Bull markets are the birthplace of several stock market ills. Hearing of your friends and colleagues making big bucks in the stock market is often enough to lure first-timers into the market. And unless you have wise counsel, the oft-repeated story plays out again.

It is tough to sit out of the stock market if you hear your friends and associates constantly having conversations about stocks and the money they are making. Greed is natural. How can you resist after hearing stories of people doubling or tripling their money in short spans and touting stock X or Y as the next multi-bagger? Eventually, you succumb.

When you show interest in joining the party maybe a friend says buy the stocks of ABC & Co at ₹20, saying it will go to ₹50. By the time you get the courage to buy, it is already at ₹50, so you wait. Then it goes to ₹100. You consult your friend and he says “bol rahein hain 200 ho jayega”, not to miss another opportunity, you jump in. The stock is soon at ₹125, and you are enjoying the ride. You ask for more investment advice. This time you are suggested XYZ & Co at ₹300. You dive in with a whisper target of ₹450 in mind. ABC & Co goes to ₹175, XYZ & Co goes to ₹350 and you are on top of the world. You decide to pull in some money from your FD, maybe also take a personal loan and go big on the next recommendation DEF & Co at ₹17. The stock climbs to ₹22 and you are elated. Then, the market starts coming off. ABC & Co slides to ₹140 after hitting a high of ₹175. XYZ & Co slips back from ₹400 to ₹330 and DEF & Co slips to ₹19. You are unfazed. This is most likely just another correction. You wonder whether you should average. You throw in a little more money. The stocks see a rebound and you are convinced you’ve cracked the code. Then, before you know it, the market sees a big slump. You are a little unsettled, but still in profits, so you decide to keep the faith and be patient. Then the sell-off gathers pace and before you know it, ABC & Co is at ₹ 75, XYZ & Co is at ₹250 and DEF & Co is at ₹15. You start getting worried, saying to yourself you’ll call it quits and exit once your buying price comes. It doesn’t. ABC & Co is down to ₹40, XYZ & Co is at ₹125 and DEF & Co is at ₹9. You are now in a place where you have resigned to your fate. The stocks slip further and volumes dry up. You mentally write-off the investment, vowing never to invest in the market again.

Also Read: Why the stock market slide was coming | Bottomline

Stories like these are aplenty and are the outcome of almost every bull and bear cycle. So how can you safeguard your interests as an individual investor? Here are some basic principles to follow.

DON’T BUY THE WHISPER

“Bol rahein hai 200 ho jayega”, “ka rahe hain correction ke baad wapas new highs banaega”, “mere ko to 400 ka target deeya tha, ab keh rahe hain 600 ho jayega”: This is the general market lingo in which the future of your investment rests on the words of some anonymous know all market wizard. In reality, there is no one who knows the future direction of the market. And those driving prices of mid and small-caps are either white collared fund managers or brokers or well-heeled HNIs. The reality of the market is that money drives stock prices and hence those who have it. Unfortunately, in most small caps, which are relatively less liquid, a handful of them can manipulate stock prices, often in collusion with the promoters. These are the pockets where most small investors get lured and are eventually made the scapegoats (left holding the stock when the tide turns).

So, avoid small caps unless you have a great degree of information and knowledge of the company, its promoters and the sector. It is safer to stick to widely owned (with high institutional interest) midcaps and large caps. And do your homework before you invest. Don’t let market whispers influence your buying and selling decisions.

BE WARY OF PRICEY BETS

Stick to the basic knitting of stock market investing. Buy when valuations are low and sell when they are high. Simple as this sounds even some of the most seasoned investors tend to get swayed by emotions. Individuals should develop their own method of investing if investing directly in stocks. Else a rupee-averaging strategy with SIPs in index funds can also work well in the long run.

Also Read: Bottomline | How India has failed investors

A simple way to assess whether a stock is priced attractively or is pricey is to look at the current and forward price-to-earnings multiple with the average of the past. For companies that have seen an inflection in growth, you can even consider using the PEG ratio (which is the PE ratio divided by the growth rate). If the result is >1 the stock is expensive and vice-versa.

For some sectors like financials, the price-to-book value is a better measure. Incidentally, given the current context of the sharp market correction, it pays to look at valuations as growth slows. We found that the BSE-Sensex today trades at 3.96x P/BV compared to its average of 3.31x, which is a near 20% premium. So, the benchmark still isn’t really cheap after the recent fall.

Make sure you assess valuations before you invest.

Growth and valuations should be your key determinants for equity investment.

Happy investing!