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FAQ's on Stock Market - Part 2 Research Team | Posted On Thursday, April 09,2009, 11:02 AM

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FAQ's on Stock Market - Part 2



1. Stock exchange sometimes gives negative returns as well. Should I still enter?

In stock markets at times it has been seen that some big brokers/manipulators manipulate the stocks and create artificial demand and supply with the result that they take the investors for a ride and the poor investor is struck up with junk stocks but this situation is present everywhere in all trades. So, if you are a new investor then it is much better that you go through the mutual fund route where your money is in the hands of professionally qualified people and in the meantime you may read some good books and trade on paper to improve your skills and then enter the stock market on your own.

2. What is Paper Trading?

Paper Trading means you should not trade in the stock market with the real money but whatever you want to buy or sell do it on a paper i.e., write in your diary that you have bought and sold assuming that you have done real trading. You should see that you are able to make profits on paper and only then you should move on real trading.

3. I am a very small investor, so what would be my position in the stock market?

If you are a small investor, you should take a mutual fund route or first do some paper trading and generate profits on paper and then think of directly entering the stock market. If possible make sure that at no point of time you lose more than 10% of your capital.

4. What is Defensive Trading?

Defensive Trading means not taking a course of action that might cause you harm or loss of money. It is a technique that involves knowing what to do and what not to do in order to get into an accident. For example, Investor who takes delivery of good stocks and holds them for long. The defensive investor should not indulge in intraday trading or speculative trading

5. Returns from stock market are tax free or taxable?

Returns from stock market fall under Short Term Capital Gain /Long Term Capital Gain and the rules for them vary from country to country.

6. What is Bear and Bull market?

Bear Market is a term which refers to the declining market where stocks are falling. Bull Market refers to a rising market where stocks are slowly going up. The general investor makes money in the bull market and looses in the bear market. There is a market which is side ways where stocks are more or less stagnant and move in a side way zone.

7. What is Blue Chip stock?

A blue chip stock is a stock of a good, reputed and branded company. The company in question enjoys excellent credibility in the minds of general public and has a good dividend record and history of rewarding its shareholders well.

8. What is the difference between the Intrinsic Value and Market Price?

Theoretically speaking the stock price of a given company reflects everything which is basically the Intrinsic Value of the company. But practically the analyst tries to find the difference between the market price of the company and its actual value. When he finds a company's intrinsic value more than the market price he tries to buy stock and vice-versa.

9. When should I sell my existing shares?

A good strategy to sell a share would be getting out when you have lost 25% of your notional. For example you have brought share worth Rs.1000 and it goes upto Rs.10000. If it starts falling and comes down to Rs.7500, You should sell it.

10. How much target should an investor keep in mind while investing?

Investors should not have any such targets. We can only invest in the realm of possibility and the possibilities change with circumstance and time. So, we must re-evaluate our strategies periodically. For example an investment of Rs.1000 in Infosys has given a return of more than 100 times. So, if an investor had invested with a longer time frame of 5 years then he did get the returns. But we should be very clear of our target as well as the time we are ready to hold.

11. What do you mean by derivatives?

Derivatives are a product which gives its value from another underlying asset which can be equity stock, commodity or any other asset. Here on the Indian stock market, it is the stock in question which is the asset and the future of it is a derivative. The option is also derived from the underlying stock.

12. Why do people trade in derivatives and who are these people?

It is the hedgers, speculators and arbitrageurs who are the most active in the derivative market. The hedgers try to eliminate the risk, speculator try to play on the price movement whereas arbitrageurs play the leverage game difference between the spot and the future market. At the end of the month the future and the underlying stock price try to become the same and this is where the arbitrageurs make a killing without risk.

13. When did derivative trading start in Indian stock market?

Derivative trading started in India in June 2000 and now volumes in derivative market have overtaken the cash market. Rather it has been seen that index futures contract on S and P CNX Nifty and BSE 30 (Sensex) are very popular as the small investor can also hatch his position easily. The trading in index option started in June 2001 and trading in option on individual stock started in July 2001.

14. Can I buy six months ahead / future contract or an option?

On Indian stock market one can buy a maximum of 3 months contract. You can have a one month, two months and three months futures and not more than that. On the last Thursday of the month, the contract expires and a new contract starts from the next working day. If the last Thursday is a holiday then the previous working day is treated as the last day.

15. What is the lot size for various contracts?

The lot sizes for various contract varies and at the moment they are as per the NSE as on 6th February, 2005

16. What do you suggest me, whether I should go for future trading or option trading and what is the difference?

Future trading in the Indian stock market refers to the buying and selling of the stock futures of individual stock. If you have to buy one future of nifty (one future of nifty equals 200 nifty), you need to pay a margin between 25-50% depending upon the volatility of the index. For example, if you wish to buy future of Satyam Computers, then you need to buy 1200 Satyam's, which is one lot size of Satyam future. Any price movement (up or down) you either get profit or loss. The profits and losses are unlimited while buying or selling a future. When we buy an option i.e., a call or a put we only need to pay the premium and that is the only risk we have. Options can be onthe index as well as the stocks. Stock options are option on individual index. The buyer of an option pays the premium to the seller of the option. The buyer of an optionis under no obligation to exercise his option but the seller of the option has to fulfill his obligation if the buyer demands For example, If you buy an index call option at a premium of Rs.20, then at the end of the month the maximum loss you can have is Rs.20, but the profit is unlimited where as the seller of the option will have maximum profit of Rs.20 only and his loss is unlimited. The seller of an option is also called an option writer. New investors and traders should not indulge in option writing or selling. An investor can buy a put option if he thinks that the market is going to go down. Hehas to pay only premium to the writer. The investors buy the put option which gives the investor the right but not the obligation to sell the stock at a later stage. The date specified at which the option has to mature is called the expiration date i.e., the last Thursday of the month. The price specified in the option contract is called the strike price. So a new investor is advised to buy call or put options rather than selling options or trading in future.

17. What is the difference between American options and European options in the India context?

The index options are mainly European in style as they can be exercised only on the expiration date, whereas American options can be exercised at any date before the expiry of an option. Indian stock options are American style.

18. What is the difference between in the money option, at the money option and Out of the money option?

An In the money option is one where the call option has the spot price is greater than the strike price (Spot Price > Strike Price).

At the money option is one where the call option has the spot price equals the strike price (Spot Price = Strike Price).

Out of the money option is one where the call option has the spot price is less than the strike price (Spot Price < Strike Price).

19. What is stock?

Stock is a piece of ownership of a company. When a company needs to acquire extra money to help grow the business, they can sell some or all of the ownership of the company in the form of stocks. So if you were to buy 100% of a company's stock, you would own the whole company. If you own enough stock you also have some decision-making power within the company. Buying stock is a very popular form of investing.

20. What is a share?

A share is one individual piece of stock. It represents a very small percentage of ownership of a company.

21. What is the Dow Jones or the DJIA?

The Dow Jones Industrial Average (often referred to as the "Dow") is an averaged number representing the values of 30 U.S. "blue-chip" stocks. The DJIA is the most well-known market indicator in the world and was created in 1896 by Dow Jones & Company, which is actually a publicly-traded company (DJ) on the New York Stock Exchange (NYSE). They produce many important business publications including The Wall Street Journal, Barron's, and several stock indexes.

22. What is the NASDAQ?

The NASDAQ refers to two different things. First is the largest electronic stock market in the U.S. - the National Association of Securities Dealers Automated Quotation System. Second is the popular stock index called the NASDAQ Composite Index. It measures all domestic and international stocks listed on The NASDAQ, which number over 3,000. It was started in 1971 and is now one of the most important stock indexes.

23. What is the Big Board?

The Big Board is another name for the New York Stock Exchange.

24. What is the S&P 500?

The S&P 500 is a stock index published by Standard & Poor's. It measures 500 U.S. stocks that are supposed to be representative of the overall stock market. It was created in 1957.

25. What determines a stock's price?

There are many factors that play into a stock's price. Overall, though, the price is determined by investors' perceptions of what the stock is worth.

  • Some of the biggest factors include :
  • How big and successful the company is (especially its earnings)
  • Recent company news
  • The state of the U.S. and world economies
  • Whether there is a bull or bear market
  • World events, whether good or bad

26. What is a bull market?

A bull market occurs when stock prices are rising faster than their historical averages. It can last months or even years. It is the opposite of a bear market.

27. What is a bear market?

A bear market occurs when stock prices are falling faster than their historical averages. It can last months or even years. It is the opposite of a bull market.

28. What is a market crash?

The market has "crashed" when stock prices have dropped dramatically. One of the worst crashes was Black Tuesday, which occurred on October 29, 1929 and led to the Great Depression.

29. What is insider trading?

Insider trading occurs (1) when an insider to a company, such as an officer or someone who owns a large percentage of the company, trades the company's stock. This is legal and acceptable, as long as that person is not trading based upon non-public company information.Insider trading also occurs (2) when anyone, including employees, trades using non-public company information. This is considered illegal.

30. What is the Bid price? What is the Ask price?

When you request a quote for a stock, you will receive the bid price and the ask price. The bid price is the best (highest) price you might receive if you sell your stock back to the market. The ask price is the best (lowest) price you might receive if you buy stock from the market. You are not guaranteed to get these prices because the market fluctuates constantly and prices change quickly. If you buy (or sell) shares of a low-volume stock, you can run the risk of affecting the price due to excess demand (or supply).

31. Will somebody always buy my stocks when I sell them?

No. If you try to sell more shares than people are willing to buy or if your price is unreasonable, it may take a long time for them to sell, if at all. However, if you use market orders on medium or high volume stocks you should not have any problems selling them immediately.

32. What is day trading?

Day trading is the process of buying and selling the same stock for one day. Professional day traders commonly trade many times per day.

33. When is the market open?

Indian markets are usually open 9:30am-3:30pm Indian standard Time, except on holidays.

34. How much return can I expect?

Historically, the market has advanced roughly 10% per year. Of course this rate fluctuates constantly. For instance, it may grow up 30% one year, and then fall 20% the next year.

35. How do I know which stocks to buy?

That is a great question. With over 8,000 different stocks to choose from, it can be overwhelming to pick some possible winners. Many people simply buy stocks that are recommended to them by their brokerages, their friends, or experts from TV, magazines, and newspapers. Some people buy stocks from companies they think are big, stable, and successful. This may seem like a safe route, but there are no guarantees. Other people buy stocks based on rumors that the price will rise/fall sharply soon. Many experienced traders watch financial news on TV, read the relevant newspaper stories, and investigate companies that are in the news. They also use "technical indicators," which are numbers or graphs which may help indicate whether a stock will rise, fall, or stay the same. A few people will randomly pick stock symbols by throwing a dart at a newspaper, for instance. She or he plan is usually invested in mutual funds.

36. What are the main ways to make money with stocks?

Buy Low, Sell High (traditional long trading)Sell High, Buy Low (short selling), Dividends, Options trading, Futures.

37. What is short selling?

Short selling is the act of selling stock that you don't own at a high price by borrowing it from a brokerage and then buying it back at a lower price in the future. The hope is that the stock price will drop in value and a profit can be made. This is an advanced technique that has strict requirements and higher risks. Companies are at the same industry. The NASDAQ's average P/E is about 35.

38. What are a stock split and a reverse stock split?

A stock split is an increase in the number of outstanding shares of stock. The price of the stock is immediately adjusted so that the total equity remains the same. A reverse stock split is a decrease in the number of shares. This is usually done to raise the price per share to meet stock exchange requirements or simply to look more "healthy."

39. What is the SEC?

The Securities and Exchange Commission (SEC) is the government agency responsible for protecting investors by monitoring and regulating brokers, dealers, and the stock and bond markets in the U.S. They also make sure publicly-traded companies disclose the required business details to the public.

40. What is a Margin Account?

A margin account allows you to quickly and easily borrow money from your brokerage to purchase additional shares. In other words, it provides leverage for your account. It also allows you to do short selling. Of course interest is charged interest on any borrowed money and the SEC has very strict regulations on these accounts.

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