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The market needs you... - Views on News from Equitymaster
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  • Aug 17, 2004

    The market needs you...

    Historically, the stock markets have been known to reward long-term investors. However, the recent transaction tax announcement brought into focus, another kind of a market player, known as speculators and day traders. Broadly, the market participants can be categorized into three different heads based on their investment rationale and horizon. These are:

    Speculators: They are the people investing in a stock based on some 'tips', rumours or hitherto insider information, which is likely to be disseminated in the short-term and is likely to impact the stock prices, in their favour. To put things in perspective, these intra-day players accounted for nearly 77% of the daily volumes in FY04 for leading energy major, Reliance Industries.

    These speculators are known to play the markets and provide the much needed liquidity to the market. Also, it is this section of investors (if allowed to say so), which provides the price-discovery mechanism, as any mis-pricing is thrived upon.

    Long-term Investors: This is the investor class that every company rewards in the long term. Capital is a scarce resource and therefore, has to be put to appropriate use. Most efficient companies would attract this investor class, leading to best utilization of the money invested. It is to be noted that this, unlike debt, is an interest free capital (as companies are not bound to pay interest or dividends). The investors are rewarded in the long-term either through dividend issues, bonuses or capital gains by share price appreciation. Long-term investors are therefore a necessity in a developing economy like ours so as to help companies attain their long-term objectives. However, we would like to repeat, capital, being a scarce resource, has to be put to optimum use and therefore, investors must actually read into the companies (annual reports, press releases and research reports) before investments.

    Arbitrageurs: This section of the investors uses the market inefficiency as a tool for riskless profit. Let us say, stock 'X' is trading at Rs 100 on the Nifty and Rs 98 on the BSE-Sensex. In such a scenario, backed by deliverable securities, an arbitrageur buys the stock on the BSE while going short on the NSE-Nifty at the said prices. As a result, he delivers the stock in NSE clearing (as said earlier arbitrage opportunity exists but has to be backed up by deliverable securities). With too many arbitrageurs, this anomaly soon disappears as every one buys it at the lower price and tries to sell it at a higher rate, thereby pressurizing the markets to correct. This section of investors therefore, keeps a check on the inefficiencies in pricing across the markets.

    These are the various investor classes existing in any stock market. Now, it is up to you to identify which bracket suits you, depending on your risk profile, investment rationale and the returns expected.

    On our part, we would like to bring it to the investors' notice that not every day trader/speculator makes money. Also, the market does not always provide arbitrage opportunities. But yes, the markets do give adequate returns for long-term investors who have taken the trouble to do their homework on the companies they invest in.

    Here, we would like to quote Mark Twain who said "There are two times when one should not speculate: once when he can afford to and once when he cannot"



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