Saturday, November 7, 2009

Things to avoid in stock markets.

There are a lot of things you should avoid in the stock markets. These are the things which put you in an unfavourable position and increase your chance of losing money.

1) Contra
Contra is a method of buying stock without having to pay for it. The catch is you have to sell your stock after certain number of days, normally is 3 days. If the stock price goes down during the 3 days, you will be force to sell and lose money instantly including commission.

2) Shorting
Shorting is a method where you sell a stock without owning it, and after some time you buy it back. The difference between the buy price and sell price is what you gain or lose.

Why avoid shorting?
  • The maximum gain from shorting a stock can never be or exceed 100% of the share price. For example, you short a stock at $1, and you buy back at the price of $0.005, you will gain $0.995, or 99.5% gain.

  • Using CFD is one of the proper way to short a stock. CFD stands for contract for difference. CFD will incur cost when you borrow shares to short, normally is about 5% or more PA on top of the commission. You also need to pay commission every month if you intend to keep the short for long. If trading is halt for the company, you will be stuck with your short and you still have to pay interest.

  • If the shares are giving out dividends, instead of receiving the dividends, you have to pay out the exact amount of dividends.

3) Leveraging
Leveraging means "buying" of stocks by paying only a certain percentage of the total stock prices. Currently CFD is one of the facilities that provide leveraging. For example, your total stock cost is $10000, if the leveraging is 20%, than you need to pay only $2000. This is very risky. In case, your stock value fall by 50%, your loss will be $5000. In that case, you have to top up additional $3000 to pay for the losses. My advise as a investor is don't ever use leveraging, as it can cause you to become bankrupt if you are not careful. Just imagine, based on my example just now, what if you do not have the additional $3000 to pay for the losses? And also remember that using CFD will require you to pay interest and commission every month as you don't physically own the stock.

These three things are normally used by trader for short term gain. Unless you are one of the top best traders, if not you should avoid these things and invest normally. I always look at long term recurring gain rather than short term gain.


gringo said...

New investors should learn to invest bit by bit with the money you have, rather than contra or short and hoping for a windfall which can easily turn into a nightmare to remember for ever!

Freedom Achiever said...

You are right, don't make investing into gambling in the end.

Have you started your journey towards financial freedom?