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Basics of investing in share market

If you are thinking of investing in share market to earn some profit, the first thing you should remember is that making a profit in share market is not that much easy as it seems. You can easily find people around you, who have done this mistake. But if you have knowledge of market and knows some basics of investing, then it won’t appear a difficult task too.

Some other basics of investing in share market:

Stock market does not take any guarantee of profit. You have to earn by your own (or through a broker but that is another story of another time).

It is not a piece of cake to understand and predict the share market for an average investor.

Share market seems lucrative but not for everyone.

Process of investing in share market:

Experts of share market define a common process that can be useful in hedging both systematic and unsystematic types of risk. You can consider the process and can adopt if you think it can be beneficial for you. Although most of the people follow this process by modifying it according to their risk bearing capacity and preferences:

Basics of investing in share market

 

Step 1:

The first ever task one should do is to decide how much he/she has to invest in owner’s fund and borrower’s fund.

There are several methods to decide that:

Method 1: Deduct your age from 100 and the result is the %age you should invest in owner’s capital.

Method 2: Divide the amount according to given categories:

Invest 75% of your total amount in owner’s fund if your age is 20 – 40.

Invest 50% of your earnings in owner’s fund if your age is 40 – 55.

Invest maximum amount of your hard earned income in borrower’s fund if your age is above 55.

Note: The above methods are not recognized methods, so opt these methods according to your preferences.

Step 2:

After deciding the amount of money one has to invest in owner’s capital and borrower’s fund, the next step is to divide the amount (the amount that one has to invest in owner’s fund) in four categories, as given below:

Reserve: Keep 10% of your amount as reserve, so that you can take the benefit of any future opportunity.

Blue chip stock: Keep 40% of your money for the purpose of investing in blue chip stocks.

Mid cap stock: Keep 30% of the amount for mid cap stocks.

Small cap stock: Keep 20% of owner’s fund to invest in small cap stocks.

Important tips:

You can adjust the %age according to your preferences. These are general categories which are suggested by experts.

Step 3:

The next step one has to follow is to distribute the amount of each category in different industry’s stock. Diversification is very important for the purpose of hedging risk. It will work when one industry passes through a rough patch and helps in keeping your portfolio safer.

Future contract – Meaning

Future contract is a standardized agreement between two parties. This contract allows both the parties (buyer and seller) to buy or sell an underlying asset on a future date at a price agreed today.

The price agreed today simply refers to the date on which both the parties enter into the contract. The underlying assets used in these contracts can be any financial instruments or physical commodities.

It should be noted here that future contracts are special type of forward contracts and possess many common characteristics.

Unlike forward contract, future contracts are traded on exchanges generally known as future exchanges. These contracts are more liquid than the forward contracts as the settlement takes place on daily basis. In the daily basis settlement, investors who incur losses, pay them every day to investors who make profits.

Definition of Forward contract

Forward contract is a customized agreement between two parties (buyer and seller) to buy or sell an underlying asset. The transaction takes place on a future date but at a price agreed today. The term ‘agreed today’ simply refers to the date on which two parties enter into the contract.

It should be noted here that like future contract, forward contract is also one of the important types of derivatives.

Unlike future contracts, forward contracts takes place over the counter. It means that there is not such a financial exchange where forward contracts can be traded. As opposed to future contract, these contracts are settled on a specific date agreed by the parties.

 

Definition of Quick ratio

One of the important liquidity ratios, quick ratio is used to gauge the short term liquid position of a firm. This ratio establishes a relationship between liquid assets and current liabilities of a company. It is done to find out the efficiency of a business enterprise to pay it’s short term debt obligation.

This ratio is different from current ratio in sense that current ratio takes into consideration, all the current assets of a company while making a comparison with current liabilities. On the other hand, amount of inventory and prepaid expenses (which constitute a major part of current assets) are not taken into consideration while calculating this ratio.

Important formulas for calculating quick ratio:

This ratio can be calculated by dividing liquid assets by the amount of current liabilities, as shown below:

Quick ratio

Current liabilities can also be substituted by liquid liabilities. In this case formula will be:

Quick ratio

This ratio is also known as ‘acid test ratio’ or ‘liquid ratio’.

Account – Meaning and types

Meaning of account:

An Account is a record of summarized business transaction for a person, asset or gain/ loss. Each company keeps a record of its business transactions so that at the end of the period it may be able to know its financial position.

For a public limited company in India, it is mandatory to disclose its annual accounts in form of financial statements. It is done for the sake of investors and other stakeholders, who are also interested in relevant information related to expenditure and revenue of the firm.

Every account has two sides known as debit and credit. When a transaction takes place, it either increases debit side or decreases credit side and vice – versa. Here, it should be kept in mind that both sides of an account always remain equal.

 

Types of account:

Accounts can be divided in three parts based upon the nature of transaction:

Types of accountPersonal A/c

Personal accounts are related to any person or organisation.

Example:

Ram a/c, XYZ ltd a/c etc.

Real A/c

These are the accounts which are related to any asset like property, good, furniture etc.

Example:

Cash a/c, bank a/c, etc.

Nominal A/c

Nominal accounts are related to expenses, gains and loss.

Example:

Rent a/c, salaries a/c, discount a/c etc.