Tips to help you make a safe start if you're new to the equity markets

New investors should make a staggered entry into markets with minimum 5-year time period and diversified exposure

The bull run in equities has brought many new investors into the stock markets. Many have chosen to invest directly. On October 25, the number of unique registered investors on the National Stock Exchange crossed 50 million. Mutual fund portfolios have also risen from 93.3 million in September 2020 to 111.7 million in September 2021. Their asset under management (AUM) has grown from Rs 26.86 trillion to Rs 36.74 trillion over the same period. When mutual fund or direct equity investors enter the markets for the first time at a late stage in a bull run, they need to be cautious.

Risk in equities

Valuations are on the higher side currently after the run up over the past year and a half. Also, inflation has proved to be more persistent than was earlier estimated. It could affect corporate earnings by raising input costs. Central banks will begin to withdraw liquidity (the US Federal Reserve will start in November) and later raise interest rates, thus reversing the conditions that sparked the bull run. The Indian market has been volatile in the past couple of weeks, with foreign institutional investors turning net sellers in October to the tune of Rs 11,557.3 crore.   

Direct investors: Make a small start

New investors who have decided to invest directly in stocks should try to educate themselves first. “It takes at a least couple of years for an investor to understand the market’s nuances,” says Vivek Bajaj, co-founder, StockEdge & Elearnmarkets. Invest small amounts initially. Increase your allocation after you have gained in knowledge and experience.

Instead of depending on social media, make use of free tools like valuepickr.com and screener.in to understand business models and financial performance of companies and their peers.

At the outset, decide whether you want to be a trader or an investor. “Understand your goals and mindset—whether you want to create long-term wealth or focus on daily income. Don’t mix the two styles,” says Jatin Khemani, founder and chief executive officer, Stalwart Investment Advisors, a Sebi-registered independent equity research firm. Novices should also not take leveraged bets in the futures and options segment.

New investors will be safer sticking to large-cap, debt-free companies, whose promoters have not pledged a high portion of their holdings. “Accumulate steady outperformers through SIP-type investments,” says Mayank Kaushik, lead-digital marketing, Trustline Securities. He suggests avoiding high exposure to small- and micro-cap stocks, and also those with stretched valuations.

Direct equity investors should pay heed not just to stock picking but to portfolio construction as well. “Don’t have more than 20-25 stocks in your portfolio. You will find it difficult to track a higher number of stocks,” says Khemani. If you wish to add more, the incoming stock must earn its place in the portfolio by replacing an existing holding.

Pay heed to your allocation to individual stocks. “You could allocate 3 per cent to low-conviction ideas and up to 10 per cent in high-conviction ideas. The exact figure should depend on the investor’s risk appetite,” adds Khemani.

After investing, monitor your holdings. Track quarterly results and read annual reports to judge whether the management is delivering on its guidance and performing in-line with, or better than, peers.

Have a longer holding period. A recent Business Standard analysis showed that an investor’s chances of picking a 10-bagger stock increase the most if he has a holding period of 10 years.   

MF investors: Avoid equity-only portfolios

• No lump-sum investments: Avoid lump-sum investments in equity funds at current valuations as a correction could erode the value of your investment. New investors tend to exit in panic, converting their notional losses into real ones. “First-time investors should invest in equity funds through the systematic investment plan (SIP) route to average out their cost of purchase of units,” says Archit Gupta, founder and chief executive officer (CEO), Clear.

• Don’t go by past returns: New investors tend to invest in categories and funds that have given the highest returns in recent times. They should instead be guided by the principle of “reversion to mean”, which says that asset classes and funds that have outperformed in the recent past are more likely to underperform in the near future. “Fund performance shouldn’t be the sole criterion for selection. Schemes should be chosen with the aim of building a diversified portfolio and after factoring in the investor’s risk appetite,” says Amol Joshi, founder, PlanRupee Investment Services.

• Build a diversified portfolio: Avoid building an equity-only portfolio. Some allocation should be made to debt funds for stability and to gold for its ability to hedge the risk in equities. The exact allocation to various assets should depend on how far the goal is (choose equity funds only for goals that are more than five years away) and the investor’s risk appetite. “Aggressive investors could have an allocation of 75:20:5 to equity, debt and gold respectively,” says Joshi.

• Avoid sector funds: At any given time, the best-performing funds tend to be sectors funds (infrastructure and technology currently). They, however, carry high concentration risk and can correct sharply. “First-time inve­s­tors should avoid sector funds where you need skills to time your entry and exit for maximising returns,” says Gupta.

• Mix active and passive funds: Consider investing in passive funds. “Allocate a part of your portfolio to index funds based on the Nifty 50 or the Sensex,” says Harshad Chetanwala, co-founder, MyWealthGrowth.com. Doing so does away with the challenge of choosing a high-quality actively managed fund. Once the investor has gained knowledge, he may continue with passive funds in the large-cap space (where most active funds tend to underperform) and select active funds for the mid- and small-cap space.

Mistakes to avoid in your early days 

• Avoid leveraged investments in futures and options, where one wrong trade can wipe out your capital
• Don’t borrow money from banks, friends and relatives, or withdraw  money from credit cards to invest in the markets
• Avoid churning your stocks too much: High transaction costs could erode both your gains and capital  
• If you have only a small amount to invest, go for mutual funds and spend your time and energy on your job or business