Circuit breakers

Circuit breakers

Hi there..

As you would have observed , stock prices can move up or down due to a number of reasons. For example – earnings results, government policies, trends in the industry etc. Such prices movements are reasonable and logical.

But in some cases, stock prices may move up or down drastically, accelerated mostly due to fear or greed by speculators and manipulators. Such movements are harmful for the stock markets.

In order to control such heavy price fluctuations, stock exchanges have a system called ‘circuit breakers’, something that works similar to the electricity circuit breakers that we have at home.

Circuit breakers were first introduced in the trading system of Indian stock exchanges back in 1992 at the BSE. There are separate circuit breakers for the indices and individual stocks.

These control systems ensure sanity of the stock market and protects investors. These are also called circuit limits or price bands.

HOW DOES IT WORK?

When the volatility of a stock breaks a certain limit as decided by the exchange, trading in that stock is stopped for some time. The limit is fixed as a percentage of the stock’s price by the stock exchange. The rules for circuit breaking are decided by the Securities exchange Board.

For example if the regulators decide that the circuit limit for a stock is 15%, then, trading in that stock will be halted for the day, if the stock price moves up or down 15% in one day.

CIRCUIT LIMITS FOR SENSEX AND NIFTY

There are 3 circuit limits for indices – 10%, 15% and 20%.Circuit filter is applied to Sensex or Nifty whichever is breached first. The trigger of circuit limits also depends on the time at which it occurs.

10%  movement in either direction

• If the movement is before 1 pm – 1 hour halt
• If the movement is after 1 but before 2:30 pm – half an hour halt
• If the movement is after 2.30 pm – no halt

15%  movement in either direction

After the above mentioned halts, trading starts again. If the market hits 10% again, there will not be any halts, but if it breaches 15%, circuit limits comes to play again.

• If the movement is before 1 pm – 2 hours halt
• If the movement is after 1 pm but before 2 pm- 1 hour halt
• I the movement is after 2 pm – no further halt.

20%  movement in either direction

On resumption, if the market hits 20%, trading will be halted for the day.

The above percentage is calculated on the closing value of the Sensex or the Nifty on the last day of the immediate preceding quarter. So, for deciding the circuit limit for the Jan-march 2011 period, the closing value of the bellwether indices on December 31, 2010 would be used.

WHAT HAPPENS TO ORDERS DURING CIRCUIT LIMITS?

If the market hits the upper or lower circuits, trading is halted and you cannot place orders until the market re-opens

If you have pending orders with the broker at the time of circuit break, such orders can be modified or cancelled only once the trading re-opens.

CIRCUIT LIMITS FOR INDIVIDUAL STOCKS.

Stock specific circuit filters are applied in both BSE and NSE index; the percentage for circuit filter limit is 2%, 5%, 10%, 20%. Not all stocks fall in the circuit limit category. There are stocks to which circuit limits are not applicable.

For newly listed companies, there is a circuit limit of 20% from the issue price.

That’s about circuit limits..

Bye for now …

….have a nice day !!

Stock investing strategy – Growth investing

Stock investing strategy – Growth investing

In a nut shell….

Growth investors, invest in companies that exhibit signs of above-average growth. They don’t mind if the share price is expensive in comparison to its actual value. ‘Signs of above-average Growth’ is what growth investors try to spot. These signs gets revealed when you study the fundamentals. This is the exact opposite of ‘value investing’ approach. In a nutshell, the difference between ‘value’ investing and ‘growth’ investing lies in the methodology adopted by the investors. While the value investor looks for undervalued shares, the growth investor looks for shares with higher growth potential.

What exactly is ‘growth’?

Benjamin Graham defined a growth share as a share in a company “that has done better than average in the past, and is expected to do so in the future.” Any company whose business generates significant positive cash flows or earnings, which increase at significantly faster rates than the overall economy, can be categorized under ‘growth’. A growth company tends to have very profitable reinvestment opportunities for its own retained earnings. Thus, it typically pays little to no dividends to stockholders, opting instead to plow most or all of its profits back into its expanding business. Software companies are examples of growth oriented companies.

What’s the concept all about?

Investors who follow this strategy look for companies that exhibit huge growth in terms of revenues and profits. Typically, this set of investors looks for those in sunrise sectors (those in the early stages of growth) hoping to find the next Microsoft. A growth investor may look into the past year’s data to recognize the past growth rates and based on his studies about the industry’s potential and company’s prospects; try to estimate the future growth of the company. Investors look to spot a company that grows at minimum 15% annually. If a stock cannot realistically double in five years, it’s probably not a growth stock. That’s the general consensus. This may seem like an overly high, unrealistic standard, but remember that with a growth rate of 10%, a stock’s price would double in seven years. So the rate growth investors are seeking is 15% per annum, which yields a doubling in price in five years.

What does a Growth Investor look for in a stock?

Low dividend yields, high price-to-earnings ratio or high sales-to-market capitalisation ratio or a mix of all. For identifying stocks with high potential, growth investors look at key variables such as rate of growth in per share earnings over the last five-10 years, expected growth in earnings over the next five years or so, operating and net profit margins and business efficiency. A growth investor would target a company that’s growing at 15%-40% year on.

On a macro level, factors such as the stage in business cycle in which the industry operates, its relative attractiveness, and the positioning of the company in the competition matrix form part of the investment analysis. They then look at the current price and determine if it reflects the growth potential of the company’s business.

Growth – the risky strategy.

As growth investing often involves taking exposure to companies that trade at high valuation levels, the downside risk is relatively high. Sometimes, owing to their unproven business models, these companies could be sensitive to changes in market movements and business cycles.

Is a sky rocketing share a growth share?

Not necessasarily. Share prices can move up due to various reasons including fraudulent practices. High price is never a criteria for spoting a growth share. What matters is the rate of growth in the past years and the future prospects of the industry in which the company is in.

What are the sources to find Growth shares?

The best method is to do your own research. Most growth stocks can be spotted in the small cap and mid cap indexes. It is the growth rate that finally makes them large caps. Try to spot new companies that come up with   innovative ideas – for example in medical Pharma industry.  Watch companies that have grown from small cap to mid caps. Watch companies that breach all time high levels. Investigate why the prices sky rocketed.   You may also validate shares of Industries that are currently facing market overreaction to a piece of news affecting the industry in the short term and try to spot one.

Is this approach popular?

Yes. If warren buffet is popular for his value investing strategies, Peter lynch is one of the greatest growth investors. Both he strategies are being used by investors according to market conditions worldwide.

What are the Pros and cons of  Growth investing?

• Pros:The biggest advantage of this approach is Potential for incredible returns in a short period of time
• Cons:On the negative side, these shares carry the potential for huge losses.
• Market downturns hit growth stocks far harder than value stocks.
• Failure to relate the stock price to the company value leads to purchasing overvalued stocks
• Hot stock tips, rumors, hype, and market hysteria are not reliable sources of information to act upon

Which is better? Value or growth?

Both has its pros and cons as mentioned in our lessons. In value investing, the investor has to ensure correct stock valuation as well as the right time of entry – both being equally vital as he would not like to get too early into a stock.

In growth investing, it is essential for the investor to identify businesses that face little threat of erosion so that earnings growth of those companies is not impacted. Growth investors are generally in for short time frame compared to value investors. In general, value stocks tend to hold up better during stock market downturns.

An investor having a high-risk appetite is more likely to choose a growth strategy. While a defensive investor would choose to take the value investing route.

Shareholding pattern – it tells you a lot.

Shareholding pattern – it tells you a lot.

Hi there,

Reviewing the shareholding pattern and the change in shareholding pattern could be useful to the investors. It shows how shares of a company are split among the entities that make up its owners.

• The Shareholding structure  is declared every quarter

BASIC RULES.

• As a rule of thumb, higher promoter’s stake is perceived as positive and a lower equity stake could mean low confidence of promoters in their own company.  Rise in promoter stake is considered positive because promoters will commit additional fund only when they are optimistic about future growth of their company.

• Similarly a higher FIIs stake is considered as positive and a lower FII participation could mean low confidence of FIIs in the company.  Rise in FII stake is considered positive as they will commit funds only when they are totally optimistic and confident about the future prospects of the company.

• Too high or too low of promoters stake or FII holding is not favorable.

WHO CAN HOLD SHARES IN A COMPANY?

Share Holding can be done by any investor right from a person to a corporation to a FII. When an entity or a person buys a large chunk of share in another company, their intention may be to get control in:-

• The decision making power of the company
• Election of the Board of Directors of the company
• Controlling the management of the company

PATTERN.

Data regarding the share holding pattern is available in the stock exchange’s website, all financial websites as well as in the company’s website and annual reports. Share holding pattern of a company generally involves:-

• Promoters’ Holding – Promoters may include domestic and foreign promoters. Promoters are the entities that floated the company, and to a large extent have seats on the Board of Directors or the management.
• Persons acting in concert with the Promoters. Relatives of the promoters who hold shares  fall under this class and are termed as the promoter group.
• Holding of the Non-Promoters – these include institutional investors like Banks, Financial Institutions, Insurance Companies, Mutual Funds , Foreign Institutional Investors  and others like private Corporate bodies,  Trusts, Foreign Companies , you and me ..

PROMOTERS AND FIIs – The two categories of shareholders to watch.

While analysing the shareholding pattern of the company, the two important categories to be watched are the promoter’s stake and the FIIs stake in that company. An increase in promoter stake does not always constitute a sign of confidence.  It is also necessary to see whether fresh funds have come in.  If fresh fund have been invested, where will they be invested.  Answers to these questions would help investors to determine whether jump in promoter stake is beneficial to the company. However, an increase in FIIs stake is a good sign – It shows that they are bullish on the stock. At the same time, the flip side of huge FII holding is that the stock price will be subject to huge price volatility when they off load the stake.

HOW TO ANALYSE

Analysing the holdings of various categories of investors would give you insights into the pattern of control in the company.

Here’s a collection of tips for you –

• Rise or fall in promoters holding is to be studied by looking at two aspects. First what is purpose of promoters in raising or reducing their equity stakes and second, the methods promoters have adopted to increase or reduce their ownership.
• If the promoters are increasing their stake to pay off debts and strengthen their balance sheet.  This is certainly positive for the shareholders.

• Companies that have gone for share buy back also see rise in promoter’s stake.  The core objective of a buyback is to create wealth, but it also increases promoter’s equity stake at no additional cost. A rise in promoter’s stake due to merges or buyback means little for investors in real terms.
• Promoters of companies that have opted for rights issue are forced to step in and bail out the unsubscribed portion just in case the rights are undersubscribed. Here, there will be an unintentional rise in promoter’s stake.  Shareholders declining to subscribe to rights issue and promoters chipping to rescue the issue do not qualify to be positive development.
• A decline in promoter holding should also be analyzed in detail.  Decline in promoter holding can be due to various factors such as issuing fresh share towards employee stock option, or it could be due to offloading/issuing of fresh shares to strategic/financial partners. These changes should be carefully studied.
• Promoters offloading their holdings in the open market are a warning signal.  Some dubious companies announce positive development periodically; promoters keep on offloading equity stake at the same time.  It is well laid-out trap for investors.
• If you see promoters increasing their stakes in successive quarters, you know that the financial performance is going to be good and the stock prices would possibly be higher. However, it’s unusual to see promoters’ holding increase on a regular basis. They usually step in to buy after a sharp market decline to shore up their holdings.
• A very high promoter holding is not a good sign. A diversified holding and a good presence of institutional investors indicates that promoters have little room to make and carry out random decisions that benefit them without gauging how it would affect earnings and other shareholders.
• Very low stake of promoters is perceived as diminishing confidence of promoters. This results in rampant sell off which results in loss for investors.
• FII holdings in stocks are used as indicators in stock selections; stocks with high FII holdings are largely favored. However, such stocks could take a hit should the FIIs decide to sell their stake. Retail investors may perceive such selling off to be a lack of faith in the stock by the FII.
• Holding by mutual funds and insurance companies is an indicator on how favored a stock is. Multiple funds holding the stock could be a sign of growth potential. Therefore, such high institutional holding may mean your investment is a tad safer since that company may then be more professionally run.
• While looking at the shareholding pattern, figures for a single period is also unlikely to tell you much. Compare holding patterns with those of the previous quarters to check how holdings have changed.
• Along with holding patterns, companies also disclose the entities — other than the promoters — that hold more than 1 per cent in the share capital. Companies are also required to declare the promoters’ shares that have been pledged as debt collateral.

So next time you analyse a company, don’t forget to have a look at the shareholding pattern for the present period and the previous quarter or two. It might just give you a surprise insight about the company’s management.

Have a nice day !!

3 silly mistakes a beginner should avoid.

3 silly mistakes a beginner should avoid.

Hi there,

After interacting with some beginners, I found 3 very silly mistakes that’s so common. So, i thought i should write about that in this article, with the help of an example.

– You buy shares in company ‘x’ of IT sector. The shares move up and you get a decent profit. From that moment, you are tempted to look more deals like that., preferably from the IT sector- since you get a feeling the IT sector is a sure bet !

Not only that, in the process of trying to find such deals, you tend to overlook other investment opportunities that come your way – a new mutual fund offer or a low  rate in gold ETF or an opportunity to lock in a  debt fund that’s available at a higher rate of interest.

• This is the first point – as long as your investment remains in a few stocks or markets, you may be missing on other opportunities. It’s important to have an overall view of the economy and financial markets regularly- and not just stock market alone.Beginners tend to concentrate on stocks alone and in the process, they forget to take note of what’s going around in the financial world. For example – in 2010-11, it was gold that out performed all other asset classes. Those who had an overall knowledge about financial markets would have invested a part of their funds in gold.

Continuing the above example – let us assume that the buy price of that IT stock was Rs 150 and you sold it for Rs 225 in one month, thereby making a gross profit of Rs 75 per share. You made a killing on that stock. Every time that stock drops to Rs 150, even if it’s a year or two later, you’ll be tempted to buy that stock based on the previous experience. That ‘Rs 150’ remains in your memory as a sweet spot to buy. You tend to forget the fact that financial fundamentals of the company might have changed by then.

• So, that’s my second point – financial fundamentals of a company keep changing. That’s the reason why result announcements create such hype in the stock markets. It’s important to keep track of the fundamentals of the company every quarter. Do not buy a share just because it came back to the previous levels. This time, may be, there’s some problem with the fundamentals.

Let’s continue our story – after valuating some IT companies including the stock you previously owned, you have now short listed 2 companies – one trades at Rs 200 and the other trades at Rs 600. A common belief of beginners is that Rs 200 stock is 3 times cheaper than a Rs 600 stock. That’s wrong. For example, the company that trades at Rs 200 may have 6 million shares while the other one that trades at Rs 600 may have only 2 million shares. So the market capitalization of the two companies is the same. So the solution to this is in finding out the P/E of the stocks. The price of the stock is divided by the earnings per share and that tells you which company is more expensive. A stock that has a P/E of 20 is definitely priced lower than a stock that has a P/E of say, 65.

• That brings us to our 3^rd point – price per share is not the criteria to decide whether a stock is cheap or expensive. You need the P/E of the stocks.

From my interaction with freshers, these are 3 of the most common mistakes that they commit.

Bye for now!