How to make money from stocks

After the Budget, the markets went down from 14,900 to around 13,400 in the next few days. Then there was a sudden turnaround and the markets are once again back to around 14,300.

There are several reasons that can be attributed to the rise or fall of the index and a lot of dissection can be done. Does it do any good for people planning to invest? In fact the volatility of the markets and some of the stupid buy points that are suggested causes anxiety, and people end by not doing anything.

When the Sensex level went to 12,500 in September, an avid viewer of stock markets said, "These are excellent levels to buy and I am starting to invest." However, in the next few days, the markets plunged by a further 40 per cent to 8,000 levels. Now, if 12,000 were good levels to buy, isn't 8,000 a great level to do so?

Most would agree logically, but emotionally one is paralysed to take implementation decisions, as some of the analysts were screaming about 6,000 levels. The next several months, his emotions went up and down with the market, and he was unable to invest even a rupee.

Like many investors in the equity markets, he is still waiting. At every level now, he says he will buy when the markets correct by 10-15 per cent. Even though there was a correction after the Budget, he is still waiting.

Let's consider a situation where you invested Rs. 1 lakh (in a fundamentally good investment) and the investment goes down by 40 per cent in the next one year. However, in the next four years, it grows to Rs 2 lakh.

Would you be happy after five years? Yes, most people would be to earn a 15 per cent yearly compounded return for five years, but in the first year most of them would be worried, too, seeing the red. This is the time when irrationality takes over and people end up doing things not in their best interests (like selling or not buying more), believing all the noise around them.

In the above example, the investment delivered 15 per cent a year for five years, but did all investors in this one get the same return over that time? Absolutely not; there is a big difference between investment return and investor return. Investors normally panic in bear markets and either sell out or just wait perennially.

At the same time, an investor who had the courage to invest at lower levels significantly boosted his return to around 23 per cent a year.

In fact, when you start investing in the equity market, you should be happy if the market tanks down, so you could buy more at lower levels. This is an extremely simple principle, but so very difficult to implement. The fixation to invest at the lowest level or, should I say, cheapest level, is so much that people often wait even when the equity markets stink.

So, does investing at the lowest level really matter that much in the long run that you lose your sleep over it and your investing quotient often leads you to improper decisions, thus making you unlucky in the stock market?

Let's say you started investing in 1991, when liberalisation in India started. If you managed the feat of investing at the lowest level every year since 1991, your annual returns would have been 15.88 per cent CAGR as of June 1, 2009.

On the other hand, if you invested at the highest level every year, your returns would have been 11.78 per cent CAGR. And, if you had invested on a fixed date every year, let's say January 1 every year, then your returns would have been a surprising 15.77 per cent. The difference between a fixed date and the lowest date is just 0.11 per cent p.a.

Let's see the same figures as on March 9, 2009, when the index was at the lowest level in 2009:

Think for a moment. Does the paltry difference of 0.11 per cent really matter to you? The answer would be a resounding No for most equity investors.

Key Learning

Do not worry too much about index levels, high or low. Over 15, 20 or more years, it does not matter.

If you cannot muster courage to invest on a one-time basis, do not fret. Invest in a systematic manner every month or every quarter or any frequency as suitable to you. In fact, returns in monthly investments on a fixed date are almost similar to the ones given by one-time investments done at the lowest level every year.

There have been scams, crashes and several other problems that the Indian markets have witnessed in the last 18 years. Despite all of these local and global problems, one would have got 12.08 per cent p.a as on March 9, 2009, over 18 years if investments were done on a fixed date annually.

Markets can be down for years, but at the end of the day, if you had invested at the highest level in one year , you should be happy if you get to invest at a lower level in the next few years. It's not important to see green on your investments every day, week, month and even a year.

Finally, history repeats itself and in an emerging market such as India, with such amazing potential, there is a lot of money to be made by prudent investors.

A tax expert on a news channel made a very interesting observation about changing the name of the Planning Commission to Implementation Commission. Just like the various commissions and ministries fail to implement several planned initiatives, most people are also guilty of such practices when it comes to implementation of their investments.

Just planning to invest will not do any good. Implementation is key and the best time to start is NOW.

The writer is director, My Financial Advisor.