Lessons to learn for investors

There is once again large interest and action across various segments of the equity markets. There has been an improvement in the performance of companies, as well as various economic indicators both in India and across the globe. Still, several concerns remain and uncertainty persists in terms of the sustainability over a longer time period. One thing investors need to do in such a situation is to ensure there is no recurrence of the mistakes made in the past. Some areas needing attention are mentioned below.

New Issue Pricing

Once again the Initial Public Offer market is heated, with several issues entering the fray to raise money. The mere sign of IPOs entering the market, especially large ones, is an improvement over the past year, when the pipeline had dried. It is not the number of issues that matter but the pricing occupies a very important role in the entire situation. Investors should resolve to put money into those issues when they are comfortable with the pricing; otherwise, wait for a better opportunity to buy the stock.

The idea of investing in new issues also needs a change from just subscribing to selling at the listing day to make some money. The real value is actually earned by investors who hold on to their offerings and earn multiples of their investments. Examples include Maruti, which had an issue price of Rs 120, while NTPC had an issue price of Rs 62. It is easy to get caught in the entire rush to make some quick returns but this raises the risk and could boomerang on the investor. For the investor looking at a quick turnaround, the risk is that some shares are allotted but these cannot be sold because of the low price.

Risk Mitigation

A one-sided rally in the market often leads to a situation where the investor starts thinking about the possible upside only. There is a tendency to look only at the potential gains that are inflated without looking at the risk present in the entire investment. So, an investor might invest in a share with the expectation that the price will rise by 50 per cent in the next one year. There can be a shock when a downturn occurs, because the investor would not be prepared.

This is the reason why the investor has to first consider the kind of risk that can be taken and what would be the kind of loss in case the situation does not work out as per expectation. The whole idea is that the investor should not be open to a risk that cannot be faced by him. For example, if the investor is able to face only a 20 per cent loss on his investment, then only those investments which offer potential for a slow but steady movement on either side should be selected.

Liquidity

Most investors look at equity investment as a means to earn a better rate of return than most other asset classes. Often, the return from large cap or the main frontline stocks looks limited because they have achieved a certain size and have matured. The way a lot of investors tackle the situation is to go towards the mid-cap and small-cap arena, so that the returns can be enhanced. This is, however, a big risk; in case of a sudden downturn, what can often happen is that the liquidity in several small companies dries. In such a situation, the investor is not even able to exit from the scrip because there are no adequate volumes. In the past one year, this has been a common experience, when the share price gets frozen on the downward circuit for days on end, giving little opportunity for the investor to trade. This can lead to a lot of missed opportunities because the investor would not be able to act even when knowing what should be done. Liquidity, thus, has to be a primary concern for every investor, so that this is not compromised when times get tough.

Performance Matters

When the market is in a one-sided movement, there is a lot of focus on issues that improve sentiment. In such cases, the fundamentals often take a back seat. But, the investor has to ensure there is adequate attention given to the performance, as ultimately this will drive the stock movement. If this is the focus, then the investor would be able to ensure a strong position for himself without having to worry too much about other issues that can change significantly in a short period of time.  Considering the performance, both actual and expected, might not guarantee success. But, what is does is to reduce the chance of a shock, plus a large loss, unless the performance also turns negative by a large extent or some fraud is discovered.

Planning Ahead

At all times, the investor has to ensure he is looking ahead to see what will happen in the future, rather than looking back at what happened in the past. Expecting the same kind of situation to occur every time is risky. In several cases, the existing situation might be different in some small way and this can lead to different consequences. Investors should also forget the value of their portfolio and shares in the previous boom and concentrate on developing an ability to look at expectations ahead.