Are you actually investing or gambling in the stock market?

In May 2020, Sudheer (32, name changed) came to see me. He had watched a video on stock market investment and wanted my guidance on investing. He is a matriculate without any knowledge of finance. I told him that mutual fund SIPs in are best suited for him. He agreed and I suggested two funds for him. I told him that he should have a long time horizon and reiterated that he should not stop the SIPs or book profit for the next 10 years.

He agreed and started the SIPs. After three months, he again came to see me, and said he wanted to trade in stocks since some of his friends were making money in trading. I advised him against trading, and told him that the profits his friends have made would soon disappear and turn into losses. Sudheer was not impressed.

He felt bad about missing out the bull run. In late February this year, he again came to see me, this time with a bit of remorse. He wanted my advice on three low-grade stocks he had bought on tips given by his ‘expert’ friends. When pressed, he confessed that he had to liquidate his well-performing SIPs to take delivery of the three stocks, which had crashed around 30 per cent. In brief, Sudheer lost his hard-earned money in this ferocious bull market.

Sudheer’s is a classic case of poor investment. Unfortunately, his case is not an exception, rather the rule among majority of new traders. Financial history tells us stocks outperform other asset classes by a wide margin in the long run. In India, Sensex (100 in 1979, around 48,000 now in May 2021) has returned an impressive around 15 per cent CAGR in the past 42 years.

Systematic investment has made investors wealthy. But traders have lost money. It is a fact that around 90 per cent of retail traders in stocks and derivatives lose money. This is sad and avoidable.

Lessons from experience

From my 37 years’ experience in the market, I can say the following with conviction:

  • Investing systematically in quality stocks/ mutual funds and waiting patiently will fetch inflation-beating handsome returns in the long run.
  • Investing in stocks directly requires expertise and time, something majority of stock investors don’t have.
  • Trading, except for a miniscule minority, leads to losses.
  • It is very difficult, almost impossible, to time the market.
  • For the vast majority of investors, mutual funds are the best option.

Most retail investors enter the market lured by stories of people making big money. Theoretically, trading can fetch huge returns. But in practice, it is a loss-making proposition. So, investors should invest, not trade.

Trading & Gambling

There is a small minority of smart professional traders. They take positions in stocks/indices and buy and sell options based on knowledge and insights regarding trends, momentum, moving averages and similar technical stuff. They operate with strict stop loss and avoid big losses while making big gains during major trends. Such successful traders are a miniscule minority. What most retail traders do is not smart trading, but gambling in the market, which is buying and selling without any economic/financial logic. Such gamblers will lose their hard-earned money.

So, refrain from gambling and reckless trading. Gambling is injurious to wealth. Systematic investment and patience will be rewarded. Investment in high quality stocks can create phenomenal wealth in the long run. Mutual fund SIPs too can give impressive returns. There are many largecap mutual fund schemes that have delivered 12 to 18 per cent XIIR (extended internal rate of return) in SIPs in the last 10 years. Many well-performing midcap and smallcap schemes have delivered 16 to 24 per cent XIIR during the last decade. Even the average returns are impressive, beating all other asset classes.

To summarise, retail investors who have the expertise and time to invest, can invest directly in the market, focusing on high quality stocks. Others, who form the large majority, should refrain from reckless trading/ gambling and invest through mutual funds, preferably through SIPs.

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