The Indian stock market has seen massive growth in recent years. As of September 2024, the BSE Sensex has surged to 82,365.77 points, with a monthly increase of 0.61%. Over the last decade, the Nifty large-cap index has delivered an average annual return of 10.9%, outperforming many global markets.
When you invest in the stock market, you purchase publicly traded company shares. When the company does well, you not only benefit from the rise in stock prices but through dividends as well. Regarding companies, the stock market is where they can raise funds from the general public and institutional investors and use it to grow their business.
Let’s shed light on what are the advantages of the stock market.
Benefits of Stock Investment
Potential for High Returns
The Indian stock market has historically delivered impressive returns than other investment options. For example, the BSE Sensex has shown a compounded annual growth rate (CAGR) of around 12% over the past decade. This performance outpaces traditional savings accounts and fixed deposits, which typically offer 4-6% per annum returns.
Not only that several companies have demonstrated significant growth. For example, Adani Enterprises has seen its shares jump by over 1900% in the past five years. Another notable example is HDFC Bank, which, despite near-term concerns, is viewed as a long-term growth story. HDFC’s last five years average return was sslightly over 50%.
The Indian stock market is likely to maintain its positive trend, as both the BSE Sensex and Nifty 50 show consistent growth. India’s GDP is expected to expand at 6.1% annually over the next five years, further boosting the market.
Diversification
Diversification is a risk management approach that disperses investments across various sectors and stocks to reduce exposure to any asset or risk. Investing in multiple industries, geographic regions, and asset classes can restrict the effect of poor performance in any area and maximise the power of stock investment. This approach aims to achieve higher long-term returns and lower the risk of individual holdings.
Diversified portfolios include a mix of stocks, real estate, bonds, and commodities. For example, a common strategy is the 60/40 portfolio, which allocates 60% to stocks and the rest to bonds. Another example is the “All-Weather” portfolio with a mix of stocks, cash, bonds, and commodities to perform well in various economic conditions.
Ownership and Voting Rights
When you own stocks, you hold a piece of the company’s equity, which gives you a share in its profits, typically through dividends. Shareholders also often have the right to vote on significant company decisions, including choosing the board of directors, approving mergers and acquisitions, and shaping critical corporate policies.
These voting rights are usually proportional to the number of shares owned. By exercising voting rights, shareholders can influence the company’s strategic direction and governance.
Liquidity and Flexibility
Liquidity is how easily investors can buy or sell stocks without significantly affecting prices. Stock market trading in shares with high liquidity has many buyers and sellers, which means you can make transactions quickly at stable prices. This differs from investments like real estate or collectables, which can take longer to sell and might need price cuts to find buyers.
Regarding flexibility, the stock market provides a broad range of investment options and strategies. You can select from large-cap, mid-cap, and small-cap stocks with different risk and return profiles.
Additionally, you can invest in stocks of various sectors and industries, such as technology, healthcare, and finance.
Key Features to See While Investing in Any Stock
Profit Margins
Understanding operating and net profit margins is essential for evaluating a company’s efficiency and profitability. The operating profit margin reveals the proportion of revenue remaining after subtracting operating costs, whereas the net profit margin accounts for all expenses, including taxes and interest. Higher profit margins suggest effective cost management and greater profitability from revenue.
Debt Levels
Assessing a company’s debt-to-equity ratio on the stocks app. It helps investors understand its financial leverage and risk. The debt-to-equity ratio compares a company’s total liabilities to its shareholder equity. A higher ratio suggests that the company depends more on debt for financing its operations. This could be risky if it confronts financial troubles.
Price-to-Earnings (PE) Ratio
The PE ratio is computed by dividing a stock’s prevailing market price by its earnings per share (EPS). A high PE ratio might signal the stock is overvalued or investors anticipate strong future growth. On the other hand, a low PE ratio could indicate that the stock is undervalued or that the company is encountering difficulties. This ratio is beneficial for comparing companies in the same industry or evaluating a company’s valuation over time.
Price-to-Book (PB) Ratio
The Price-to-Book (PB) ratio measures a company’s market value relative to its book value. It is computed by dividing the prevailing stock price by the book value per share. A PB ratio below 1.0 typically indicates that a stock is undervalued, while a ratio above 1.0 suggests that the stock is trading at a premium to its book value. Value investors often use the PB ratio to find undervalued stocks offering significant growth potential.
Free Cash Flow
FCF is the cash a company generates after covering its capital expenditures needed to maintain or grow its assets. It measures financial health and the company’s ability to distribute dividends, pay down debt or reinvest in its operations. Companies with robust and increasing FCFs are generally in a stronger position to boost shareholder value through dividends and share buybacks. Conversely, a decline in FCF may indicate potential financial difficulties.
Volatility
Evaluating a stock’s historical volatility is crucial for understanding its risk level. Volatility reflects how much the stock’s price has varied over time. Stocks with high historical volatility have shown considerable price swings, indicating higher risk, while those with low volatility have experienced more stable prices. When assessing a stock’s volatility for derivatives trading, you should factor in your own risk tolerance.
Challenges Faced While Investing in Stock Markets by the Investors
- Market Volatility: Stock prices can fluctuate quickly due to various factors like economic events or company news. This unpredictability can make deciding when to buy or sell challenging, sometimes resulting in losses.
- Emotional Decision-Making: You might find yourself making decisions based on fear or greed. For example, you may sell stocks during a downturn out of panic or chase risky stocks, hoping for quick gains, which can lead to poor outcomes.
- Lack of Knowledge: Understanding the stock charts or market takes time. Without proper knowledge, you could make mistakes, like investing in the wrong stocks or not diversifying your portfolio effectively.
Conclusion
Investing or online stock trading in the stock market via a stock market app has many advantages. You can enjoy high returns, ownership in companies, and the opportunity to diversify your portfolio. Over time, the Indian stock market has delivered better returns than traditional savings options. Further, stock ownership allows you to influence company decisions through voting rights. While challenges like market volatility exist, with careful planning and knowledge, the stock market can be a powerful tool to build wealth over the long term.
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