Understanding Stock Market

Transcription

1 Understanding Stck Market We will start with the meaning f term shares, taking further t share trading, stck market, derivatives etc Brief Wrking f Stck Market A is running a sle prprietrship firm by the name A & sns. It is int manufacturing f garments. He started the business at a very small level and gradually expanded the business. Nw he plans t invlve a friend f his, B, in the business s as t have mre mney in the frm f capital being pumped int the business. They bth frmed a Private Limited Cmpany with equal sharehlding. A & sns is rechristened AB Pvt Ltd. It becmes a Private Limited cmpany having a separate legal identity. Nw they plan f expanding the business further. T d this they need t sell sme shares f their cmpany t the public and raise requisite mney. In rder t sell the shares f the cmpany t the public, it has t be first listed n any f the recgnized stck exchanges f the cuntry. AB Pvt Ltd gets listed n Natinal Stck Exchange and becmes AB Ltd. Nw it has becme a public limited cmpany and can issue shares t the public thrugh Initial Public Offering (IPO). AB Ltd had a share capital f Rs 100 lacs. The same is divided int ne lacs shares f Rs 100 each. They sell 49K shares t the public at Rs 120 each (i.e. at a premium f Rs 20 per share) and keep balance 51K shares with them. This ways, AB Ltd pumps in mney in the business. This prcess f capital pumping in business is called raising mney thrugh an IPO and the market is called primary market. The business is earning gd prfit margins and the price f the share in the market is ranging in between Rs per share. 49K shares sld in the market are nw traded n the stck exchange between the buyers wh make mney ut f it. This is called trading in secndary market. AB Ltd decides t raise the share capital further t Rs 500 lacs. The cmpany nw cmes ut with Fllw n Public Offer (FPO) f 4 lacs shares f Rs 100 each. The cmpany has 4.49 lacs shares being traded in the market. These are called free flat shares. Sme prtin f the prfit earned by the cmpany is distributed amngst the sharehlders as dividend. Let s nw understand the cncept f shares and their trading in details: Shares are defined as Ttal capital f the cmpany divided int units f small denminatin. Shares can be Equity Shares r Preference Shares. An Equity Sharehlder has right t vte and cntrl affairs f the cmpany, whereas a Preference Sharehlder gets certain preferential rights. It is custmary t prefix rate f dividend with preference share capital. Shares are traded n stck exchange. Stck Exchange is a gvernment recgnized place where buying and selling f shares takes place. In India, presently we have 23 reginal stck exchanges tw natinal exchanges namely, The Natinal Stck Exchange (NSE) and Over the Cunter Exchange f India (OTC). Bmbay Stck Exchange is the largest Stck Exchange in India where maximum number f transactins takes place. A cmpany which intends t issue shares t the public has t get its shares listed n any f the stck exchanges. Listing means, the shares can be bught and sld n the stck exchange. Listed shares are categrized under Grup A r Grup B (Grup A are rated higher than Grup B) depending n the capital f the cmpany and trading vlume f the shares f the cmpany. Trading f shares - Earlier share trading was dne by exchange f physical share instruments between buyer and seller thrugh an intermediary called registered share brker, transfer agent etc. Share certificate gets endrsed in favr f

2 transferee by the authrized representative f the cmpany n payment f sme stamp duty. Stamp duty is payable by the transferee. Trading was dne n trading flrs f stck exchanges thrugh pen utcry system (Open utcry is a methd f cmmunicatin between prfessinals n a stck exchange which invlves shuting and the use f hand signals t transfer infrmatin primarily abut buy and sell rders), which was later n mdified t screen based trading. It is a system whereby distant participants can trade with each ther thrugh cmputer netwrk f the brkers either by placing the rders r by inputting the qutes. In bth the abve methds f share transfer by endrsement, the cmpany reserves the right t reject the share transfer n accunt f certain deficiencies in the transactin. Understanding Demat: It is the latest & current technlgy f share trading. Dematerializatin (Demat) f share certificates is the prcess f cnverting physical instruments in electrnic frm. A demat accunt is pened with a Depsitry Participant (DP). A depsitry participant is an agent f depsitry and a depsitry is a place where stcks f investrs are held in electrnic frm. Depsitry is the head ffice where all technlgy rests and details f all accunts are maintained. Whereas, DPs are branches that cater t the individuals wh wish t pen demat accunt. There are nly tw depsitries in India- Natinal Security Depsitry Ltd (NSDL) and the Central Depsitry Services Ltd (CDSL). There are ver 100 DPs. A demat accunt hlder gets peridic statement f hldings and transactins. Cnversin f physical hldings in electrnic frm is mandatry fr ding any transactin. Benefit f electrnic frm ver physical frm lies nt nly in the speed but als mre transparency and safety, investr can d the transactin himself withut invlvement f an intermediary, n rejectin f transfer by the cmpany, n stamp duty being charged frm transferr, n paper wrk etc. Existing shares are surrendered t the DP and are sent t the respective cmpanies fr cancellatin after "Dematerializatin". After this, depsitry accunt with the DP is credited with the shares. The securities n Demat appear as balances in depsitry accunt. These balances are transferable like physical shares. If required, these "demat" securities can be cnverted back int paper certificates. A brker shuld nt be mistaken t be a DP and visa versa. A brker is member f the stck exchange, wh buys and sells shares n behalf f his clients and fr himself. A depsitry participant n the ther hand prvides an accunt t hld these shares. An investr s DP can be separate frm that f his brker. Fr prviding the services, the DP charges sme fees fr accunt pening, annual maintenance and transactin charges. DP prvides a unique BO ID (Beneficial Owner Identificatin) Number which has t be quted fr all future-transactins. Sme investrs d the trading by invlving the brkers. They pen demat accunt with the DP and use trading accunt f their brker fr executing the transactin. While selling the shares, rder is placed with the brker and delivery instructin is given t the DP. Demat accunt is debited by DP by the number f shares sld and payment is received frm the brker. While buying the shares, depsitry accunt number is infrmed t the brker fr crediting the shares in the accunt. In such cases, certain amunt is set aside with the brker by the investr fr ding the purchase transactins. Amunt f mney t be kept with the brker depends frm brker t brker. This is called Offline Share Trading.

3 Hwever, if the investr is ding trading himself, withut invlvement f brker, he needs t pen three accunts: Saving Bank Accunt- used fr setting aside mney fr the sale/purchase transactin Demat Accunt- used fr hlding the securities Share Trading Accunt-used fr sale/purchase f equity shares thrugh the brker. All these accunts are linked and self trading can be dne withut invlving the brker in between. Such kind f hassle free facilities are ffered by brkers like, ICICI direct, HDFC Securities, India Infline, Reliance Mney etc. This is calledonline Share Trading. After understanding share trading, let us nw understand, functin and purpse f stck market: Stck Market is ne f the mst imprtant surces fr cmpanies t raise mney. This allws businesses t g public and raise additinal capital fr expansin. On the ther hand, the liquidity prvided by the exchange allws investrs t make quick mney by buying and selling shares. If securities are held fr a lnger duratin, say a year r mre, the hlder is entitled t earn dividend declared by the cmpany ut f its prfits. S it is a win-win situatin fr bth the crprate and the investr. Hwever, this win-win situatin may turn sur when the market index falls and share prices dip leading t lss f the hlder f securities and even the cmpany whse share price falls. Stck Market is affected by the dynamics f the ecnmic/plitical activities in the cuntry & rest f the wrld. What is Market Index and hw is it determined? In India, there are tw majr Stck Exchanges, Natinal Stck Exchange (NSE) and Bmbay Stck Exchange (BSE). Index f NSE is called Nifty and Index f BSE is called Sensex. Index is a statistical measure f change in an ecnmy r a securities market. In case f financial markets, an index is essentially an imaginary prtfli f securities representing a particular market r prtin f it. It gives a general idea abut whether mst f the stcks have gne up r dwn. Each index has its wn calculatin methdlgy and is usually expressed in terms f a change frm a base value. Hence, a change in index is mre meaningful if expressed in percentage terms rather than abslute terms. Let s understand calculatin f Sensex. Sensex is calculated taking int cnsideratin stck prices f 30 different BSE listed cmpanies. The base value f the Sensex is 100 as n Apr 79. At irregular intervals, the Bmbay Stck Exchange (BSE) authrities review and mdify its cmpsitin t make sure it reflects current market cnditins. Sensex is calculated using free-flat market capitalizatin methd (Wrth f the cmpany in terms f its shares is called Market Capitalizatin and wrth f the shares f the cmpany which are available fr trade n the stck exchange is called free flat market capitalizatin). Under this methd, market cap f these 30 cmpanies (used as sample fr the entire universe, cnsidered based n certain criterins) is calculated fr thse shares which are freely available in the market fr trade. This figure is then prrated fr the entire universe t calculate sensex. Let us nw g t the terminlgies used in Share Market and Share Trading: Open: Opening price f the share in the mrning.

4 High: Highest price f the share during the day. Lw: Lwest price f the share during the day. Clse: Clsing price f the share at day end. Vlume: Quantity. Bid Price: Buying price. Offer Price: Selling price. Bid Quantity: Ttal number f shares available fr buying. Offer Quantity: Ttal number f shares available fr selling. Buying and Selling f Shares: Buying is als called as demand r bid and selling is als called as supply r ffer. Shrting f Shares r Shrt Sell: First selling and then buying (this nly happens in day trading) is called as shrting f shares r shrt sell. Share Trading: Buying and selling f shares is called share trading. Day Trading: Buying and selling f shares n daily basis is called day trading r intra day trading. Squaring ff is dne n the same day. Delivery Trading: In such type f trading, delivery f securities purchased is t be taken in the demat accunt. Fr entering int this transactin, requisite mney needs t be there in the accunt. Once, the shares are purchased, they wuld be depsited in the demat accunt in T+2 days. These shares can be retained fr as much time as the investr feels. In case f delivery trading, first purchase is dne then nly sale can be dne, unlike day trading. T+2: Trading day plus 2 days. Transactin: One cmplete cycle f buying and selling f shares. Squaring Off: This term is used t cmplete ne transactin. Fr every purchase a crrespnding sale is required and vice versa. Limit Order: In limit rder the buying r selling price has t be mentined and when the share price cmes t that price, then the rder will get executed with the price mentined at the time f placing rder. Market Order: The market rder gets immediately executed at the current available price. Stp Lss Order: They are limits set by traders at which they will autmatically enter r exit trades. An rder t buy r sell is placed in the market if price reaches a specified limit. A stp lss rder is set t limit a trader's ptential lss. The stp lss is placed belw the current price (t prtect a lng psitin i.e. when share is t be purchased) r abve the current price (t prtect a shrt psitin i.e. when a security is t be sld). Limit Order and Stp Lss Order are used tgether. Fundamental Analysis in Indian Share Market: It is a methd f analysis f shares f a cmpany fr lng term investments based n rganizatin s plans, results, cllabratins with freign cunter parts etc. Technical Analysis in Indian Share Market: It is methd used by day traders and shrt term investrs by studying the price mvement charts, quantity traded charts, supprt and resistance levels, technical indicatrs etc.

5 Insider Trading: It is trading f a crpratin's stck r ther securities by the crprate insiders such as fficers, key emplyees, directrs, r hlders f mre than 10% f the firm's shares. It is buying r selling f a security by smene wh has access t material, nnpublic infrmatin abut the security. Insider trading may be legal r illegal. Insider trading is legal nce the material infrmatin has been made public, at which time the insider has n direct advantage ver ther investrs. Illegal insider trading ccurs when privileged, nn-public infrmatin is used t trade n crpratin s stck r ther securities. It may include the purchase r sale f shares prir t the disclsure f a crprate news release r the purchase r sale f shares n the basis f infrmatin that wuld never be disclsed t sharehlders. After being thrugh with nrmal share trading, let s mve t derivatives and their trading: The term derivative has its rigin in the wrd Derived. It refers t an asset which has n independent value f its wn but is derived frm the value f underlying asset. It therefre means a frward, future, ptin r any ther hybrid cntract f pre determined fixed duratin, linked fr the purpse f cntract fulfillment t the value f as specified real r financial asset r t an index f securities. Derivative trading in India takes can place either n a separate and independent Derivative Exchange r n a separate segment (index) f an existing Stck Exchange. Derivative Exchange/Segment functin is a Self-Regulatry Organizatin (SRO) and SEBI acts as the versight regulatr. Frwards Cntract: It is ne t ne bi partite cntract, t be perfrmed at a future date and specified price. It ffers lt f flexibility t the parties t design the cntract and suffers frm pr liquidity and default risk. Futures & Optins are frms f exchange regulated frward trading in which a transactin is entered int tday, and settlement f the same will happen at a future date. Futures Cntract: It is an agreement between tw parties t sell and purchase a specified asset at a specified future date and price. The actual transactin will nt be executed till the arrival f specified date and it is mandatry n part f bth the parties t hnr the transactin. It is a structured/regulated frm f frwards cntract. Optins Cntract: It is a refined frm f futures. In this type f transactin, premium is paid by buyer f the ptin t the seller f the ptin at the time f entering int the cntract. By paying this premium, buyer f the ptin purchases the rights frm the seller. This premium gives the buyer f the ptin the right withut the bligatin t buy/sell the underlying asset n a specified date and at a specified price. Buyer is als called hlder f the ptin and seller is als called writer f the ptin. Hence, ptin in securities means a cntract fr the purchase r sale f a right t buy r/and sell securities in future. An ptin t buy is called Call ptin An ptin t sell is called Put ptin.

6 An ptin exercisable n r befre expiry date is called American Optin. An ptin exercisable nly n expiry date is called Eurpean Optin. Price at which ptin is t be exercised is called Strike Price/Exercise Price. Date f executin f ptin is called Expiry Date. Bth futures and ptins can be settled either by cash settlement r by delivery. Cash settlement is a methd used in certain future and ptin cntracts whereby, upn expiry r exercise f the cntract, the seller f the financial instrument des nt deliver the actual pssessin (delivery) f the underlying asset but cash is exchanged between the seller and the buyer, being the difference between spt price and futures price. Payment f cash depends n the cntract terms. Futures and Optins based n stck index are called index futures and index ptins. Here the underlying asset is index. Index, derives it value frm the prices f securities that cnstitute the index. Such cntracts cannt be delivered, hence are cash settled n expiry. Type f derivative market traders: Hedgers: A hedger makes an investment in a way t reduce the risk f adverse price mvements in the underlying assets by use f futures. Speculatrs: A speculatr selects investments with higher risk in rder t earn prfit frm an anticipated price mvement. Mre sphisticated investrs will als use a hedging strategy in cmbinatin with their speculative investment in rder t limit ptential lsses. Arbitratrs: An arbitratr purchases an underlying asset in ne market and sells in anther, thereby taking advantage f price discrepancy in tw markets and making prfits ut f it.