as Junior Nifty or Jifty. It consists of another set of 50 scrips. The scrip you select for investment should be from among the 50 scrips of Nifty and/or Jifty. Never select any other scrip. After all, how many scrips will you handle at the same time? May be 5, 6 or, at the most 10. Nifty and Jifty have, between them, 100 scrips. Select those 5, 6 or 10 Nifty/Jifty scrips which regularly have the highest daily turnover.

There are two things: turnover and volume. Turnover is the value of the shares traded. Turnover is the amount that flows into and out of the scrip. Volume is the quantity traded. My priority goes to the turnover. Turnover is the better of signal of public faith in the scrip, than its volume. A scrip with a higher turnover is preferable to a one with a lower turnover, irrespective of the volume.

Some among these 100 scrips are low volume scrips. In the low volume scrips, stoploss orders will not work well. As per our system, every purchase and every sale is to be done through stoploss orders. So, the selected scrips should have heavy volumes regularly. Stoploss orders will work well if large quantities are available at every tick price. Generally, those scrips with the highest turnover will have sufficient volumes too, and therefore, stoploss orders will work well in them. Ignore those scrips with low volumes.

The selected scrips should also be a part of the derivatives market. That is, they should be scrips which are traded in the futures and options (call and put) market too. This will make sure that the selected scrips do not get subjected to restrictions on price movement. This needs some explanation.

The price movement of some scrips has limits. There are scrips which cannot move more than 20% from their previous closing rates. There are some other scrips which cannot move more than 10% from their previous closing rates. This doesn’t end there. There are scrips which can move up to 5% only, while there is yet another group of scrips which are more or less straitjacketed, with movement restricted to a mere 2%. Scrips whose movements are thus restricted should not be selected at all.

Scrips which form part of Nifty as well as Jifty are not subjected to any such restrictions. There is no limit to their movement. This makes those scrips which are components of Nifty or Jifty worth selecting. Hence my advice to select the Nifty or Jifty scrips.

I will impose another restriction too: Do not select scrips which are priced less than Rs. 50. Select those scrips which are priced above Rs. 50. If a scrip priced, say, Rs. 20, is selected, its 5% will be equal to just Re. 1. A fluctuation of one rupee might happen too frequently. Frequent fluctuations might cause loss. Suppose a scrip was priced above Rs. 50 when you selected it, and that, later, it falls to below Rs. 50. In such a scenario, you will have no option but to continue to deal in it. Having selected it and dealt in it, you will have to continue dealing in it, whatever be its price. But when you select a scrip for the first time, select one which is priced above Rs. 50.

So, the criteria for a scrip to be selected are four: One, the scrip should be a part of either the Nifty or Jifty. Two, it should be one of those scrips which regularly have the highest turnover. Three, it should be a part of the derivatives market too. Four, the scrip should be one which is priced not less than Rs. 50.

One shouldn’t put all the eggs in the same basket, so goes the saying. It is relevant in stock market too. You shouldn’t focus on one single scrip. Select four or five scrips, all of which satisfy all the criteria mentioned above, and deal in all of them. When you feel comfortable, you can definitely select more scrips and deal in all of them.

At the start, divide your capital into as many equal parts as the number of scrips selected for investment. Allocate one part of the capital to each of the scrips. Deal in those scrips strictly in accordance with the system which has been described in detail in this and all the preceding chapters. The growth in your capital allotted to the various scrips may not be uniform. At least in some cases, the capital is likely to dip initially, owing to losses suffered in the initial deals. I must warn you that losses are likely to be frequent. Please remember that in the case of Reliance Capital, only 67 deals had generated profit while 49 deals had ended in loss; however, the profit it generated had far exceeded the loss, over the long term.

Sometimes, some scrips get suspended from trading. When a scrip is suspended, it cannot be traded until the suspension is revoked. Scrips in the Nifty and Jifty do not, often, get suspended. Sometimes, the companies themselves might withdraw from the market for a certain, specified period, under certain special circumstances such as acquisition, merger, etc., requiring time for completion.

Daytrading, speculation, trading from home, etc., will be dealt with in the next few chapter/s.

(To continue)

By Sunil M S | Posted in Equities, Share Trading, Stock Market | Also tagged equity, investment, Shares, stockmarket, sunilmssunilms | Comments (0)

Investment in Equity (Part 10)

June 12, 2013 – 5:37 am

Our theory is to buy when price starts rising, and to sell when price starts falling. We had also decided that we will conclude that the price has started rising, only after the price has risen 5% from the last formed bottom. Similarly, we had also decided that we will conclude that the price has started falling, only after the price has fallen 5% from the last formed high. Thus 5% will be our trigger. A 5% rise from the last formed bottom triggers us into purchase. A 5% falls from the last formed top triggers us into sale.

The logic behind the theory is this: we will buy a scrip only after it has climbed at least 5%. Conversely, we will not buy a scrip which has not climbed at least 5% from its last formed bottom. Conversely, again, we will never buy a scrip when the price is falling. This deserves reiteration: never buy a scrip when it is falling.

Similar rules have to be made applicable to selling too. We will sell a scrip only after it has fallen 5% from its last formed high. We will never sell a scrip when it is rising. This deserves reiteration: never sell a scrip when it is rising.

Buying a scrip when it is falling and selling a scrip when it is rising are the two Himalayan blunders many of those present in the stock market frequently do. They can’t resist the temptation to buy a scrip when it has fallen and become cheaper than before. Similarly, they can’t resist the temptation to sell a scrip when it has risen a bit and some profit has accrued. In fact, the pressure an investor feels is more when a scrip he holds is in profit.

When we have bought a scrip and are holding it, and the price is rising, we should not sell it. When a scrip, held by us, is rising, it is the ideal situation for us to continue to hold it. In fact, that is what we expect the scrip to do when we are invested in it: we expect it to go on rising. While it is rising, selling it away will be illogical. Some investors advise to sell the scrip away when you have got a reasonable profit. The terms reasonable profit might vary from investor to investor. For investor one, 10% profit may be sufficient, while investor two may be wanting not less than 20%. There can be another investor who wants twice the interest that a term deposit with a bank fetches. There may be a fourth investor who wants 100% profit.

How much profit should you take? My theory will tell you that your profits should be market-wide. Now, that is a new term, ‘market-wide’. My theory of buying when price starts rising, and selling when price starts falling gives you market-wide profit.

Graph showing buying and selling

The theory is well illustrated by the above given short graph. Assume that each division of the graph is equal to 5% of the bottom it has last touched. After forming the bottom, when the price rises one division, i.e., 5%, the scrip is to be bought. After forming a high, when price falls one division, i.e., 5%, the scrip is to be sold. In the graph, the gross profit derived in the deal amounts to 6 divisions, i.e., 30%. We can describe this profit as market-wide, since you took all the profit that was possible within that market movement or price movement.

A note about the graph. The graph given above is only illustrative and is not exact. The divisions which the price, rising from the last formed bottom, makes are bound to be smaller than the divisions which the price, falling from the last formed high, makes. While on the ascent, the divisions will be based on the last formed bottom, while on the descent, they will be based on the last formed high. The two differing scales ought to have been used in the graph, but haven’t, solely because the graph is just for illustration.

Let me ask: In the above mentioned case, what made you buy the scrip and what made you sell the scrip? Only the price movement did. After forming the bottom, the price climbed 5%, and it made you buy the scrip at that level. After forming the top, the price fell 5%, and it made you sell the scrip away. You were going in tandem with the price movement. When the price started rising, you bought the scrip. When price continued its ascent, you held on to the price. When the price started falling, you sold the scrip. When the price continued its fall, you had wisely separated yourself from it.

Thus you had put in place a well defined policy to buy when price rises 5% from its last formed bottom, and to sell when price falls 5% from its last formed high. You adhered to the policy, and the rest was done by the price movement. The policy made you cling to the scrip whenever it climbed and to distance yourself from it while it crashed.

In the above given illustration, what would have happened if you had not made the purchase when the price had risen by the first division, i.e., when the price had risen 5% from the last formed bottom? The answer is simple: you would have denied yourself the opportunity to earn profit. One more similar question: what would have happened if you had not sold the scrip away when the price fell by one division, i.e., when the price fell 5% from the last formed top? Here also, the answer is simple: if you had not sold the scrip when it fell 5% from the last formed top, your profit from the deal would have diminished. Had you remained invested while the scrip retreated all the way back to the old low, you would have even incurred loss.

The lesson to be learnt from all this is that both buying and selling must be made at the appropriate times without fail. Any hesitation will, most of the time, adversely affect your prospects.

You bought the scrip when it rose 5% from the last formed bottom, and you sold it away when it fell 5% from its last formed high, and, in the process, earned market-wide profit. This was the maximum you could have done in the given circumstances. You have done the maximum possible, and you have gained all of the market-wide profit. Adhering to the theory or system should be your aim all the time. Needless to add, you should readily suffer the system-given loss, too, while you confidently earn whole of the system-given profit.

The system, or the theory and its practice, helps you earn market-wide profit. It also helps you limit your losses. What is the maximum loss you would incur if a deal ends in complete loss? Let us calculate it. Let us go back to the simple example mentioned in the preceding chapter. A scrip forms a bottom at Rs. 100 and then rises 5% to Rs. 105, and let us imagine that you are buying the scrip for Rs. 105. Let us also imagine that soon after your purchase, the scrip crashes to, say, Rs. 70. But, according to our theory, you would have sold the scrip away, when the price fell 5% from the last formed high of Rs. 105; for the sake of convenience, let us take this level as Rs. 100 itself. So, you would have sold the scrip away when it fell from Rs. 105 to Rs. 100. The deal ended in loss. The loss came to 5% of the purchase price of Rs. 105.

The price had fallen further to Rs. 70, and the fall was equal to, more or less, 35%. If you had not sold the scrip away when it fell to Rs. 100, you would have incurred a heavy loss of 35%. You followed the system, sold the scrip away when it fell 5% from the last formed top, and thus limited your loss to just 5%. In other words, the system limits your losses; it limits your risk. In my view, this is the greatest advantage of my theory.

So, two are the main advantages of the theory or system which I advocate: (1) it helps you earn market-wide profit. (2) It helps you to limit your losses. Both these advantages are capable of giving you the kind of growth which investment in other fields or sectors seldom give over the long term. “Over the long term”, I said. Because, never think that you will be able to attain very high growth in a matter of months. Set your sight over a period of 5 to 10 years. Follow the system religiously. If you do, you will get market-wide profit. Of course, there are other conditions involved. One of them is to select the right scrip. Another condition is to deal in multiple scrips. Another condition is to be present in the market throughout the trading hours. There are some other risks involved, too, I shall come to all this one by one. Before I do, I must explain what a stoploss sell order is, as per the promise given in the preceding chapter.

Let us take a simple example. You have bought a scrip for Rs. 100. As soon as you buy a scrip, you have to treat the buying price as the last formed top, and enter a sell order 5% below the buying price. Only then will your risk of loss be limited to 5%. Accordingly, in the case on hand, you have to enter a stoploss sell order at Rs. 95. If the price falls from Rs. 100 to Rs. 95, your shares should get sold, this is the intention.

A stoploss buy order had needed two prices: one was the trigger price and the other was the limit price. Similarly, a stoploss sell order too requires two prices: one is the trigger price and the other is the limit price. Rs. 95 is the level at which you want your scrip to be sold away if price falls from Rs. 100 to Rs. 95. So, Rs. 95 should be entered as the trigger price. For the convenience of illustration, let us decide Rs. 94 as the limit price. Thus the stoploss sell order will be entered, with Rs. 95 as the trigger price and Rs. 94 as the limit price.

When the price falls to Rs. 95, the stoploss sell order will get triggered and the sale will start taking place. The sale can take place at every tick price, ranging from Rs. 95 to Rs. 94. We must also anticipate the possibility of the whole quantity getting sold at the limit price of Rs. 94. We have to put up with this risk. Though it is a risk, it may not cause us much harm in the long run.

The chances of the stoploss sell order getting executed depend on the quantity the prospective buyers have bid for. You can sell something only when somebody is ready to buy it. When there is no buyer, you can’t sell. In the same way, if the total quantity of buy orders within the range of Rs. 95 to Rs. 94 are not sufficient to meet the quantity in your stoploss sell order, the stoploss sell order will get executed only to that extent. In other words, the stoploss sell order will get executed only partially. That part of the stoploss sell order, which has not been executed, will immediately get automatically converted into a normal sell order for the limit price of Rs. 94; this normal order will remain pending and will get executed if the price (which must by then have gone below Rs. 94) rises to Rs. 94, that is, if buyers come forward to buy the remaining quantity for Rs. 94.

I must repeat here what I had mentioned while explaining stoploss buy order. Stoploss orders will work well only in the case of scrips which regularly have heavy volumes. There must be large quantities on offer for both sale and purchase, at its every tick price. If large quantities of the scrip are regularly traded, the stoploss orders will work well. When large quantities of the scrip are regularly traded, chances for the stoploss buy orders and stoploss sell orders to get executed on their trigger prices themselves will increase. Stoploss orders might prove to be disastrous in low volume scrips. Low volume scrips should not be selected for implementing the system.

In the simple example given above, Rs. 100 was the last formed top, and hence Rs. 95 was the trigger price and Rs. 94 the limit price in the related stoploss sell order. Let us imagine that the price rises from Rs. 100 to Rs. 101. Immediately, we must modify the trigger price and the limit price to that extent. Thus, the revised trigger price should be Rs. 96 and the limit price should be Rs. 95. If the price rises further to Rs. 102, the trigger price and the limit prices should also be, accordingly, raised to Rs. 97 and Rs. 96 respectively. In other words, whenever the last formed top or high rises, the trigger price and the limit price of the pending stoploss sell order should also be raised to take advantage of the rise in the top. This is how we follow the price movement and ensure market-wide profit.

Price moves on NSE in multiples of 5 paise. When the price rises by 5 paise, you can revise the trigger price and limit price of the pending stoploss sell order. Nothing prevents you from revising the trigger price and limit price whenever price rises 5 paise or 10 paise. However, if you are in a trading hall, then you might find it difficult to ask the terminal operator to revise the pending stoploss sell order (or stoploss buy order) every time the price moves 5 paise or 10 paise favourably. You can wait and get the pending stoploss orders revised when the price moves 1% or 2% adversely. Sometimes price movements can be abrupt. So, care must be taken to keep the orders updated in accordance with the theory, while care must also be taken to reduce the load on the terminal operator.

Trading from home, using one’s own internet, will be the most convenient method. But for it, you need to have a fast computer, a fast and reliable internet connection, a UPS that can give you enough power throughout the trading hours, in case the normal electrical supply fails throughout the trading hours. The intention is to keep all your stoploss buying and stoploss selling orders promptly updated so that the distance between them and their respective highs or lows (as the case may be) is steadily kept at whatever your trigger percentage is. If the trigger you have chosen is 5%, the distance between the trigger price and the last formed high or low as the case may be, should always be 5% exactly. If the trigger you have chosen is 10%, the gap between the trigger prices and the last formed high or low, as the case may be, should always be 10% exactly.

When the last formed top rises, the trigger price and the limit price in the related stoploss sell order must be raised in tandem with the rise in the top. Likewise, when the last formed bottom falls, the trigger price and the limit price in the related stoploss buy order must also be lowered to that extent.

The next few chapters will deal with scrip selection, dealing in multiple scrips, trading from home, etc.

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