How to buy stocks: Opening a brokerage account in India
Once you have understood what shares and stock markets are, you will want to know how to buy stocks, and sell them and such.
You need a broker. You will never know WHO you buy from or sell to – the stock exchange takes care of those details. What you do is place an “order” to buy or sell shares, and the exchange looks for people on the opposite side willing to deal with you at that price. The order is automatically effected if the prices match.
You can’t deal directly with the exchange, so you use a broker who is registered with the exchange. The broker will place an order on your behalf and the shares will be moved once the order is complete.
You’ll need to understand three things:
Earlier, shares used to be only in paper form – a piece of paper called a share certificate that designated your ownership. When you sold shares, you would sign the back of the share certificate and your broker would then send this paper to the company, which would then approve the transfer, and send the certificate over to the person that bought it. This was called “materialised” trading.
This is obviously cumbersome. So companies and the exchange decided to “dematerialise” shareholding in electronic form so that your shares were no longer on paper, they were held in electronic form in a database with a “depository”. When you sold shares, the depository would reduce your share quantity and the buyer’s depository would increase his. Being “dematerialised”, such depository accounts are called demat accounts .
Currently, almost all trading is mandatorily in demat form. Even if you hold physical share certificates, you must “dematerialise” them before selling them. (How do you do this? You can get a form from your depository with details on the process.)
Once you have a demat account (I will explain how you get one later), you must then use a broker to transact. If you place a “sell” order with the broker you must then give your broker a “depository transfer form”, or a “DP Transfer Form” which will transfer shares from your DP acccount to the buyer’s account – some brokers first transfer it to their account and then on to the buyer’s account.
In most online brokers, you don’t have to do this. Your broker gets you a Demat account, and takes a “power of attorney” to debit and credit that demat account, to save you the paperwork.
Once you sell, the shares are transferred on the Next Day (T+1, mean Trade Day plus one day). You get the money on T+3 – three days after the trade. This can change anytime as rules get better and better. (Earlier there were times when you got the money on T+7!)
What about when you buy shares? You give money to your broker (through a cheque or DD) and he places a buy order for you. The money is given out on T+1, and the shares come into your account on day T+3. Many online brokers now require that you fund your account before you make a purchase.
This sounds simple but in order for you to transact with the broker on a regular basis you must open a “brokerage account”. This confirms, among other things, your brokerage, guidelines to work together and so on.
Brokers may also specify that you keep a certain amount of “margin” money with them to cover for any trades that you may execute. Further the broker may let you sell shares and have the proceeds available in your brokerage account (not sent to you)- this money can then be used to buy more shares. Saves the effort of first him issuing a cheque to you and then you having to give him a cheque.
Dealing with your friendly neighbourhood broker: You walk up to them, fill up a form for a brokerage account and you can start. They will help you open a demat account as well.
Online brokers and demat accounts
Dealing with such “offline” brokers can be cumbersome – firstly you usually need signatures for each trade and then you may have to physically visit the broker for investing and so on. Plus you tend to get a lot of advise which
may not be to your advantage.
You can then get yourself an “online” account – which is offered by a number of brokers now. Typically they bundle a demat and brokerage account together, and allow you to buy and sell online, with no signatures required. When they open an account they make you sign a deal which gives them the right to debit or credit your accounts when you send the messages online.
They will give you a user id and password to log on to their site. SEBI has mandated a password change every 14 days to prevent misuse, so expect to keep changing your password.
You can then log on, check your demat holdings, and buy or sell.
But if how do you ever buy your first share? Where does the money come from?
Transfers from bank accounts
Most online brokerage accounts will let you transfer money online from your bank accounts. Alternatively you can write them a cheque but that will take time to clear and reach your brokerage account.
Transferring from your bank account online requires you to have Internet banking – but most banks today allow that. Brokers will usually have links with many banks – Sharekhan has links with HDFC, Citi, ICICI and so on.
When you sell shares, the money stays in your online brokerage account. The online web site will usually have a method to transfer money back to your bank account – either by sending you a cheque or by directly putting money into your bank account which you linked them with.
Types of transactions
Most brokers will let you transact on the National Stock Exchange (NSE) or the Bombay Stock Exchange (BSE). There are two kinds of transactions if you are an individual:
- Intraday or “margin” trading. you can buy in the morning and sell before closure, or even sell in the morning and buy back in the evening (called “short-selling”). Essentially you close your positions before the end of the day.
- Delivery trading. When you buy stocks that will go into your demat account or sell from your demat account. Short selling is not allowed for delivery trading.
- Futures and options. brokers may permit you to transact F&O online.
- IPOs. You can buy initial public offerings of shares online.
- Mutual Funds. Some brokers are empowered to sell you mutual funds and even redeem your funds for you.
- Commodities. Commodity derivatives are also offered by many brokers.
You will be charged some money to let you buy and sell shares through them; this amount is called brokerage. Most brokers charge you a percentage of the total amount transacted with them – this is typically 0.5% of value, or what is called “50 paisa” – the amount you get charged per Rs. 100 of transactions. You can negotiate and get good deals, based on your transaction volume.
Many online brokers now don’t charge based on volumes – they charge a flat value per trade. That allows you to pay the same brokerage regardless of whether you execute a very large order or a small one.
Brokerage will vary for different types of transactions – intraday, delivery, F&O etc. will have different brokerage structures. You should ensure that your brokerage is agreed upon in written and signed before you transact.
Remember also that service tax is charged on the brokerage you pay.
Both NSE and BSE charge you transaction costs – there’s something called “stamp duty” and “turnover tax”. This again varies for the type of transaction (F&O, intraday, delivery).
You will also pay “Securities Transaction Tax” (STT) when you buy and sell equities. This is fixed by the government but different for different types of transactions.
You will see all these charges on your contract note.
What is a contract note?
To ensure your broker doesn’t cheat you the exchange specifies that every day that you transact, the broker must provide you a note of complete details of how many stocks were bought/sold, what brokerage and contract note numbers exist etc.
The exchanges allow you to verify each trade you do, giving some details that will be available on your contract note. For instance, here’s where you can verify your NSE equity trades.
Here’s how you might be charged (an example).