These are tough times for equity investors. All the major indices are down by more than 40-50% in last 18 months. Some of the darlings of dalal street are now down by more than 90% e.g. Unitech, Suzlon etc. The fall has been secular across sectors, market cap, Indian or MNC company, new economy or old economy. I am sure each one of us is sitting on huge paper capital losses. What to do in such a situation?
I was talking to one of my friends who holds some prominent Real Estate companies stock he was very upset with the real estate companies like DLF, Unitech, Maytas etc. I suggested why don't you sell their stocks and get out of them. He was more upset with me than he was at Real estate companies accusing me of conspiring to ruin him. On further probing he said that how can I expect to sell him at loss? I was unable to reason with him as he was not willing to listen.
But here are my reasons:
I do not see the market reviving in next few months and one is sitting with huge capital losses. Since there is no chance of recovering this loss in near future why not take advantage of the situation and book some capital losses?
"What sell at a loss? How can I do that I have always been a winner". I hear a lot of you saying the same. But my friend financial transactions specially in Stock Market are not done using emotions you have to be rational.
One can take advantage of the situation even now.
If you have stocks that are below there purchase price you should sell them and book capital losses. Example:
You bought DLF at 600 Rs in September-October 08 and currently it is at a price of say 150 so you have a notional loss of Rs. 450 so instead of sitting on this loss and brooding on it let us sell DLF at 150 and book the loss of Rs 450. So now you have a real loss of Rs 450 as you have sold the stock at a loss. This is where things get interesting and we start our lemonade prepration.
This short term loss of Rs 450 you can carry forward for next 8 years and write it off against any future short term gains in next 8 years. So if you make a short term profit of Rs 450 or less in any of the next 8 years you do not have to pay short term capital gains on this profit instead you can square it off against the current loss and keep the Rs 450 in your pocket. ( Sweet revenge !) Even if you feel that DLF will be back to your purchase price in next few months it still makes sense to sell it and buy again at a lower price to take advantage of capital loss tax laws.
Now consider the situation that you had kept your DLF shares till they get back to atleast your purchase price then you can sell it at 600 whenever that happens ( I bet not even MrKP Singh can tell that). You would have been in a no profit no loss situation.
Now let me explain what would have happened in scenario 3. Suppose you buy some other stock today e.g. Adlabs at Rs 150 today and after 6 months it becomes Rs 600 and you decide to sell it and pocket Rs 450 as profit. But before you start planning your vacation you will have to fork out 15% or Rs 67.5 as tax from this Rs. 450 profit. But if you would have sold your stocks of DLF at loss of Rs 450 the current profit on Adlabs would have been all yours as you would be writing it off against the loss in DLF.
So my reccomendation is that all the stocks that you are holding for less than one year and they are in major losses go ahead and sell them before completion of 1 year from date of purchase so that you can carry forward this loss to next 8 years. I am sure if you are even a decent stock picker you will be making some short term gains in stock market in next 8 years and you will be able to square it off with the same. If you are not confident of making some money in next 8 years in stock market then you should not even be in stock market and stick to PPF or NSCs.
Things to remember: This benefit is avaialble only in case of short term losses and only short term gains can be squared off against the same. Long term capital gains are already tax free ( more than one year holding of stock or equity MF).
So let us go out and make some lemonade.