Why it is Imp to Book Profits in Stock Market?

“Book Profits immediately”, i told my father few days back. He told me that he is a long-term investor in the stock market. I replied that you can have a long-term investment strategy, but the long-term investment is an opportunity loss. There is a difference between Long Term Investment Strategy and Long Term Investment. As i shared in my previous posts on Stocks that It is imp to Book Profits at regular intervals keeping the long term investment strategy intact. The reason for the suggestion to book profits to my father was a news on Greece Crisis. When we invest in the stock market it is very critical that we should be aware of all the factors which impact the movement of stock market. Besides this, we should be aware of factors which impact our stock holding. If we book profits at regular intervals then we can increase our returns manifold. Moreover, most of the stock investors told me that on the net basis they lost in the stock market instead of making any gains. The key reason is a failure to book profits on time.

One of my clients argued that if we trade very frequently then it will impact the taxation of gains. I completely agree that in case of high volumes and high trade frequency, gains will be considered as an Income from Business and Profession instead of Short Term Capital gains. Worldwide, Markets experts are of the opinion that Trading Call in Stock Market should based on the available opportunities rather avoid tax. Though there is no clarity on this point and it depends on the Assessing Officer. To be on safer side, you can always segregate your Stock Holding in 2 parts i.e. Investment and Trading. Now to save tax, my father also lost many opportunities to book profits. I did simple calculations that he lost approx 10% of the total portfolio value as an opportunity loss by being a long-term investor. This calculation was after netting off the possible short term capital gain tax or tax on income from business and profession. In short, to save tax he decided not to book profits and forego 10% of portfolio value.

Why it is Imp to Book Profits in Stock Market?

1. Volatile Stock Markets: One of the key and prime reason to book profits at regular interval is that stock markets are more volatile compared to the past. Imagine the impact of a small economy like Greece on worldwide markets. In past, the investor like my father invested in shares of Reliance and was assured of guaranteed returns without any fear of volatility. On the contrary, the investors can take advantage of this volatility to book profits and maximize their gains. Let’s consider my own example. I bought Reliance at an average price of Rs 940 and sold at Rs 1005 last week. I booked a profit of Rs 65 per share. I re-entered in this counter at Rs 976. If i would have considered myself as a long-term investor and would not have booked profits then opportunity loss for me was Rs 29 per share. Reason to book profits was that Reliance is a part of my long-term investment strategy and i am confident that it will regain the level Rs 1005 after the fall. Another way to look at it is that if i book profits at regular intervals then i can hedge my risk or reduce my average cost.

2. Emotional Investors: In my opinion, this is another major reason that we don’t make money in stock markets. Over a period of time, We fall in love with our shares/stocks so much that we don’t want to sell. The appreciation of stocks, if the investor does not book profits is similar to the appreciation of Real Estate. The way we are emotional towards our property, we are emotional for our stocks. The real estate asset is both difficult to buy and sell. Whereas in case of financial assets like stocks, it is very easy to enter and exit i.e. entry and exit barriers are low. Among all the assets loved by Indians like property, Gold and Stocks if the investor is not emotional towards asset then opportunity to easily book profits exists only in Stock Market. To overcome the emotional dilemma, you can always re-enter the counter at lower levels.

3. Volatile Stocks – No Clear Winner: As i mentioned that markets have become volatile, similarly stocks are also volatile i.e. there are no clear winners. It is another reason to book profits at regular interval. The winner of today might be the laggard of tomorrow. Maybe today, the investor has put a bet on the right horse, but it might be a lame duck after 2 years. In this situation, you have to churn your portfolio fast. A performing sector of today might be a non-performer tomorrow. To share an example, shares of reliance communications once traded above Rs 900 but today they are available at Rs 60. Now i can’t be a long-term investor in this situation. Under my long term investment strategy, i dropped telecom sector and decided to book profits when stop loss was triggered.

4. Average Out: One of the strategies adopted by investors is to average out when the share price drop. In my personal opinion, it is a wrong strategy as such. You never know what is the bottom of this stock. When an investor average out instead of triggering stop loss then he is getting trapped. Stop Loss should be triggered to book profits or protect profits. An Investor should always average out only when the stock price is increasing or the stock retreat from its bottom. The best example is JP Associates. From 80 Rs, it is now on the verge of becoming a penny stock. Many investors adopted the strategy of averaging out lost heavily as the bottom was not known. I bought at Rs 53 and triggered stop loss at Rs 68. It is always advisable to book profits when the stock is in bearish mode as no one knows the bottom.

Concluding Remarks: As i learned from my mentor that Stock Markets can move up or move down, but smart investors make money during both bull and bear market. Stock Market movement does not impact their long-term investment strategy. You should always identify opportunities available in the market. It is not possible to time the market 100%, but you should set both target and stop loss for a stock to survive in the market.

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