stock market basics

Before investing, it is always wise to learn the Basics of Stock Market. We have compiled articles and tutorials on the Share Market Basics. Also included here explanation of Stock Market Terms and jargon used by people involved in trading stocks and shares. Whether it is Bombay Stock Exchange (BSE), National Stock Exchange (NSE), London Stock Exchange (LSE) or New York Stock Exchange (NYSE), trading terms or more or less similar

INVESTING IN STOCKS

Many of us would like to try our luck in the Stock markets. Yes, Why Not ? Trading stocks is one of the most lucrative methods of making money.

Here's Why :

1. You do not need a lot of money to start making money, unlike buying property and paying a monthly mortgage.

2. It requires very minimal time to trade - unlike building a conventional business. 

3. It’s ‘fast’ cash and allows for quick liquidation (You can convert it to cash easily, unlike selling a property or a business).

4. It’s easy to learn how to profit from the stock market.

But You need to have your basics clear. Unless you do….you will be wasting your time and loosing money. You need to be crystal clear of each and every aspect of Investments, stock options, Stock Trading, Company, Shares, Dividend & Types of Shares, Debentures, Securities, Mutual Funds, IPO, Futures & Options, What does the Share Market consist of? Exchanges, Indices, SEBI , Analysis of Stocks – How to check on what to buy?, Trading Terms (Limit Order, Stop Loss, Put, Call, Booking Profit & Loss, Short & Long), Trading Options – Brokerage Houses  etc.

Systematic Investment Plan(SIP)

The Systematic Investment Plan (SIP) is a simple and time honored investment strategy for accumulation of wealth in a disciplined manner over long term period. The plan aims at a better future for its investors as an SIP investor gets good rate of returns compared to a one time investor.

Systematic Investment Plan :-

• A specific amount should be invested for a continuous period at regular intervals under this plan.
  
• SIP is similar to a regular saving scheme like a recurring deposit. It is a method of investing a fixed sum regularly in a mutual fund.
  
• SIP allows the investor to buy units on a given date every month. The investor decides the amount and also the mutual fund scheme.
  
• While the investor's investment remains the same, more number of units can be bought in a declining market and less number of units in a rising market.
  
• The investor automatically participates in the market swings once the option for SIP is made.
  

SIP ensures averaging of rupee cost as consistent investment ensures that average cost per unit fits in the lower range of average market price. An investor can either give post dated cheques or ECS instruction and the investment will be made regularly in the mutual fund desired for the required amount. SIP generally starts at minimum amounts of Rs.1000/- per month and upper limit for using an ECS is Rs.25000/- per instruction. For instance, if one wishes to invest Rs.1, 00,000/- per month, then they need to do it on four different dates.

SIP investor
It is easy to become a systematic investor. One needs to plan the saving effectively and set aside some amount of money every month for investment purposes in a fund that is ideally a diversified equity fund or balanced fund. Post dated cheques can be given to the fund house. The investor is at liberty to exit from the scheme depending on the market conditions.

Benefits of Systematic Investment Plan

Power of compounding: The power of compounding underlines the essence of making money work if only invested at an early age. The longer one delays in investing, the greater the financial burden to meet desired goals. Saving a small sum of money regularly at an early age makes money work with greater power of compounding with significant impact on wealth accumulation.

Rupee cost averaging: Timing the market consistency is a difficult task. Rupee cost averaging is an automatic market timing mechanism that eliminates the need to time one's investments. Here one need not worry about where share prices or interest are headed as investment of a regular sum is done at regular intervals; with fewer units being bought in a declining market and more units in a rising market. Although SIP does not guarantee profit, it can go a long way in minimizing the effects of investing in volatile markets.

Convenience: SIP can be operated by simply providing post dated cheques with the completed enrolment form or give ECS instructions. The cheques can be banked on the specified dates and the units credited into the investor's account. The SIP facility is available in the Principal Income Fund, Monthly Income Plan, Child Benefit Fund, Balanced Fund, Index Fund, Growth Fund, Equity fund and Tax Savings Fund.

SIP features:-
Disciplined investing is vital to earning good returns over a longer time frame. Investors are saved the bother of identifying the ideal entry and exit points from volatile markets. SIP options such as equity, debt and balanced schemes offer a range of investment plans. While there is no entry load on SIP, investors face an exit load if the units are redeemed within a stipulated time frame. The success of your SIP hinges on the performance of your selected scheme.

Insurance

Insurance :-
  In law and economics, is a form of risk management primarily used to hedge against the risk of a contingent loss. Insurance is defined as the equitable transfer of the risk of a loss, from one entity to another, in exchange for a premium, and can be thought of as a guaranteed and known small loss to prevent a large, possibly devastating loss. An insurer is a company selling the insurance; an insured or policyholder is the person or entity buying the insurance. The insurance rate is a factor used to determine the amount to be charged for a certain amount of insurance coverage, called the premium. Risk management, the practice of appraising and controlling risk, has evolved as a discrete field of study and practice.

Principles of insurance :-

Commercially insurable risks typically share seven common characteristics.

1. A large number of homogeneous exposure units. The vast majority of insurance policies are provided for individual members of very large classes. Automobile insurance, for example, covered about 175 million automobiles in the United States in 2004.The existence of a large number of homogeneous exposure units allows insurers to benefit from the so-called “law of large numbers,” which in effect states that as the number of exposure units increases, proportionally the actual results are increasingly likely to become close to expected proportions. There are exceptions to this criterion. Lloyd's of London is famous for insuring the life or health of actors, actresses and sports figures. Satellite Launch insurance covers events that are infrequent. Large commercial property policies may insure exceptional properties for which there are no ‘homogeneous’ exposure units. Despite failing on this criterion, many exposures like these are generally considered to be insurable.
2. Definite Loss. The event that gives rise to the loss that is subject to the insured, at least in principle, take place at a known time, in a known place, and from a known cause. The classic example is death of an insured person on a life insurance policy. Fire, automobile accidents, and worker injuries may all easily meet this criterion. Other types of losses may only be definite in theory. Occupational disease, for instance, may involve prolonged exposure to injurious conditions where no specific time, place or cause is identifiable. Ideally, the time, place and cause of a loss should be clear enough that a reasonable person, with sufficient information, could objectively verify all three elements.
3. Accidental Loss. The event that constitutes the trigger of a claim should be fortuitous, or at least outside the control of the beneficiary of the insurance. The loss should be ‘pure,’ in the sense that it results from an event for which there is only the opportunity for cost. Events that contain speculative elements, such as ordinary business risks, are generally not considered insurable.
4. Large Loss. The size of the loss must be meaningful from the perspective of the insured. Insurance premiums need to cover both the expected cost of losses, plus the cost of issuing and administering the policy, adjusting losses, and supplying the capital needed to reasonably assure that the insurer will be able to pay claims. For small losses these latter costs may be several times the size of the expected cost of losses. There is little point in paying such costs unless the protection offered has real value to a buyer.
5. Affordable Premium. If the likelihood of an insured event is so high, or the cost of the event so large, that the resulting premium is large relative to the amount of protection offered, it is not likely that anyone will buy insurance, even if on offer. Further, as the accounting profession formally recognizes in financial accounting standards, the premium cannot be so large that there is not a reasonable chance of a significant loss to the insurer. If there is no such chance of loss, the transaction may have the form of insurance, but not the substance. 
6. Calculable Loss. There are two elements that must be at least estimable, if not formally calculable: the probability of loss, and the attendant cost. Probability of loss is generally an empirical exercise, while cost has more to do with the ability of a reasonable person in possession of a copy of the insurance policy and a proof of loss associated with a claim presented under that policy to make a reasonably definite and objective evaluation of the amount of the loss recoverable as a result of the claim.
7. Limited risk of catastrophically large losses. The essential risk is often aggregation. If the same event can cause losses to numerous policyholders of the same insurer, the ability of that insurer to issue policies becomes constrained, not by factors surrounding the individual characteristics of a given policyholder, but by the factors surrounding the sum of all policyholders so exposed. Typically, insurers prefer to limit their exposure to a loss from a single event to some small portion of their capital base, on the order of 5 percent. Where the loss can be aggregated, or an individual policy could produce exceptionally large claims, the capital constraint will restrict an insurer's appetite for additional policyholders. The classic example is earthquake insurance, where the ability of an underwriter to issue a new policy depends on the number and size of the policies that it has already underwritten. Wind insurance in hurricane zones, particularly along coast lines, is another example of this phenomenon. In extreme cases, the aggregation can affect the entire industry, since the combined capital of insurers and reinsurers can be small compared to the needs of potential policyholders in areas exposed to aggregation risk. In commercial fire insurance it is possible to find single properties whose total exposed value is well in excess of any individual insurer’s capital constraint. Such properties are generally shared among several insurers, or are insured by a single insurer who syndicates the risk into the reinsurance market. 

Types of Insurance :-

1.Motor insurance
This includes automobile, truck, motorcycle, aircraft, boat, or any other form of motorized transportation. It is perhaps the most common type of insurance, and is required by law in many countries.

Motor insurance covers the insured party against financial loss that he may incur to repair his vehicle or a third party’s in the event of an accident. In return for annual or semi-annual premiums, the insurance company is bound to pay any losses as described in the policy. Such a policy may include property, liability or third party, and medical coverage.

Property coverage insures damage to or theft of a vehicle; liability covers bodily injury or property damage that may occur as a result of the insured’s actions, and medical coverage pays any fees necessary for bodily injuries, rehabilitation and in some cases foregone wages and funeral costs.

In many countries, all of these types of automovile insurance are required of vehicle owners. In some countries, or states, only third party is required. However, in the case of new vehicles, any banks which may be financing the vehicle may require full insurance as a condition of financing.

2.Health insurance
Most developed nations have government-funded health care which means that most or all citizens have access to medical facilities and treatment, as well as health insurance.
For example, the National health Service (NHS) in the United Kingdom pays for citizens’ medical needs. However, in the US, there is no government-funded health policy - whether for insurance or treatment. As a result, US citizens and residents must be insured or risk facing astronomical medical bills, garnishing of wages, and bankruptcy. Often, medical insurance (both health and dental) is included in employee benefit packages in the US and other countries. Nevertheless, the issue of affordable health insurance and treatment in the US is one of the most controversial and heated topics, as many cannot afford either. If you live in a country without comprehensive national health care, then low cost health insurance is a vital requirement.


3.Disability insurance
This form of insurance protects workers from injuries and illnesses which prevent them from doing their jobs. It can pay for existing commitments the policyholders may have such as outstanding bills, mortgages, utilities, and more.
Workers’ compensation is common in the US, and pays a worker his wages and medical expenses in the event of an injury on the job.
Permanent disability which prevents a worker from ever working again is covered by total permanent disability insurance. This provides the disabled employee with benefits for the rest of his or her life, or according to the terms specified in the policy. Companies can purchase a similar type of insurance, called, disability overhead insurance. This pays for ongoing overhead costs of a business while the owners are not able to work.

4.Property insurance
This type of insurance typically covers things like homes, machinery, crops, valuable goods, shipped cargo, rented property (homes or apartments), and more.


It can cover damages as a result of various activities including acts of God (earthquakes, floods, storms, hurricanes, etc), vandalism, terrorism, fraud, and more.
5.Liability insurance
This covers negligent acts of an insured party with reference to a vehicle or a home. It protects the insured against legal claims and indemnification.

There are various types of liability insurance such as professional indemnity insurance Environmental liability insurance and Prize indemnity insurance .
Professional indemnity insurance protects employees from malpractice suits (as in the medical profession), errors and omissions (by appraisers, home inspectors, realtors, insurance agents, notaries, and others), and other acts of unintentional workplace negligence.
6.Credit insurance
This is taken by lenders who need coverage against the people that have credit with them (borrow money). In the event of their inability to pay it back (usually due to unemployment, disability, or death), this insurance protects the lender.


There are many other kinds of insuance, and even each of the major categories mentioned above has dozens of variations and types. They differ depending on the markets, the understanding of risk and availability of historical data, government regulation and law, cultural perceptions and expectations, and more.
 

Money Market Instruments

Money Market Instruments:-

By convention, the term "Money Market" refers to the market for short-term requirement and deployment of funds. Money market instruments are those instruments, which have a maturity period of less than one year. The most active part of the money market is the market for overnight call and term money between banks and institutions and repo transactions. Call Money / Repo are very short-term Money Market products. The below mentioned instruments are normally termed as money market instruments:

1. 
   
   Certificate of Deposit (CD)
   
   
   
2. 
   
   Commercial Paper (C.P)
   
   
   
3. 
   
   Inter Bank Participation Certificates
   
   
   
4. 
   
   Inter Bank term Money
   
   
   
5. 
   
   Treasury Bills
   
   
   
6. 
   
   Bill Rediscounting
   
   
   
7. 
   
   Call/ Notice/ Term Money
   
   
   

Bonds & Debentures

 Bonds:-

A bond is a debt security, by which you are lending money to a government, municipality, corporation, or other entity known as the issuer.

In return for the loan, the issuer promises to pay you a specified rate of interest during the life of the bond and to repay the face value of the bond (the principal) when it matures or becomes due.

Why Invest in Bonds?

Because bonds typically have a predictable stream of payments and repayment of principal, many people invest in them to preserve and increase their capital or to receive dependable interest income.

What should be the key Bond Investment Considerations?

There are a number of key variables to look at when investing in bonds: the bond’s maturity, redemption features, credit quality, interest rate, price and yield. Together, these factors help determine the value of your bond investment and the degree to which it matches your financial objectives.

  Face Value:-

Securities are generally issued in denominations of 10, 100 or 1000. This is known as the Face Value or Par Value of the security.

What is the Coupon rate of the Security?

The Coupon rate is simply the interest rate that every debenture/Bond carries on its face value and is fixed at the time of issuance. For example, a 10% p.a coupon rate on a bond/debenture of Rs 100 implies that the investor will receive Rs 10 p.a. The coupon can be payable monthly, quarterly, half-yearly, or annually or cumulative on redemption

 Interest Rate:-

Bonds pay interest that can be fixed, floating or payable at maturity. Most debt securities carry an interest rate that stays fixed until maturity and is a percentage of the face (principal) amount. Typically, investors receive interest payments semiannually. For example, a Rs.1000 bond with an 8% interest rate will pay investors Rs.80 a year, in payments of Rs.40 every six months. When the bond matures, investors receive the full face amount of the bond—Rs.1, 000. 
Floating Interest rate:-

Some sellers and buyers of debt securities prefer having an interest rate that is adjustable, and more closely tracks prevailing market rates. The interest rate on a floating—rate bond is reset periodically in line with changes in a base interest—rate index, such as the rate on Treasury bills.

Zero Coupon Bond:-

Some bonds have no periodic interest payments. Instead, the investor receives one payment at maturity that is equal to the purchase price (principal) plus the total interest earned, compounded semiannually at the (original) interest rate. Known as zero coupon bonds, they are sold at a substantial discount from their face amount. For example, a bond with a face amount of Rs.10, 000 maturing in 5 years might be purchased for about Rs.7130. At the end of the 5 years, the investor will receive Rs.10, 000. The difference between Rs.10, 000 and Rs.7, 130 represents the interest, based on an interest rate of 7%, which compounds automatically until the bond matures.

What do you mean by the Maturity of the bond?

Securities are issued for a fixed period of time at the end of which the principal amount borrowed is repaid to the investors. The date on which the term ends and proceeds are paid out is known as the Maturity date. It is specified on the face of the instrument. Maturity ranges are often categorized as follows:

• Short—term notes: maturities of up to five years
  
  
  
• Intermediate notes/bonds: maturities of five to 12 years
  
  
  
• Long—term bonds: maturities of 12 or more years
  
  
  

What is redemption and what are the various Redemption Features?

On reaching the date of maturity, the issuer repays the money borrowed from the investors. This is known as Redemption or Repayment of the bond/debenture.

• Call Provisions: Some bonds have redemption, or “call” provisions that allow or require the issuer to repay the investors’ principal at a specified date before maturity. Bonds are commonly “called” when prevailing interest rates have dropped significantly since the time the bonds were issued.
  
  
  
• Puts: Conversely, some bonds have “puts,” which allow the investor the option of requiring the issuer to repurchase the bonds at specified times prior to maturity. Investors typically exercise this option when they need cash for some purpose or when interest rates have risen since the bonds were issued. They can then reinvest the proceeds at a higher interest rate.
  
  
  

How is the Price of the bond calculated?

The price paid for a bond is based on a whole host of variables, including interest rates, supply and demand, credit quality, maturity and tax status. Newly issued bonds normally sell at or close to their face value. Bonds traded in the secondary market, however, fluctuate in price in response to changing interest rates. When the price of a bond increases above its face value, it is said to be selling at a premium. When a bond sells below face value, it is said to be selling at a discount. When prevailing interest rates rise, prices of outstanding bonds fall to bring the yield of older bonds into line with higher—interest new issues.When prevailing interest rates fall, prices of outstanding bonds rise, until the yield of older bonds is low enough to match the lower interest rate on new issues.

What is the Yield on a Bond?

Yield is the return you actually earn on the bond—based on the price you paid and the interest payment you receive. There are basically two types of bond yields you should be aware of: current yield and yield to maturity or yield to call.

  Current Yield:-

Current yield is the annual return on the amount paid for the bond and is derived by dividing the bond’s interest payment by its purchase price. If you bought at Rs.1, 000 and the interest rate is 8% (Rs.80), the current yield is 8% (Rs.80 ÷ Rs.1, 000). If you bought at Rs.800 and the interest rate is 8% (Rs.80), the current yield is 10% (Rs.80 ÷ Rs.800).

What is Yield to Maturity/Yield to Call?

Yield to maturity and yield to call, tell you the total return you will receive by holding the bond until it matures or is called. It also enables you to compare bonds with different maturities and coupons. Yield to maturity equals all the interest you receive from the time you purchase the bond until maturity (including interest on interest at the original purchasing yield), plus any gain (if you purchased the bond below its par, or face, value) or loss (if you purchased it above its par value). Yield to call is calculated the same way as yield to maturity, but assumes that a bond will be called and that the investor will receive face value back at the call date.

  Yield Curve:-

The relationship between time and yield on a homogenous risk class of securities is called the Yield Curve. The relationship represents the time value of money - showing that people would demand a positive rate of return on the money they are willing to part today for a payback into the future. A yield curve can be positive, neutral or flat. A positive yield curve, which is most natural, is when the slope of the curve is positive, i.e. the yield at the longer end is higher than that at the shorter end of the time axis. This result, as people demand higher compensation for parting their money for a longer time into the future. A neutral yield curve is that which has a zero slope, i.e. is flat across time. This occurs when people are willing to accept more or less the same returns across maturities. The negative yield curve (also called an inverted yield curve) is one of which the slope is negative, i.e. the long term yield is lower than the short term yield.

How are the Interest Rates and Maturity related?

Changes in interest rates don’t affect all bonds equally. The longer it takes for a bond to mature, the greater the risk that prices will fluctuate along the way and that the fluctuations will be greater—and the more the investors will expect to be compensated for taking the extra risk. There is a direct link between maturity and yield.

Who are institutional investors in the Indian Debt Market?

Institutional investors operating in the Indian Debt Market are: Banks, Insurance companies, Provident funds, Mutual funds, Trusts, Corporate, treasuries, Foreign investors (FIIs)

What factors determine interest rates?

When we talk of interest rates, there are different types of interest rates - rates that banks offer to their depositors, rates that they lend to their borrowers, the rate at which the Government borrows in the bond/G-Sec, market, rates offered to small investors in small savings schemes like NSC rates at which companies issue fixed deposits etc.

The factors which govern the interest rates are mostly economy related and are commonly referred to as macroeconomic. Some of these factors are:

• Demand for money
  
  
  
• Government borrowings
  
  
  
• Supply of money
  
  
  
• Inflation rate
  
  
  
• The Reserve Bank of India and the Government policies which determine some of the variables mentioned above.
  
  
  

What is record date/shut period?

G-Sec/Bonds/Debentures keep changing hands in the secondary market. Issuer pays interest to the holders registered in its register on a certain date. Such date is known as record date. Securities are not transferred in the books of issuer during the period in which such records are updated for payment of interest etc. Such period is called as shut period.

What do you mean by "Cum-Interest" and "Ex-Interest"?

Cum-interest means the price of security is inclusive of the interest accrued for the interim period between last interest payment date and purchase date. Security with ex-interest means the accrued interest has to be paid separately

What are G-Secs?

G-Secs or Government of India dated Securities are Rupees One hundred face-value units / debt paper issued by Government of India in lieu of their borrowing from the market. These can be referred to as certificates issued by Government of India through the Reserve Bank acknowledging receipt of money in the form of debt, bearing a fixed interest rate (or otherwise) with interests payable semi-annually or otherwise and principal as per schedule, normally on due date on redemption

What are ‘Gilt edged’ securities?

The term government securities encompass all Bonds & T-bills issued by the Central Government, state government. These securities are normally referred to, as "gilt-edged" as repayments of principal as well as interest are totally secured by sovereign guarantee.

'Gilt Securities' are issued by the RBI, the central bank, on behalf of the Government of India. Being sovereign paper, gilt securities carry absolutely no risk of default.

What is Inflation linked bond?

These are bonds for which the coupon payment in a particular period is linked to the inflation rate at that time - the base coupon rate is fixed with the inflation rate (consumer price index-CPI) being added to it to arrive at the total coupon rate. The idea behind these bonds is to make them attractive to investors by removing the uncertainty of future inflation rates, thereby maintaining the real value of their invested capital.

What is SDL?

State government securities (State Loans): These are issued by the respective state governments but the RBI coordinates the actual process of selling these securities. Each state is allowed to issue securities up to a certain limit each year. The planning commission in consultation with the respective state governments determines this limit. Generally, the coupon rates on state loans are marginally higher than those of GOI-Secs issued at the same time.

What is a PSU Bond?

Public Sector Undertaking Bonds (PSU Bonds): These are Medium or long term debt instruments issued by Public Sector Undertakings (PSUs). The term usually denotes bonds issued by the central PSUs (i.e. PSUs funded by and under the administrative control of the Government of India). Most of the PSU Bonds are sold on Private Placement Basis to the targeted investors at Market Determined Interest Rates.

What is a Debenture?

A Debenture is a debt security issued by a company (called the Issuer), which offers to pay interest in lieu of the money borrowed for a certain period. In essence it represents a loan taken by the issuer who pays an agreed rate of interest during the lifetime of the instrument and repays the principal normally, unless otherwise agreed, on maturity. These are long-term debt instruments issued by private sector companies. These are issued in denominations as low as Rs 1000 and have maturities ranging between one and ten years.

What is the difference between a bond and a debenture?

Long-term debt securities issued by the Government of India or any of the State Government’s or undertakings owned by them or by development financial institutions are called as bonds. Instruments issued by other entities are called debentures. The difference between the two is actually a function of where they are registered and pay stamp duty and how they trade.

What are the different types of debentures?

Debentures are divided into different categories on the basis of Convertibility of the instrument and security

On the basis of convertibility, debentures are classified into:

• Non Convertible Debentures (NCD): These instruments retain the debt character and can not be converted in to equity shares
  
  
  
• Partly Convertible Debentures (PCD): A part of these instruments are converted into Equity shares in the future at notice of the issuer. The issuer decides the ratio for conversion. This is normally decided at the time of subscription.
  
  
  
• Fully convertible Debentures (FCD): These are fully convertible into Equity shares at the issuer's notice. The ratio of conversion is decided by the issuer. Upon conversion the investors enjoy the same status as ordinary shareholders of the company.
  
  
  
• Optionally Convertible Debentures (OCD): The investor has the option to either convert these debentures into shares at price decided by the issuer/agreed upon at the time of issue.
  
  On the basis of Security, debentures are classified into:
  
  
  
• Secured Debentures: These instruments are secured by a charge on the fixed assets of the issuer company. So if the issuer fails on payment of the principal or interest amount, his assets can be sold to repay the liability to the investors
  
  
  
• Unsecured Debentures: These instrument are unsecured in the sense that if the issuer defaults on payment of the interest or principal amount, the investor has to be along with other unsecured creditors of the company.
  
  
  

Who Regulates Indian G-Secs and Debt Market?

RBI: The Reserve Bank of India is the main regulator for the Money Market. Reserve Bank of India also controls and regulates the G-Secs Market. Another major area under the control of the RBI is the interest rate policy. Earlier, it used to strictly control interest rates through a directed system of interest rates. Each type of lending activity was supposed to be carried out at a pre-specified interest rate. Over the years RBI has moved slowly towards a regime of market determined controls.

SEBI: Regulator for the Indian Corporate Debt Market is the Securities and Exchange Board of India (SEBI). SEBI controls bond market and corporate debt market in cases where entities raise money from public through public issues.

Apart from the two main regulators, the RBI and SEBI, there are several other regulators specific for different classes of investors, e.g. the Central Provision Fund Commissioner and the Ministry of Labour regulate the Provident Funds.

MUTUAL FUND

• What are Mutual Funds?
  
• What is an Asset Management Company?
  
• What is NAV?
  
• How to Use Net Asset Values?
  
• What is Expense Ratio?
  
• What are the benefits of investing in Mutual Funds?
  
• Are there any risks involved in investing in Mutual Funds?
  
• What are the different types of Mutual funds?
  
• What are the different plans that Mutual Funds offer?
  
• What is Entry/Exit Load?
  
• What is Sales/Purchase price?
  
• What is redemption price?
  
• What is repurchase price?
  
• What is a Switch?
  
• Is there any minimum lock-in period for my units?
  
• What are the factors that influence the performance of Mutual Funds?
  
• As a new investor how do I select a particular scheme?
  

What are Mutual Funds?

A Mutual Fund is a body corporate that pools the savings of a number of investors and invests the same in a variety of different financial instruments, or securities. Mutual funds can thus be considered as financial intermediaries in the investment business who collect funds from the public and invest on behalf of the investors. The Investment objectives outlined by a Mutual Fund in its prospectus are binding on the Mutual Fund scheme. The investment objectives specify the class of securities a Mutual Fund can invest in. Mutual Funds invest in various asset classes like equity, bonds, debentures, commercial paper and government securities.

What is an Asset Management Company?

An Asset Management Company (AMC) is a highly regulated organization that pools money from investors and invests the same in a portfolio.

What is NAV?

NAV or Net Asset Value of the fund is the cumulative market value of the assets of the fund net of its liabilities. NAV per unit is simply the net value of assets divided by the number of units outstanding. Buying and selling into funds is done on the basis of NAV-related prices. NAV is calculated as follows:

NAV= Market value of the fund's investments + Receivables + Accrued Income - Liabilities - Accrued Expenses __________________________________________________________________________________
Number of Outstanding units

How to Use Net Asset Values?

NAVs are helpful in keeping an eye on your mutual fund's price movement, but NAVs are not the best way to keep track of performance. The reason for this is mutual fund distributions. Mutual funds are forced by law to distribute at least 90% of its' realized capital gains and dividend income each year. When a fund pays out this distribution, the NAV drops by the amount paid. This is important because an investor may become frightened when they see their fund's NAV drop by Rs.3 even though they haven't lost any money (the Rs.3 was paid out to the shareholder).

What is Expense Ratio?

The percentage of total fund assets that is used to cover expenses associated with the operation of a mutual fund. This amount is taken out of the fund's assets and lowers the return that fund holders achieve. These expenses include management fees and operating expenses. The management fee is the fee that is charged to the fund by the portfolio manager, and it is often a fixed percentage. The operating expenses are the expenses that the fund incurs through operation and this can include brokerage fees, taxes, investor services and interest expenses.

What are the benefits of investing in Mutual Funds?

• Professional Management - Qualified and experienced professionals manage Mutual Funds. Generally, investors, by themselves, may have reasonable capability, but to assess a financial instrument a professional analytical approach is required in addition to access to research and information and time and methodology to make sound investment decisions and keep monitoring them.
  
  
  
• Diversification - Since Mutual Funds make investments in a number of stocks, the resultant diversification reduces risk. They provide the small investors with an opportunity to invest in a larger basket of securities.
  
  
  
• Regulated- Mutual Funds are registered with SEBI. SEBI monitors the activities of Mutual Funds.
  
  
  
• Liquidity- In case of open-ended funds, the investment is very liquid as it can be redeemed at any time with the fund unlike direct investment in stocks/bonds.
  

Are there any risks involved in investing in Mutual Funds?

Mutual Funds do not provide assured returns. Their returns are linked to their performance. They invest in shares, debentures and deposits. All these investments involve an element of risk. The unit value may vary depending upon the performance of the company and companies may default in payment of interest/principal on their debentures/bonds/deposits. Besides this, the government may come up with new regulation which may affect a particular industry or class of industries. All these factors influence the performance of Mutual Funds.

What are the different types of Mutual funds?

(a) On the basis of Objective

Equity Funds/ Growth Funds - Funds that invest in equity shares are called equity funds. They carry the principal objective of capital appreciation of the investment over the medium to long-term. The returns in such funds are volatile since they are directly linked to the stock markets. They are best suited for investors who are seeking capital appreciation. There are different types of equity funds such as Diversified funds, Sector specific funds and Index based funds.

Diversified funds - These funds invest in companies spread across sectors. These funds are generally meant for risk-taking investors who are not bullish about any particular sector.

Sector funds - These funds invest primarily in equity shares of companies in a particular business sector or industry. These funds are targeted at investors who are extremely bullish about a particular sector.

Index funds - These funds invest in the same pattern as popular market indices like S&P 500 and BSE Index. The value of the index fund varies in proportion to the benchmark index.

Tax Saving Funds - These funds offer tax benefits to investors under the Income Tax Act. Opportunities provided under this scheme are in the form of tax rebates U/s 88 as well saving in Capital Gains U/s 54EA and 54EB. They are best suited for investors seeking tax concessions.

Debt / Income Funds - These Funds invest predominantly in high-rated fixed-income-bearing instruments like bonds, debentures, government securities, commercial paper and other money market instruments. They are best suited for the medium to long-term investors who are averse to risk and seek capital preservation. They provide regular income and safety to the investor.

Liquid Funds / Money Market Funds - These funds invest in highly liquid money market instruments. The period of investment could be as short as a day. They provide easy liquidity. They have emerged as an alternative for savings and short-term fixed deposit accounts with comparatively higher returns. These funds are ideal for Corporate, institutional investors and business houses who invest their funds for very short periods.

Gilt Funds - These funds invest in Central and State Government securities. Since they are Government backed bonds they give a secured return and also ensure safety of the principal amount. They are best suited for the medium to long-term investors who are averse to risk.

Balanced Funds - These funds invest both in equity shares and fixed-income-bearing instruments (debt) in some proportion. They provide a steady return and reduce the volatility of the fund while providing some upside for capital appreciation. They are ideal for medium- to long-term investors willing to take moderate risks.

Hedge Funds - These funds adopt highly speculative trading strategies. They hedge risks in order to increase the value of the portfolio.

(b) On the basis of Flexibility

Open-ended Funds - These funds do not have a fixed date of redemption. Generally they are open for subscription and redemption throughout the year. Their prices are linked to the daily net asset value (NAV). From the investors' perspective, they are much more liquid than closed-ended funds. Investors are permitted to join or withdraw from the fund after an initial lock-in period.

Close-ended Funds - These funds are open initially for entry during the Initial Public Offering (IPO) and thereafter closed for entry as well as exit. These funds have a fixed date of redemption. One of the characteristics of the close-ended schemes is that they are generally traded at a discount to NAV; but the discount narrows as maturity nears. These funds are open for subscription only once and can be redeemed only on the fixed date of redemption. The units of these funds are listed (with certain exceptions), are tradable and the subscribers to the fund would be able to exit from the fund at any time through the secondary market.

Interval funds - These funds combine the features of both open-ended and close-ended funds wherein the fund is close-ended for the first couple of years and open-ended thereafter. Some funds allow fresh subscriptions and redemption at fixed times every year (say every six months) in order to reduce the administrative aspects of daily entry or exit, yet providing reasonable liquidity.

(c) On the basis of geographic location

Domestic funds - These funds mobilize the savings of nationals within the country.

Offshore Funds - These funds facilitate cross border fund flow. They invest in securities of foreign companies. They attract foreign capital for investment.

What are the different plans that Mutual Funds offer?

Growth Plan and Dividend Plan - A growth plan is a plan under a scheme wherein the returns from investments are reinvested and very few income distributions, if any, are made. The investor thus only realizes capital appreciation on the investment. This plan appeals to investors in the high income bracket. Under the dividend plan, income is distributed from time to time. This plan is ideal to those investors requiring regular income.

Dividend Reinvestment Plan - Dividend plans of schemes carry an additional option for reinvestment of income distribution. This is referred to as the dividend reinvestment plan. Under this plan, dividends declared by a fund are reinvested on behalf of the investor, thus increasing the number of units held by the investors.

What is Entry/Exit Load?

A Load is a charge, which the AMC may collect on entry and/or exit from a fund. A load is levied to cover the up-front cost incurred by the AMC for selling the fund. It also covers one time processing costs. Some funds do not charge any entry or exit load. These funds are referred to as 'No Load Fund'. Funds usually charge an entry load ranging between 1.00% and 2.00%. Exit loads vary between 0.25% and 2.00%.

For e.g. Let us assume an investor invests Rs. 10,000/- and the current NAV is Rs.13/-. If the entry load levied is 1.00%, the price at which the investor invests is Rs.13.13 per unit. The investor receives 10000/13.13 = 761.6146 units. (Note that units are allotted to an investor based on the amount invested and not on the basis of no. of units purchased).

Let us now assume that the same investor decides to redeem his 761.6146 units. Let us also assume that the NAV is Rs 15/- and the exit load is 0.50%. Therefore the redemption price per unit works out to Rs. 14.925. The investor therefore receives 761.6146 x 14.925 = Rs.11367.10

What is Sales/Purchase price?

Sales/Purchase price is the price paid to purchase a unit of the fund. If the fund has no entry load, then the sales price is the same as the NAV. If the fund levies an entry load, then the sales price would be higher than the NAV to the extent of the entry load levied.

What is redemption price??

Redemption price is the price received on selling units of open-ended scheme. If the fund does not levy an exit load, the redemption price will be same as the NAV. The redemption price will be lower than the NAV in case the fund levies an exit load.

What is repurchase price?

Repurchase price is the price at which a close-ended scheme repurchases its units. Repurchase can either be at NAV or can have an exit load.

What is a Switch??

Some Mutual Funds provide the investor with an option to shift his investment from one scheme to another within that fund. For this option the fund may levy a switching fee. Switching allows the Investor to alter the allocation of their investment among the schemes in order to meet their changed investment needs, risk profiles or changing circumstances during their lifetime.

Is there any minimum lock-in period for my units?

There is no lock-in period in the case of open-ended funds. However in the case of tax saving funds a minimum lock-in period is applicable. The lock-in period in case of Tax Savings Schemes (ELSS) is 3Yrs.

What are the factors that influence the performance of Mutual Funds??

The performances of Mutual funds are influenced by the performance of the stock market as well as the economy as a whole. Equity Funds are influenced to a large extent by the stock market. The stock market in turn is influenced by the performance of the companies as well as the economy as a whole. The performance of the sector funds depends to a large extent on the companies within that sector. Bond-funds are influenced by interest rates and credit quality. As interest rates rise, bond prices fall, and vice versa. Similarly, bond funds with higher credit ratings are less influenced by changes in the economy.

As a new investor how do I select a particular scheme?

Choice of any scheme would depend to a large extent on the investor preferences. For an investor willing to undertake risks, equity funds would be the most suitable as they offer the maximum returns. Debt funds are suited for those investors who prefer regular income and safety. Gilt funds are best suited for the medium to long-term investors who are averse to risk. Balanced funds are ideal for medium- to long-term investors willing to take moderate risks. Liquid funds are ideal for Corporates, institutional investors and business houses who invest their funds for very short periods. Tax Saving Funds are ideal for those investors who want to avail tax benefits. An important aspect while selecting a particular scheme is the duration of the investment. Depending on your time horizon you can select a particular scheme. Besides all this, factors like promoter's image, objective of the fund and returns given by the funds on different schemes should also be taken into account while selecting a particular scheme.

Tax Benefit for Mutual Fund Investments: ELSS (Equity Linked Saving Schemes) is eligible for Tax Deduction u/s 80C of Income Tax Act. Up to a maximum of Rs.100000/-

Long Term Capital Gain: If the investment tenure in equity fund is more that 1Yr i.e. at least 366 days then it is treated as Long Term Capital Gain. As per the current Income Tax Laws, it is Tax free in the hands of investors.

Short Term Capital Gain: If the investment tenure in equity fund is less than 365 days, then it is treated as Short Term Capital Gain. As per the current Tax Laws, it is taxed @10%.

Stock Exchange

Stock Exchange A stock exchange is a corporation or mutual organization which provides "trading" facilities for stock brokers and traders, to trade stocks and other securities. Stock exchanges also provide facilities for the issue and redemption of securities as well as other financial instruments and capital events including the payment of income and dividends. The securities traded on a stock exchange include: shares issued by companies, unit trusts, derivatives, pooled investment products and bonds. To be able to trade a security on a certain stock exchange, it has to be listed there. Usually there is a central location at least for record keeping, but trade is less and less linked to such a physical place, as modern markets are electronic networks, which gives them advantages of speed and cost of transactions. Trade on an exchange is by members only. The initial offering of stocks to investors is by definition done in the primary market by means of a initial public offer and subsequent trading is done in the secondary market. Supply and demand in stock markets is driven by various factors which, as in all free markets, affect the price of stocks.

Ownership

Stock exchanges originated as mutual organizations, owned by its member stock brokers. There has been a recent trend for demutualization of stock exchanges, where the members sell their shares in an initial public offering. In this way the mutual organization becomes a corporation, with shares that are listed on a stock exchange. Examples are Australian Securities Exchange (1998), Euronext (merged with New York Stock Exchange), NASDAQ (2002), the New York Stock Exchange (2005).

Listing requirements

Listing requirements are the set of conditions imposed by a given stock exchange upon companies that want to be listed on that exchange. Such conditions sometimes include minimum number of shares outstanding, minimum market capitalization, and minimum annual income. For example to list in National Stock Exchange (NSE), paid up equity capital of the company should not be less than Rs. 10 crores and the capitalization of the equity of company should not be less than Rs. 25 crores.

Role of Stock Exchanges

Stock exchanges have multiple roles in the economy as given below:

Raising Capital for Businesses

The Stock Exchange provides companies with the facility to raise capital for expansion through selling shares to the investing public.

Mobilizing savings for investments

When people draw their savings and invest in shares, it leads to a more rational allocation of resources because funds, which could have been consumed, or kept in idle deposits with banks, are mobilized and redirected to promote business activity with benefits for several economic sectors such as agriculture, commerce and industry, resulting in stronger economic growth and higher productivity levels and firms.

Facilitating company growth

Companies view acquisitions as an opportunity to expand product lines, increase distribution channels, hedge against volatility, increase its market share, or acquire other necessary business assets. A takeover bid or a merger agreement through the stock market is one of the simplest and most common ways for a company to grow by acquisition or fusion.

Profit Sharing

Both casual and professional stock investors, through dividends and stock price increases that may result in capital gains, will share in the wealth of profitable businesses. Corporate governance: By having a wide and varied scope of owners, companies generally tend to improve on their management standards and efficiency in order to satisfy the demands of these shareholders and the more stringent rules for public corporations imposed by public stock exchanges and the government. Consequently, it is alleged that public companies (companies that are owned by shareholders who are members of the general public and trade shares on public exchanges) tend to have better management records than privately-held companies (those companies where shares are not publicly traded, often owned by the company founders and/or their families and heirs, or otherwise by a small group of investors).

Creating Investment opportunities for small investors

As opposed to other businesses that require huge capital outlay, investing in shares is open to both the large and small stock investors because a person buys the number of shares they can afford. Therefore the Stock Exchange provides the opportunity for small investors to own shares of the same companies as large investors.

Government capital raising

Governments at various levels may decide to borrow money in order to finance infrastructure projects such as sewage and water treatment works or housing estates by selling another category of securities known as bonds. These bonds can be raised through the Stock Exchange whereby members of the public buy them, thus loaning money to the government. The issuance of such bonds can obviate the need to directly tax the citizens in order to finance development, although by securing such bonds with the full faith and credit of the government instead of with collateral, the result is that the government must tax the citizens or otherwise raise additional funds to make any regular coupon payments and refund the principal when the bonds mature.

Barometer of the Economy

At the stock exchange, share prices rise and fall depending, largely, on market forces. Share prices tend to rise or remain stable when companies and the economy in general show signs of stability and growth. An economic recession, depression, or financial crisis could eventually lead to a stock market crash. Therefore the movement of share prices and in general of the stock indexes can be an indicator of the general trend in the economy.

 

SHORT SELL

Short Selling

Introduction

Traditionally the premise of investing is that you buy an asset and hold it until it rises enough to make a sizable profit, it doesn't get much easier than that. What about the times you come across a stock that you wouldn't invest a penny in, you know that stock is doomed, a sure loser. If you knew that the stock was going to decline wouldn't be nice to be able to profit from its decline. Well you can profit from the decline of a stock and although it sounds easy, there are substantial risks and pitfalls that you need to watch out for. The mechanics of a short sale are somewhat complicated and the investor's risks are high so it is important that you understand the transaction before getting into it.

What does it mean to sell short?

If you sell a stock you don't own, you are selling short. A short seller sells a stock that he believes will fall in value. A short seller does not own the stock before he sells it. Instead, he borrows it from someone who already owns it. Later, the short seller buys back the stock he shorted and returns the stock to close out the loan. If the stock has fallen in price since he sold short, he can buy the stock back for less than he received for selling it. The difference is his profit. Short selling allows investors to profit from falling stock prices. "Buy low, sell high" is the goal of both short selling and purchasing shares ("going long"). A short sale reverses the order of a typical stock purchase: the stock is sold first and bought later. For example, in March 2002, Anil thinks HLL is overvalued. He sells short 100 shares of HLL at Rs. 250 per share. The stock market crashes in April and HLL's share price falls to Rs. 210 per share. Anil buys back 100 shares of HLL and closes out the short sale. Anil gains the difference between the sales proceeds and the purchase costs and pockets Rs. 4,000 from the short sale, excluding transaction costs.

Where Does The Broker Get The Stock?

The short answer is from other customers or the Stock Holding Corp. of India. Short selling is a marginable transaction. In plain English, that means you must open a margin account to sell short. This is the same account you would use if you want to use your stocks as collateral margin to trade in the markets. When you open a margin account, you must sign an agreement with your broker. This agreement says you will maintain a cash margin or pledge your stocks as margin.

How Does Short Sell works?

Unlike a stock purchase transaction, which involves two parties (the buyer and the seller), short selling involves three parties: the original owner, the short seller, and the new buyer. The short seller borrows shares from the original owner, and immediately sells them on the open market to any willing buyer. To finalize ("close out") the short sale transaction, the short seller must then go out into the stock market and buy the same amount of shares as he sold so that the broker can return them to the original owner. To sell short you first must set up a margin account with your broker. A margin account allows you borrow from your brokerage company using the value of your portfolio as collateral. The general rule is that the value of your portfolio must equal at least 50% of the size of the short sale transaction. In other words, If you have Rs. 100,000 worth of stock/cash in your margin account, you can borrow Rs. 200,000 of stock to sell short. To sell a stock short, you must borrow stock. To initiate a short sale, you simply call up your broker and ask to sell short a specific number of shares of your selected stock. Your broker then checks with the Margin Department to see whether the shares are available or can be borrowed. If they are available, the brokerage borrows the shares, sells them in the open market, and puts the proceeds into your margin account. To close out your short sale, you tell your broker that you want to buy the same number of shares that you shorted. The broker will purchase the shares for you using the money in your margin account, return the shares and close out the short sale transaction. While your short sale is outstanding, your account will be charged interest against the value of the short position. If the stock you shorted goes up in price, or the value of the stock you are using as collateral goes down in price, so that your collateral is less than the "maintenance" requirement you will be required to add money to your margin account or buy back the stock that you sold short. You must also pay any dividends issued by the company whose stock you sold short.

Why Sell Short?

The two primary reasons for selling short are opportunism and portfolio protection. Occasionally investors see a stock that they believe has been hyped to a ridiculously high level. They believe that the stock price will fall when reality replaces the hype. A short sale provides the opportunity to profit from the overpriced stock. Short sales are also used to protect an investor's portfolio against a market downturn. By shorting stocks that the investor believes will fall sharply when the market as a whole falls, investors can help insulate the value of their portfolios against sudden market drops. Short selling is also used to protect portfolios against erosion due to a broad market decline. Short sellers make money when stock prices fall. An investor can diversify a long portfolio by adding some short positions. The portfolio will then have positions that make money both when prices rise and when they fall. This reduces the volatility in the portfolio's returns and helps protect the value of the portfolio when prices are falling. By shorting carefully selected stocks that are priced near their peak but that will fall sharply if the market falls, an investor can use the profits from the short sales to help offset losses in his long position to protect the value of his portfolio. Short selling just like long buying is essential for proper functioning of the stock market. It provides essential liquidity which in turn leads to proper price discovery.

Initial Pubic Offer (I.P.O)

Initial Pubic Offer (I.P.O)
Introduction


An initial public offering, or IPO, is the first sale of stock by a company to the public. A company can raise money by issuing either debt or equity. If the company has never issued equity to the public, it's known as an IPO.


Companies fall into two broad categories: Private and Public.


A privately held company has fewer shareholders and its owners don't have to disclose much information about the company. Anybody can go out and incorporate a company: just put in some money, file the right legal documents and follow the reporting rules of your jurisdiction. Most small businesses are privately held.


It usually difficult to buy shares in a private company. One can go to the owners for investing, but they're not obligated to sell anyone anything. Public company, on the other hand, have sold at least a portion of itself to the public and trade on a stock exchange. This is why doing an IPO is also referred to as "going public."


Public companies have thousands of shareholders and are subject to strict rules and regulations. They must have a board of directors and they must report financial information every quarter. In the India, public companies report to the Securities and Exchange Board of India (SEBI). An investor can trade the stocks of a public compnay in the open market, like any other commodity. If one has the cash, he can invest.
Why Go Public?


Going public heps raising cash. Being publicly traded also opens many financial doors:


1. Because of the increased scrutiny, public companies can usually get better rates when they issue debt.


2. As long as there is market demand, a public company can always issue more stock. Thus, mergers and acquisitions are easier to do because stock can be issued as part of the deal.


3. Trading in the open markets means liquidity. This makes it possible to implement things like employee stock ownership plans, which help to attract top talent.


4. Being on a major stock exchange carries a lot of prestige. In the past, only private companies with strong fundamentals could qualify for an IPO and it wasn't easy to get listed.
The Underwriting Process


When a company wants to go public, the first thing it does is hire an investment bank. A company could theoretically sell its shares on its own, but realistically, an investment bank is required. Underwriting is the process of raising money by either debt or equity. You can think of underwriters as middlemen between companies and the investing public.


The company and the investment bank will discuss the amount of money a company will raise, the type of securities to be issued and all the details in the underwriting agreement. The deal can be structured in a variety of ways. For example, in a firm commitment, the underwriter guarantees that a certain amount will be raised by buying the entire offer and then reselling to the public. In a best efforts agreement, however, the underwriter sells securities for the company but doesn't guarantee the amount raised. Also, investment banks are hesitant to shoulder all the risk of an offering. Instead, they form a syndicate of underwriters. One underwriter leads the syndicate and the others sell a part of the issue.


Once all sides agree to a deal, the investment bank puts together a registration statement to be filed with the SEBI. This document contains information about the offering as well as company info such as financial statements, management background, any legal problems, where the money is to be used and insider holdings. The SEBI then requires a cooling off period, in which they investigate and make sure all material information has been disclosed. Once the SEBI approves the offering, a date (the effective date) is set when the stock will be offered to the public.


During the cooling off period the underwriter puts together what is known as the red herring. This is an initial prospectus containing all the information about the company except for the offer price and the effective date, which aren't known at that time. With the red herring in hand, the underwriter and company attempt to hype and build up interest for the issue. They go on a road show where the big institutional investors are courted.


As the effective date approaches, the underwriter and company sit down and decide on the price. It depends on the company, the success of the road show and, most importantly, current market conditions. Of course, it's in both parties' interest to get as much as possible.


Finally, the securities are sold on the stock market and the money is collected from investors.
No History


It's hard enough to analyze the stock of an established company. An IPO company is even trickier to analyze since there won't be a lot of historical information. The main source of data is the red herring, one must examine this document carefully. Look for the usual information, but also pay special attention to the management team and how they plan to use the funds generated from the IPO.
The Lock-Up Period


If one look at the charts following many IPOs, you'll notice that after a few months the stock takes a steep downturn. This is often because of the lock-up period.


When a company goes public, the underwriters make company officials and employees sign a lock-up agreement. Lock-up agreements are legally binding contracts between the underwriters and insiders of the company, prohibiting them from selling any shares of stock for a specified period of time. The period can range anywhere from three to 24 months. Ninety days is the minimum period but the lock-up specified by the underwriters can last much longer. The problem is, when lockups expire all the insiders are permitted to sell their stock. The result is a rush of people trying to sell their stock to realize their profit. This excess supply can put severe downward pressure on the stock price.
Flipping


Flipping is reselling a hot IPO stock in the first few days to earn a quick profit. This isn't easy to do, and you'll be strongly discouraged by your brokerage. The reason behind this is that companies want long-term investors who hold their stock, not traders.


Of course, institutional investors flip stocks all the time and make big money
. The double standard exists and there is nothing we can do about it because they have the buying power. Because of flipping, it's a good rule not to buy shares of an IPO if you don't get in on the initial offering. Many IPOs that have big gains on the first day will come back to earth as the institutions take their profits.
Avoid the Hype


It's important to understand that underwriters are salesmen. The whole underwriting process is intentionally hyped up to get as much attention as possible. Since IPOs only happen once for each company, they are often presented as "once in a lifetime" opportunities. Of course, some IPOs soar high and keep soaring. But many end up selling below their offering prices within the year. Don't buy a stock only because it's an IPO - do it because it's a good investment.
Conclusion


1. An initial public offering (IPO) is the first sale of stock by a company to the public.


2. Broadly speaking, companies are either private or public. Going public means a company is switching from private ownership to public ownership.


3. Going public raises cash and provides many benefits for a company.


4. The process of underwriting involves raising money from investors by issuing new securities.


5. Companies hire investment banks to underwrite an IPO.


6. The road to an IPO consists mainly of putting together the formal documents for the SEBI and selling the issue to institutional clients.


7. An IPO company is difficult to analyze because there isn't a lot of historical info.


8. Lock-up periods prevent insiders from selling their shares for a certain period of time. The end of the lockup period can put strong downward pressure on a stock.


9. Road shows and red herrings are marketing events meant to get as much attention as possible. Don't get sucked in by the hype.