Equities form an integral part of any investor’s portfolio. Investing in equities can be approached in two ways, long term and short term.
Short-term investing encompasses an approach to investing that involves holding a position for no longer than a year. Typically, such investors that implement a short-term investment strategy will hold each position for a few weeks or months. Short-term investors tend to incorporate and may even prioritize technical factors in their investment strategy. Technical factors bring about sharp changes in the price of a share in the short term. Some of the technical factors are inflation, liquidity, mismatch between demand for and supply of stocks, monsoons, market sentiments and global factors like oil prices. Short -term investors capitalize in these opportunities to generate good returns in their equity portfolio. Their goal is to lock in small gains quickly. In the process, they use lots of small gains for large cumulative returns.
The higher frequency of transactions however comes at a cost. Brokerage, securities transaction tax and service tax are to be paid on every trade and they eat into the short- term investor’s return. Finally, short- term capital gains tax at 10% must be factored in when calculating overall return.
There is a lack of consensus as to what is long term. Some analysts define long term to be four or five years some say its lifetime. The average holding period of investors like Warren Buffet has been 10 -12 years. The statutory minimum the Income Tax Act specifies for the purpose of calculating the tax on long-term capital gains is one year. Currently, there is no tax on long- term capital gains for investments held for more than a year.
Long term investing is based on the premise that in the long run, the intrinsic value of the security will be recognised by the market, thus enabling the value investor to reap the rewards of his patience.
Successful long term investing revolves around identifying stocks of companies with strong management, a good track record, a strong financial base with minimal risk The goal here is to double the money in five or six years. This means the investor is prepared to wait for the payoff getting an occasional dividend income in the interim. Benjamin Graham, John Templeton, Philip Fisher and Warren Buffet have all been hugely successful, long -term investors.
However, the shares of the fundamentally strong companies should be bought at the right price. If a long term investor had bought Infosys, a solid company with an excellent management team, at the peak of the 'IT bubble' in 2000 at maybe Rs 16,000, then he would not have made above normal returns.
So, now we come to the crucial question which strategy, a lay investor should follow? Short term investing is best suited to those who are committed to taking control over their portfolio and pursuing their goals aggressively. All of this requires a willingness to not only take risks, but also have skills to read the market trends with the help of technical indicators or otherwise.
Unfortunately, most of us are neither equipped nor have the time to be short-term investors. However we can take heart from the fact that historically the longer the period of investment in equity, the higher the returns.