Before getting into how to make money from buying stocks, it’s important to understand what stocks are and how owning stocks work.
Common stocks are what you get when you place an order with your broker to get some number of shares of a company. These stocks represent ownership in the company and entitles you to voting rights and dividend.
Stocks are also referred to as equities. Stocks are issued by the company to raise money for business.
You will find a number of different participants in the market putting their money for different reasons. Here we are talking in terms of ownership or from an investment point of view to let you know how you as an investor can make money owning common stocks.
Before you begin your stock market journey, it’s important to know how market participants are making money from common stocks.
We have two ways to make profit by owning stocks;
- Through capital appreciation, and
- Dividend issued by the company
Capital Appreciation – Making money from increase in share price
Capital appreciation is the gain you make by holding the stock for long term or by selling it at a higher price. Which means, it’s the difference between your selling price and buying price, if you have decided to sell, otherwise, it will be the difference between the market price and buying price.
For example, if you buy a stock at Rs 200 and sell it after 5 years for Rs 800, your return is 400%.
However, if you choose a wrong stock instead of appreciation, you may have depreciation. For example if you have chosen a wrong stock at Rs 100 and after 5 years it did not perform due to the company’s bad fundamentals, you are forced to sell it at Rs 80, your loss is 20%.
High profile value investors like Benjamin Graham, Charlie Munger and Warren Buffett do not believe in frequent buying and selling of stocks to make money. Instead, they follow a strategy known as buying and holding for the long term.
Through dividend – Regular income from stocks
If the company’s board of directors decide to pay a dividend, you will get your share from the company’s earnings. Company reports its earnings every quarter and year. Its board of directors decide whether or not to pay a dividend.
As an investor you must remember the dividend dates. To get eligible for dividend, you must be the owner of the stock by the record date. It’s the date on which the company looks at its shareholders list to know who all are in the record to get a dividend. If your name is not in the list, you will not get a dividend.
To get eligible for dividend you must follow dividend capture strategy, which automatically lets you eligible for dividend by the record date.
For example, if you are holding 300 shares of a company on the record date which has declared Rs 5 per share as dividend, you get credited Rs 1,500 as dividend to your account.
Instead of paying a dividend, if the company wants to repurchase its shares from the open market, they can do so which will increase the value of the share based on demand and supply of the stock.
Growth companies generally do not pay dividends. They prefer to reinvest the funds generated by the company’s business in it’s future growth such as to build factories, to develop new products, hiring employees, reducing debt from the balance sheet and increasing advertising costs. This helps the company to generate more money in future, which will increase the market value of the company by giving you more capital appreciation.
You can calculate your total return on investment by adding the capital appreciation and dividend per year, then divide the resulting figure with the stock’s purchase price.
For example, let’s assume you have purchased company A’s share at Rs 100 and sold it at Rs 150. As an owner of the company you also received Rs 20 as dividend. In this case, your total return = (capital appreciation + dividend)/purchase price = ((150-100)+20)/100 = 70/100 = 70%
Many people are interested to know how much money they can make trading stocks? It’s a question that does not have any easy answer. The answer is: it depends on you and your skills to understand and follow the market trend. Remember, we have few traders in the market making money and most new or ameture traders are losing. We don’t recommend beginners to get into trading. But, if you want, you can improve your trading skills and understand the market well before getting in. Maybe paper trading can help you to understand how your strategy works in the stock market.
If you have any questions, you can go to the Q&A forum to have access to number of common questions and post your own.