Stock Investment is very risky in nature. You can do infinite no of analysis before Stock Investment. A set of investors vouch for fundamental analysis and others bet for technical analysis. I discussed it in my post, Fundamental vs Technical Analysis of a stock. The analysis is not right or wrong. It is important, how it is being done and what is the conclusion of an investor. A right analysis with the wrong conclusion is as good as wrong analysis. This post is not related to individual stock analysis as it is different ball game altogether. This post is a continuation of the previous post, 5 Hidden Secrets of Successful Investors to make money. In that post, I discussed important ratios and data points to time the market i.e. to decide entry and exit point. In this post, we will discuss it in detail.
The stock investment is not only about cherry picking individual stocks. An investor also needs to gauge the broad/macro level sentiments. If you are riding against the sentiments then you will bound to lose. An investor should always ride with the tide. Losers swim against the tide. An investor should not be over optimistic. This is especially true for stock investment. I am not saying that stock investment opportunities are not there during adverse times. The point is that as retail investors, i am not competent enough to identify those opportunities. In short, i will enter the stock market when the tide is favorable. When it will turn against then wind up and Quit the market. Lastly, an investment decision should not be based on a single factor but a mix of factors. This post will discuss some of these factors, i found having a strong correlation with the market movement. This is based on a study of successful investors.
Stock Investment – When to Enter and Exit the Stock Market
I strongly believe in four data points i.e. P/E ratio, P/B Ratio & Div Yield of Nifty and FII Trading Activity. When i observed stock investment pattern of successful investors, i concluded that they also believe strongly in these four data points. Maybe i am wrong but it seems to be correct most of the times. I am trying to find out more data points and will share in future. As a thumb rule, you should enter and exit based on following 4 data points and stock selection is next critical step. Once you decided to enter the market then you should shop for good stocks available at that time.
1. P/E Ratio of NIFTY: P/E ratio for stock investment is the ratio of Market Value to Earning Per Share. If the P/E is high that means the stock is trading at higher valuation compared to earning. If P/E is 24 then it means as an investor, i am willing to pay Rs 24 for every 1 Rs earning of the company. In short, it is a premium over earning of the company. I found a very strong correlation between P/E ratio of Nifty with market movement. When the P/E of Nifty cross 24 then probability of downtrend is very high i.e. valuations are very rich. On the other hand, when P/E of Nifty is below 16 then there is a strong possibility of upward movement. Historical data is proof of same. In 2008, the market was trading at P/E of more than 24 (Around 27) and it tumbled. Whereas in Aug 2013 the market slipped below P/E of 16 and there was a reversal in fortunes. For stock investment, my observation on Nifty P/E is as follows:
Greater than 24: SELL & EXIT
Between 20 to 24: Be Cautious and market may turn edgy/volatile
Between 16 to 20: Buy Cautiously in selective stocks
Between 12 to 16: Accumulate
Less than 12: I will sell my house to invest in the Stock Market
Less than 12 P/E is highly unlikely scenario:). As soon as P/E touches 24, the probability of negative returns is very HIGH. By the way, when the market started a downward trend in March’15 then the NIFTY was trading at P/E of 24. Therefore successful investors QUIT the market. Now they are waiting for P/E of 16 to enter. Currently, the NIFTY is trading at P/E of 20. Between P/E of 16 to 20 there will be buying opportunity but trade very cautiously. I am also waiting for the same opportunity and keeping a close eye on the market.
2. P/B Ratio of NIFTY: For stock investment, P/B ratio is another critical factor. In layman terms, Book value of the company is total asset value of the company. In other words, according to the company what is the actual/real value of the company/stock. For example, as a company, my book value is Rs 100 but the stock is trading at Rs 200. Therefore, P/B ratio is 2. In short, the stock is overpriced. According to the principle of value investment, you should invest in a stock when P/B is 0.8 i.e. stock is under priced. Practically, it is not possible at the index level. Current P/B of Nifty is 2.98. Let’s check from index perspective.
Greater than 4.5: SELL & EXIT
Between 3.5 to 4.5: Be Cautious and market may turn edgy/volatile
Between 2.75 to 3.5: Buy Cautiously in selective stocks
Between 2 to 2.75: Accumulate
Less than 2: I will sell my house to invest in the Stock Market
3. Dividend Yield of NIFTY: In my opinion, it is least important among all three ratios for stock investment. The reason being dividend is declared by only Cash Rich companies. The dividend yield is basically Annual Dividend Per Share divided by Share Price. If the stock price is Rs 100 and annual dividend is Rs 2 then Dividend yield is 2%.
Less than 1%: SELL & EXIT
Between 1% to 2%: Be Cautious and market may turn edgy/volatile
Between 2% to 3%: Buy Cautiously in selective stocks
Between 3% to 4%: Accumulate
Above 4%: I will sell my house to invest in the Stock Market
4. FII’s Trading: I think, i discussed this point in most of the posts on the stock market. As a thumb rule, you should enter when FII’s are buying and exit when they start selling. The typical example is FII buying from Aug’13 till Mar’15. The stock market was on fire during this period. When FII’s started selling, the markets turned volatile. Now we are in panic selling phase. The last one is a blood bath. Hope that stage will never come.
Words of Wisdom: The points shared in this post are only broader indicators. It does not guarantee positive returns from stock investment. The individual stock selection is second crucial stage after you decide to enter the market. As i mentioned, any investment decision should not be based on handful criterion. The macroeconomic indicators and drivers of the economy should support your decision. Nothing is impossible in this world and i might be in a situation when i can actually think of selling of my house for stock investment. I wish that day will never come because to reach that point, the market has to shatter the complete faith of retail investors in the equity market.
Copyright © Nitin Bhatia. All Rights Reserved.
Watch My Latest Video: