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Jul 03, 2013, 11.50 AM IST | Source: Moneycontrol.com

8 ways to avoid losing money in stock market

Milan Parekh of Action Financial Services lists out eight ways to avoid losing money in the stock market. He elaborates on making smart choices to adopt proper strategies and have good market knowledge.

Milan Parekh

CMD, Action Financial Services

More about the Expert...

Milan Parekh
Action Financial Services

Many believe that the stock market is like a money making machine which can turn them into millionaires over a period of time. Well, it is true that a lot of investors have made profits through stock trading. But it was possible because they've made some really smart choices by adopting carefully thought of strategies and good market knowledge.

Such investors are also much disciplined in their approach which is why they’ve reaped the benefits of stock trading.

Also read: Ways to enhance investors participation in equity market

While you’re out there, thinking of a million ways to grow your money, we have charted out a few ways in which you can avoid losing out on it.

Identify the market phase

It is important to know what phase the market is in. For example, figure out if whether it is a trading or a trending phase. Accordingly you can buy/sell breakouts. One can buy weakness and sell strength if it’s a trading phase.

Inability to understand the market sentiment can lead to using the wrong indicators in the wrong market conditions.

Observe and trade

If you’re not as experienced as other traders, it is advisable to observe market patterns during the first half of the trading day. It is driven by emotion, affected by overnight movements and effects of the previous day.

You can take your trading decisions in the second half after observing the trend in the first half as the real trends emerge during later part of the day.

Avoid hurrying up to book profits

It may be tempting to book profits early sometimes. However, avoid doing this as long as the market looks right. By doing this, you could be letting go of substantial trends even when you’ve got a good entry into the market.

If in case you want to secure your profits, you could do it in stages, thereby keeping some scope to take advantage of the rest of the move. The ideal mix should consist of small profits, small losses and big profits.

Never buy a stock based on its past performance

Stock markets moves in phases. If it goes up during one phase, it comes down during another. It actually depends on the performance of the economy. So, if the economy of a country is doing well stock markets go up and vice versa.

A stock that gave certain returns the previous year, may not give similar returns in the current year. The returns will depend not only on the company’s movement, but also on market conditions and state of the economy. Although is always good to know the past performance of a company's stock performance, it is risky to depend completely on it.

Don’t be swayed by unfavourable events

An unfavourable event may not necessarily result in a negative impact on the stock market as well. It actually depends on the nature of the event. You need to analyze the possible impact it could have on the economy overall, and then come to a logical conclusion on the impact it can have on the stock market.

Take the Gujarat earthquake for instance. Everybody had speculated that the earthquake would devastate the country's economy and make the stock market stumble because Gujarat has the largest number of investors.

Interestingly, the market reacted in a different way by recovering all the losses later on. In this case, the event boosted the economy as reconstruction had to be taken up in a big way, giving a boost to cement and construction industry.

Treat every trade as just another trade

Keep in mind that every trade is just another trade and only normal profits should be expected every time. Supernormal profits do occur, perhaps rarely, but should not be expected. Remember, you should increase your risk only when your equity grows enough to service that risk.

Majority doesn't always win

Just how we consult a million people to take the right decision in our personal life, traders should avoid talking to a lot of people during trading hours, to avoid confusion and chaos.

However, it is a good idea to talk to experienced traders after market hours to gain perspective on their views on the market. Say, if the market acts too volatile, it can actually be beneficial if you just back off for a while, even if the majority doesn’t agree.

Diversify, however don't overdo it

Avoid putting all your money in a single stock because if it performs you win, if not, your investment is gone. Diversification helps you under such circumstances where even if 1 or 2 sectors underperform, you could be gaining from the other sectors.

Diversification of investment is a must to mitigate risk. However, do not over-diversify as having too many stocks in a portfolio may not create a significant value for you. There are chances of depriving yourself of the gains from profitable investments.

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