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http://trak.in/tags/business/2010/06/09/stock-market-myths/

3 Most Common Myths Amongst Stock Market

Investors

by Viral Dholakia

Many-a-times, stock market investors take their investment calls based on certain prejudiced views

which are often erroneous in nature.

However, such investors are reluctant to stop following the myths they traditionally believe in, unless theyre

explained as to why their views are illogically supported. It is important that investors keep a realistic view of

the market terminologies.

Myth 1: Stocks with High PE ratio are Expensive

The most common myth among the investors is that the Price to Earning Ratio (P/E) is the ultimate analytical

tool to understand the valuations of a companys stock price. Even as the P/E is one of the most importantgauges to base an estimate on the stocks valuations, it is not the sole statistical figure that throws light on

whether to buy a stock or not.

Investors feel that if P/E is high, stock is over-valued and vice versa. However, that is not correct. Just give a

thought When are share prices allotted high P/E valuations?

The market allots a high P/E to a particular scrips valuation when the prospects or fundamentals of that

counter is estimated to be an out-performer in terms of earning potential over a period of time, say, for

example, 1 year forward earnings.

Even as the stock price could be quoting at a higher P/E valuation currently, the market signal could well be thatas proceeds from the higher earnings start trickling in; the valuations of the stock will be rendered with a

sobering effect going forward.

Myth 2: Stocks quoting Below Rs.50/- are Cheap

Yet another most common understanding among new investors is that stocks which quote below a certain price

range, say, for example, stocks quoting below Rs.100 or Rs.50, are cheap in terms of valuations.

Over here, one must remember that a stock price in no way indicates the actual valuation of the companys

stock. The valuations of a stock price are gauged by factors such as P/E, Price to Book Value, Price Earnings to

Growth Ratio (PEG), Earnings per Share (EPS), Return on Assets and Growth Rate among others.

Just imagine, if stocks could have been valued simply by price, people would have never bought stocks which

quote above, say, Rs.1000 or 2000. They would always buy stocks within the range of Rs.50-100/-. Dont you

agree?

Suppose you want to invest Rs.10000 in equity markets. With so much money you can either buy 4 shares ofInfosys Technologies quoting at around Rs.2600 or 525 shares of Hindustan Motors (HM) currently at Rs.19

per share.

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But, if you calculate the percentage rise or fall (lets assume 3% up) in the stock price of both 4 shares of

Infosys and 525 shares of HM you will realize that the net gain in actual terms for both the stocks remainssame from the fluctuation in the stock prices.

Myth 3: Multi-baggers can be Explored only amongst Mid-caps

The term multi-bagger is the most over-rated in the world of stock markets. First of all lets discuss as to whatdoes a multi-bagger mean? The term multi-bagger is used for stock where the price appreciation has been

significantly higher than other stocks.

Usually, we measure the returns from a stock price in terms of percentage price appreciation, for example, 30%

gains or 40% gains. Whereas returns from a multi-bagger stocks are measured in terms of certain number oftimes of the original investment or more than 100% returns, for example, a stock X has appreciated 2 times

or 5 times from the price an investor could have bought.

The most common myth about the term multi-bagger is that most of such stocks could be explored amongst

small or mid-cap stocks with lower base size. However, that is not true. Investors can as well explore suchmulti-baggers amongst fundamentally sound large-cap counters but at a time when the valuations are at their

cheapest.

Take, for example, during the recent global recession, several large-cap jewels had sullied at depressing lows

The stock price of Bajaj Auto had slumped to Rs.315/- as on December 5, 2008 and has surged to a Rs.2200/- ason June 8, 2010, a whooping 7 times price appreciation for its lows.

There are plenty myths among investors in the stock markets. But, Ive mentioned only three of the most

common ones in the mindset of gullible investor.

It would be interesting to come across many other myths from the readers side?