WHY DO PEOPLE LOSE MONEY IN THE STOCK MARKET

Now think the first person is so adamant that he wants to sell only at 100 and the buyer wants to buy only at 99, then the trade won’t happen.Now some other guy comes and offers to buy at 99.6 and he will come in the order list. And the seller also agrees to sell at 99.6 thinking even if he is not getting at 100, it’s fine to get at 99.6.

Now both of them agree to trade and accordingly get the preference if they are the first ones to offer this price. This is how the trading in the stock market takes place the whole day. So what you see is the price, and you don’t see from whom you are buying shares, unlike the real world. You see only the top 5 prices in the order book; there will be thousands of other people down the row with different prices, people who are ready to bargain.

For the same stock there will be people who think like I want to sell at 107, doesn’t matter to him that it is seven numbers away from the last traded price, he is ready to wait. Similarly there will be buyers waiting to buy at 94, he doesn’t matter what is going on in the market. He is ready to wait as many days till he gets at that price. 

So the conclusion here is there are people who could be very adamant at deciding their price, because they understand few things and they have done certain evaluation. They think this particular company is good but if only he gets it at 94 and not 99 as in order book. If he gets it at 5 rs cheaper, he thinks he can make 20 to 25% returns in other one or two years. So he is ready to wait instead of hurrying. It is very important to find your price.

You can take the example in the real life of going to a vegetable shop. If you find the price higher their either you try to bargain or move on to the next shop. Right? 

Similar fashion is with the stock market. If you want to buy only at a certain price you should hold it and not rush in buying stocks. And similarly if you are not comfortable selling at certain price you should hold, unless the basic fundamental theory does not go against it.

WHEN TO NOT WAIT AND EXIT MARKET?

Think like you bought company ABC shares to make 50% return in the stock market, you waited for one and half to two years and got 30% to 40 % returns. One fine day you come to know about some issues related to company or company management. 

Think on a case like IDEA, it was one of the top 5 telecom players in its field. But if you know that there is a big blow going to come in the form of RELIANCE JIO in terms of pricing, then IDEA will face severe competition and it’s not a good decision to hold it. Such scenario it’s better to exit the market.     

THE IMPLICATION OF IMPACT COST

I am sure in the earlier example if you see from an investor’s perspective; you would wait for your price and not jump and grab at a price being offered in the market. 

Let’s explore more on the implications of it. This is one of the major reasons on why the people who trade frequently lose money. Now think you are an intraday trader who wants to grab at the market price. So you buy at the price of 100 that is seller’s price. After an hour you want to sell it but nothing has changed in your favor, the trading situation remains the same. But you decided and brought it at 100, now you can sell at 99 as per the order book. Now you can clearly see the 1% of costing incurred on you by doing this trade. 

Many may argue that this is not how the order book looks like, and then let’s make it as you bought at 100 and sold at 99.9. Even then there is a costing of 0.10%. Now consider you made 5 such trades, and then costing would be 0.50% in a day. Now if you are trading in same way for next 20 days then 10% is the cost you are giving to trade. 

Only retail traders have pitched these concepts of technical analysis. Because brokers have to give you alerts throughout the day so that you can trade and make a brokerage for them. Impact cost is much higher than the 0.1% I have explained in the above example. 

Let me tell you a small fact; forget about the 6000 companies listed in NSE India. Even for the nifty 50 companies which have a huge market capitalization, the criteria to be listed under nifty 50 is there impact cost per trade should be less than 0.5%. So if in last 90 days any companies have traded in good liquidity that is under 0.5% impact cost, only then they are eligible to come under nifty 50. 

Now think 99.5 is the ideal price fixed by the buyer and the seller. Now every time a buyer went to buy more quantity offered by the seller i.e. more than 600 quantities in the above table, say he wants to buy 3000 quantities, what will happen? 

Since the first seller have only 600 quantities, the next seller’s quantities will be grouped and you will buy at different prices to make 3000 quantity. Then impact cost will be much higher than your trade if your trade is bigger in such cases. So every time exchanges have these kinds of pricing patterns and execution data coming, they keep calculating the impact cost. I have explained these calculation in one of my video of initial classes on my course A  complete course on Indian stock market.

The extra cost incurred when you give extra price than the median price to execute a trade is called the impact cost. As an investor you need not calculate this impact cost. But if you are a trader and you trade in a hurry then you end up buying at seller price and selling at best buyer price. So you always end up giving certain impact cost. It’s ok if you do such trades once in a while, but if you are a frequent trader or active investor, then you are going to lose a lot of your money in the impact cost. 

In retail industry impact cost is hardly discussed. But if you go and work in any big organization where you have to execute large trades, impact cost will be bigger than brokerage cost, government transaction cost, SEBI charge, exchange turnover charge. These things are minimal against the impact cost! This is something I can tell you with my own experience. 

TRADING and BROKERS

If you are going to trade extensively you have very high chance of losing money if you are doing a manual trade. For every 10 people who told me they have lost money 9 of them were traders. Whenever you get excited by the word trading, just think about these costing and whether you will be able to trade profitably. 

I always say that you have to test on a paper every time you are going to trade. I know that the impact cost cannot be taken very clearly when you are doing it, as market is very dynamic and you would not know at what price you bought or sold the shares unless you execute it. 

But then there are simulators which test the real market environment. Only if you are a tech savvy think of trading or else trading is an open gambling. 995 out of 1000 people lose money in the stock market because they are active traders with no knowledge on the stock market and trading has been pitched through them by stock brokers. 

Investment industry in India is working on a different note currently. If you have to invest 5 lakh rupees and go to your broker and ask what’s his amount as a brokerage, they will give you as low as 0.1% as their fee. There are many other discounted brokers too. But many prefer traditional ones. 

In recent years brokerage cost has gone really low, so the 5 lakh you invest will not fetch him even 500Rs. And to make you invest 5 lakh rupees he would have called and convinced you a lot of times. But when you just come and just invest after doing all these efforts from broker side, broker really gets disappointed. 

So every time they will keep pitching you to trade and tell you that this stock is going high, or the other stock seems good and to buy it. Once you buy it they will ask you to sell as there is better option or their research team gave the latest data and so on. All these are for you to trade and once you trade and make profit or loss they get their broker fee. 

Ideally the advisory and broking business should be separate. Many have raised complaint against this as it is a big conflict of interest from customers. Customer gets advice's many a times just for the broker to make money. It’s unfortunate that these are not separate entities. SEBI should look into it and stop the brokers from sending alerts, intraday buy and sell calls, etc. 

HOW NOT TO LOSE MONEY?

If you really don’t want to lose money in the stock market try to become a value investor. I know this is the truth and I believe in it. 

One of the biggest reason why people lose money is they go and trade without back testing their strategies and so much of cost is involved that even if they are executing 6/7 trades out of 10 trades profitably, still they end up losing money on broking cost and heavy impact cost. 

For people who come from trading/algorithmic trading background can understand well on what I mean by back testing strategy. If you can back test, then yes go ahead and trade, I have no issues. But trading on the tips of stock brokers and tip sellers is something which is a malpractice which you should stay away from. 

There are certain companies which say they are SEBI registered tip selling companies. Their business model is something I have explained in upcoming classes of my course. You must see the modus operandi of such companies on how they keep giving tips and survive themselves and loot customers. You can check out Jaspal bhatti video on my YouTube channel showing how people manipulate the market.

TECHNICAL REASONS IN LOSING MONEY

Think that you have invested heavily without any risk management recently and the whole market falls. Then obviously you will lose money. Can the risk management be applied to safeguard the market risk? 

The answer is yes. I have explained this in detail in my course on Indian stock market when explaining about futures and options. They are made to do risk management for market risk. When market falls your portfolio comes down and at the same point of time you have to exit as you need fund, you will take a loss n exit. 

If your portfolio is too heavy you can hedge it to any future and option instrument. But if you are investing month by month then that will be a good opportunity as market is going to come up. We have always seen it in the history. 

We have observed this trend in some people that they work in the IT industry and they end up buying all IT companies. At certain point of time one industry can specifically not perform well even if economy is performing well. Then you will lose money. Because the more you are staying in the market, concentrated with just one sector, it will become difficult to revive that sector in one or two years, then you end up losing patience and lose money. This is called industrial risk. 

Investing in stock market is investing in business and that business can fail anytime or go bankrupt or if goes into real trouble it can become zero. Any business can get shut anytime; there is no wrong in it. It has happened always and can happen with me and you. So you should realize that one company may fail anytime and if you have invested in just one or two stocks, there are high chances of losing money. So you have to learn how to diversify your portfolio, so that even if such things happen your portfolio still does better. 

PRECAUTION

Sometimes fraud can happen through leverage trading by stock brokers, but these days it’s very rare as SEBI and NSE have become very strict towards it. I have heard still few brokers do it. With the huge money they take from you, they do leverage trading heavily in their own account. There are chances of them going bankrupt. So even if you have not done any mistake you may lose the capital. 

CONCLUSION

Learn the basics of business, basics of industry sectors and identify how to analyze them.

I am sure once you have the right knowledge, you will be able to identify good stocks on your own.

If you really don’t want to lose money in the stock market try to become a value investor. I know this is the truth and I believe in it.