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marketfirst step to investing in the

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hy should I put my hard earned money into shareswhen I am not sure of a return? If there’s a science toinvesting then why do we call investing a risk? And if

it’s not a risk, then why do people end up losing money from theirinvestments in shares? In this booklet we have tried to answer thequestions you might have about investing in shares. When is invest-ing in shares a risk and when does it become a science? How canyou mitigate risks? And more…

More importantly, we’ve tried to explain some basic concepts thatmost investors take for granted but that are crucial knowledge fora person just entering into the financial jungle. So concepts like riskpremium, dividend, stock split etc have been explained in a simplemanner for the benefit of the first-timers. Not only that this handybooklet also seeks to educate the would-be investors in the variousaspects of share trading, both offline and online.

We hope the booklet shall succeed in satisfying your desire forknowledge of the share market as well as in lending you a helpinghand as you take your FIRST STEP into the world of investing.

Tarun ShahCEO—Sharekhan

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1: Why must I invest in shares?Invest to create wealth Shares—the best investment option Benefits of share investing are many

2: How do I buy and sell shares? Invest through primary and secondary markets

A beginner's guide to the stock market Placing an order to buy and sell shares

3: How do I select the right shares? Science of investing in shares Components of fundamental research Learning to judge an IPO

4: How can I minimise risks and maximise returns? Types of risk involved in investing in shares

Reducing risk Become a successful investor

5: How can I benefit from online trading? Using your computer to trade Trading online is convenient Benefits of trading on sharekhan.com

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CONTENTS

9

10 pages of trading jargonPLUS

4 51. Why must I invest in shares?

First Step to Investing in the Share Market

in shares?IN THIS CHAPTER:

Invest to create wealth Shares—the best investment option Benefits of share investing are many

Why must I invest

This booklet is distributed as part of the Sharekhan First Step to Investing Program. It is meant for private circulation ONLY and is not for sale.

First Step to Investing in the Share Market is meant to introduce new investors to thestock market. It is not intended to be taken as the basis for an investment decision!

1. Why must I invest in shares?6 71. Why must I invest in shares?

appreciation in the share prices as forthe dividends their companies pay out.

Tax advantages: shares appear asthe best investment option if youalso consider the unbeatable taxbenefits that they offer. First, thedividend income is tax-free in thehands of investors. Second, you arerequired to pay only a 10% short-term capital gains tax on the profitsmade from investments in shares, ifyou book your profits within a yearof making the purchase. Third, youdon't need to pay any long-termcapital gains tax on the profits ifyou sell the shares after holdingthem for a period of one year. Thecapital gains tax rate is much high-er for other investment instruments:a 30% short-term capital gains tax(assuming that you fall in the 30%tax bracket) and a 10% long-termcapital gains tax.

Easy liquidity: shares can also bemade liquid anytime from anywhere(on sharekhan.com you can sell ashare at the click of a mouse fromanywhere in the world) and theinvestments can be realised in justtwo working days.

Considering the high returns, thetax advantages and the highly liquidnature, shares are the best invest-ment option to create wealth.

Why need I invest?The basic question “Why need Iinvest?” merits attention before wemove on to the bigger question ofwhy one should invest in shares.Simply put, you want to invest inorder to create wealth. Whileinvesting is relatively painless, itsrewards are plentiful. To under-stand why you need to invest, youneed to realise that you lose whenyou just save and do not invest.That is because the value of therupee decreases every year due toinflation. For example, if you ran ahousehold within a budget ofRs100,000 in 2000, to run the samehousehold today (assuming thesame set of expenses) you wouldprobably need Rs125,000--that'sRs25,000 added to your budgetbecause of inflation! Thus you needto generate an additional Rs25,000and that can be possible only by

INVESTING your hard-earnedmoney.

So what are the various invest-ment options?One can invest in various financialinstruments like equities (popularlyreferred to as shares), bank fixeddeposits, National SavingsCertificates etc as well as in gold,real estate et al. Out of these sharesgive best return on investment.

Why shares?Historically shares have outper-formed all the other investmentinstruments and given the maxi-mum returns in the long run (see thetable on page 7). In the twenty-five-year period of 1980-2005 while theother instruments have barely man-aged to generate returns at a ratehigher than the inflation rate(7.10%), on an average shares havegiven returns of about 17% in a yearand that does not even take intoaccount the dividend income fromthem. Were we to factor in the divi-dend income as well, the shareswould have given even higherreturns during the same period.

Are there any other benefits ofinvesting in shares?Dividend income: investments inshares are attractive as much for the

INFLATION: gen-eral rise in pricesand wagescaused by anincrease in themoney supplyand demand forgoods, andresulting in a fallin the value ofmoney. Inflation occurs when most pricesrise by some degree across the economy.

RETURNS ON DIFFERENTTYPES OF INVESTMENT

BETWEEN1980 AND 2005

17% p.a

Stock Market

9% p.a

Bank Fixed Deposits

5.7% p.a

Gold

7.1% p.a

During this timeInflation grew at

Source: Data compiled from the RBI handbook of Statistics, NCDEX

Disclaimer: Investments in equity related securi-ties involves a high degree of risk. Please read theRisk Disclosure Document as prescribed by Sebi

before investing.

*

* From 1982 to 2005


2. How do I buy and sell shares?

IN THIS CHAPTER: Invest through primary and secondary markets A beginner's guide to the stock market Placing an order to buy/sell shares

shares?How do I buy and sell

8 91. Why must I invest in shares?


OPENING AN ACCOUNT WITH SHAREKHAN

Shares are the best investment option for individual investorsdue to the following benefits:1) Possibility of high returns2) Easy liquidity3) Unbeatable tax benefits4) Income from dividends

2. How do I buy and sell shares?2. How do I buy and sell shares?10 11


DIFFERENCE BETWEEN PRIMARY AND SECONDARY MARKETS

In the primary market securities are issued to the public and the proceeds go to theissuing company. Secondary market is a term used for stock exchanges, wherestocks are bought and sold after they are issued to the public.

What are the different ways inwhich I can invest in shares?There are basically two ways inwhich you can invest in shares:

1) Purchase shares from the primarymarket (ie IPOs)The first time that a company’sshares are issued to the public, it isby a process called the initial publicoffering (IPO). In an IPO the com-pany offloads a certain percentageof its total shares to the public at acertain price.

Most IPOs these days do nothave a fixed offer price. Instead theyfollow a method called the book-building process, where the offerprice is placed in a band or a rangewith the highest and the low-est value (refer to the newspa-per clipping on this page).

The public can bid for theshares at any price in theband specified. Once the bidscome in, the company evalu-ates all the bids and decideson an offer price in thatrange. After the offer price isfixed, the company eitherallots its shares to the peoplewho had applied for itsshares or returns them theirmoney.

2) Trade in the secondary market, iestock exchanges

Once the offer price is fixed andthe shares are issued to the people,stock exchanges facilitate the trad-ing of shares for the general public.Once a stock is listed on anexchange, people can start tradingin its shares. In a stock exchange theexisting shareholders sell theirshares to anyone who is willing tobuy them at a price agreeable toboth parties. Individuals cannot buyor sell shares in a stock exchangedirectly, they have to execute theirtransactions through authorisedmembers of the stock exchange whoare also called stock brokers.

Every IPO highlights the price band as part of thebook-building process

2. How do I buy and sell shares?2. How do I buy and sell shares? 1312


c. RegistrarsThe registrar for each companymaintains records of all the share-owners of the company and thenumber of shares that they own.Whenever an ownership changestakes place, the registrar updatesthe shareholders database.

d. Depositories and their partici-pantsDepositories are organisations thathold shares of investors, on request,in electronic form through a regis-tered depository participant (DP). Itcan be compared with a bank as itholds securities in an account,transfers securities betweenaccounts on the instruction of theaccount holder, facilitates the trans-fer of ownership without theaccount holder needing to handlesecurities and makes the safekeep-ing of shares easy.

The agent through which adepositories interfaces with theinvestor is known as a depositoryparticipant.

You can create a demat accountwith a DP, who will keep anaccount of all the shares you own.This is much like the banking sys-tem, where you just create anaccount and have a passbook which

updates you on the money you ownand the transactions you havemade. In your demat account youown shares in an electronic formatand your account gets updated asyou buy and sell shares.

e. SebiThe regulatory body that governsall stock market transactions is theSecurities and Exchange Board ofIndia. Sebi forms rule and regula-tions that govern transactions insecurities market and that the stockexchanges and other intermediariesfollow all such rules and regulationsset by it and/or the government.

Sebi also looks into investorcomplaints against companies. It isquasi-judicial and can try cases andpass judgments against any marketparticipants. It also looks intomergers and acquisitions of companies.

NSDL/CDSL: the National SecuritiesDepository Ltd (NSDL) and the CentralDepository Securities Ltd (CDSL) are likeBanks in the sense that they maintainrecords of inward/outward and holding ofsecurities much like Banks handle money.DP: depository participants are likebranches of Depositories facilitatingtransactions processing for depositories.

PRIMERHow does the stock marketfunction?In order to understand how thestock market operates, you shouldhave knowledge about the role offollowing institutions / organistions:

a. Stock exchanges,b. Brokers,c. Registrars,d. Depositories and their partici-pants, ande. Securities and Exchange Board ofIndia (Sebi)

a. Stock exchangesA stock exchange is the marketplacewhere companies are listed andwhere the trading happens. Thereare different stock exchanges in thecountry, the pre-dominant being theNational Stock Exchange (NSE)and the Bombay Stock Exchange(BSE).

b. BrokersA stock exchange functions throughits members called brokers. If youwant to buy or sell a share, you con-tact a broker. Each stock exchangehas a limited set of brokers andthese brokers contact each otherusing trading terminals to find outwho is interested in the share youwant to buy or sell. Brokers have

terminals linked to the BSE or theNSE and they directly purchase orsell shares using these terminals.The entire transaction happens elec-tronically or through websites likewww.sharekhan.com.

Brokers may also authorise asub-broker to conduct the transac-tions on behalf of them.

Since brokers are providing aservice they charge you for thesame. Normally this payment is nota flat rate, but a commission of thetransaction value. Brokerages nor-mally range from 0.5% to 1% fordelivery-based transactions andfrom 0.10% to 0.25% for intra-daytransactions.

0.5 %

BROKERAGE RATES ONSHAREKHAN.COM

for delivery-basedtransactions

for intra-day transactions

0.1 %

You can Call 1800-22-7500 or SMS “Share” to 3636 to open a Sharekhan FirstStep Account. As a FirstStep customer you will receive full version of this booklet and other helpful resource like online trading demo CD, easy-to-understand research and investment advice, seminar on the basics of stock market and assistance on how you can go about building a strong portfolio.

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