Should one trade frequently?

One of my friends called me asking for a tip, so that he could make some money in the stock market in the short run. The next question I asked him is, how much does he plan to invest and he proudly said Rs.20,000/- to 30,000/- to really make big money, you actually need to invest big and your bets should always go right. There are many more costs involved, which most of us do not consider when we talk of trading frequently in the stock market. Let us look at some of them. For every purchase and sale of a stock you have to pay brokerage costs. Why do you think brokers happily keep giving you tips? The tips are so that you trade and with every trade they make money. Remember that whatever profit you make from that a certain portion has to be paid as brokerage costs, both at the time of purchase and sale. So this brings down your profit. In addition to this brokerage fee, you also have to pay a transaction fee to stock exchange and depository charges, add to this the service tax. Now look at your profit. It would be quite miniscule.

The next thing to consider is taxation. Frequent trading means capital gains. Short term capital gains is taxed at 15%. So from whatever you made after paying the broker, stock exchange and government, the Income tax department would be standing at your doors for their share of 15%. Short term capital gains has to be paid for any stock sold before one year from the date of purchase. But if you had held it for at least a year, there is no capital gains tax. From the tax angle, frequent traders are sometimes treated as doing business of buying and selling of shares, in such a case, if you are in a higher tax bracket, you might not get the benefit of capital gains tax.

You might make some money in the short run by doing frequent trading, but with so much volatility, it is better to be careful. In the past few days you would have seen the sharp volatility in the prices of stocks. So go stop looking for short term gains and make money by investing in good stocks for the long haul.