There are a million ways to make money in the market. You need to find out what works for you and then devote considerable time and efforts to master that thing. What We believe is that the most important decision in any investing is to see that the company which you are buying is likely to survive the next 5-10 years. The second order decision is to also see whether it will thrive or not in the same period.
A lot of people want to do a lot of complicated stuff in order to make money. This includes F&O, Arbitrage, betting on macro, predicting the price of commodities over the next one-two years, including geo-politics in analysis and so on and so forth. Also, they would like to get in just when the tide is turning and ride the rally in every possible sector and get out before it turns. In our opinion, this is an extremely difficult proposition to undertake and we express our inability to master all or any of the above.
Here are some rules which we try to follow when making an investment decision. It does not guarantees outsized performance because market will do what market does. What it does is to allow us to make sense of what we are holding when the market moves against us. We strongly believe that keeping money safe during a bear market or a sideways market like today is much more important than making money during a bull run because when it’s a bull run, everybody will make money regardless of process, skill or temper. This is also loosely correlated as Buffett’s rules for investing- Don’t Lose Money!
1. Buy when nobody’s watching- It’s a fair idea that when not many people are watching the sector or the stock, when not many analysts are coming out with Bullish reports and when the market believes that the stock is dirty, it generally pays to give a close look as to whats cooking? There are certain theories like buying a basket of stocks at 52W lows that go on to outperform the market over the next years but we don’t subscribe to them in toto. We believe that market is a fair umpire of the stock price and most stocks which are beaten black and blue truly deserve so. What we get interested about are certain stocks which for one or the other reason have been severely bruised but have their balance sheets intact, still eke out profits and have a sound management.
Let me give you an example: Warren Buffett famously bought a large part of American Express in 1960s when the stock was marred by some scandal. He also bought GEICO in late 1970s in similar situation. Both the stocks made Buffett who he eventually become.
It, however, is beneficial to be very careful what you buy which is down 70-80% as most companies in this category aren’t American Express but RPower, RCom, Unitech, Dronecharya, etc.
2. Buy for which you don’t have to Pray for:
If, in order to make money, a lot fortuitious events have to unfold, it is most likely to be a dudd investment. I’ll give you an example. A lot of people and a very intellectual sounding Fund Manager is currently bullish on IEX. In a nutshell, the latest CERC decision on market coupling means that IEX’s monopoly on price discovery is over and all exchanges will use the same price, irrespective of where the discovery took place. It logically means that new exchanges have some help in breaking the monopoly of IEX and thus, the stock is down 60% from its 2021 highs.
Now, what these people are praying for is that when the company will move to the Supreme Court, it can get a favorable judgement and then at some stage the price will shoot up on that basis.
I have some pointers on this idea. One, when the government decides to implement a policy and an incumbent challenge it, it is most likely that the government will win the ensuing battle of tranches in the Supreme Court. Even if the government loses, it can always take out an Ordinance route to overturn or to challenge as it has limitless legal remedy available. For e.g., in the Hutch-Vodafone deal, the GoI brought out a retrospective tax amendment law, putting at stake its liberalized image to claim some tax revenue. Also, in India, government behaves depending on political mood and you don’t know when the issue gets raised in the Parliament and there is so much pressure on the government to choke you to death.
Also, even if the government does relent on the market coupling issue, the stock would be depressed for far longer than you have hoped for and more often than naught, you would lose all your hopes and book out on the loss, much before the eventual up move. Nobody can have 5-10% dead capital in their portfolio for that long. Further, even if you hold something like this for three years and then make 50% eventually, the best-case scenario is also not so good that it compensates for the holding period.
Another prime example on this is what I call the land-bank syndrome. Post covid, Raymond’s did extremely well because of one land it had in prime location which when sold, allowed it to raise so much cash that the stock went up 8-10x. Now Raymond’s is in realty business! This has led to a peculiar situation where a lot of people want to look for the next Raymond’s, ABREL being a prime candidate in most theories. This may or may not turn out to be true but when you are praying for a lot of things to go right, they generally don’t in reality!
3. The Cigarette Butt approach doesn’t build wealth- As an investor, you are always looking out for opportunities where you can buy something for 100 and sell for 130 or 150 quickly. The supposed IRR is extremely high and you make a quick buck while also satiating your quest for action. There are a few downsides for this approach:
A. It doesn’t always work in a sideways/bear market when the price wont budge much or all gains are quickly erased. Recently, DAM Capital has been making a lot of moves between 200-300rs where one could have easily bought it near the lower range and exited at around 300 and repeating the process multiple times. What really happens is that neither you are able to buy it at exact 200 and nor does it always go up to 300 so even though you make 20-25% once, the diminishing returns in the next attempts plus brokerage and STT and STCG take away most of your gains. So, it always does look like a great idea to buy a Share India at 150 and sell it at 200 but sometimes when you buy it at 150, it first falls at 130 when your stop losses get hit or you get scared and sell and then in two days it goes circuit up 20% to 220 and you can’t make any money. Thus, while this approach looks phenomenal on CNBC when all the experts claim to execute these trades easily, it doesn’t happen in reality.
B. If you deploy 10% of your portfolio in ten such stocks, you will make money neatly in one or two while you will have dead capital in most others. So, you really can’t make sustainable meaningful returns on this approach. And if you are such a genius that you will only bet in those one or two stocks which will go up and avoid the traps, well, you are either lying or are a crook.
C. You have to constantly look for multiple opportunities because what do you do when you sell DAM at 300 and have some cash? It can’t be that Share India is now trading at 130 on the same day? It is also possible that half your time is spent moving in and out while the other half is left waiting? And, most importantly, what about the times when the range is broken on the upside and you just can’t enter anymore, forgoing 20x returns trying to make a 20%?
4. Avoid Junk-
In a roaring bull market, the junk flies the highest. This is because when a persistent loss-making company ekes out a small profit, it suddenly looks incredibly cheap and a value buy. It happens a lot in high fixed cost companies such as metals, etc. where during years of depressed prices, the less efficient companies are unable to even meet their operational expenses and keep accumulating losses. When the tide turns, they suddenly make abnormal profits and thanks to accumulated losses, pay very little by way of taxation and thus appear very profitable. A good example was Hind Copper which used to languish at 30-40Rs making continuous losses five years ago and with the turning of the tide, its making exceptional profits. Now when I talk about it today, a lot of people will frown upon me as its trading at life time highs with rosy projections into the future but it does sometimes pay to read history!
5. Patience is a Rare Virtue-
It is said that in order to make money, you should have the vision to see, courage to buy and the patience to hold. Out of the three, patience is the rarest commodity. What happens when your portfolio begins to underperform in a sideways market is that you try to question everything you have ben doing. Like for example, when you avoided Metals and see Hind Copper doubling in a year, you do look like a fool holding something which has done nothing for six months. This makes you try multiple things- buying what’s going up, over-trading to book profits early and show some performance, try to own a lot many stocks to find that one multi-bagger and so on ad so forth.
This is where the true test of character happens. What we try to do is to constantly see how the underlying businesses are performing and if the growth and the story for which we had invested remains intact, we generally go through the pain by adding as much as possible and then holding on through the tough times. This also leads to holding a lot more quantity than originally planned but for us, over-concentration is not a risk at all. If we like to own 1000 shares of BSE, we are more than happy to own 5000 such stocks if we have money because we are not in the business of portfolio management, we are in the business of investing. As long as we are reasonably sure that the returns on this stock will be good enough to take care of the intermittent pain, it’s all the more wise to add as much as possible. For someone trying to outperform the index, that will be difficult but we are in the process of making money. It doesn’t matter to us whether we make money by only owning 3 stocks or 30 stocks as long as out first condition of not losing money is intact.
6. Sectoral Views:
All the rules I have outlined above are a filtering criterion. So, firstly, we would like to see a reasonable company likely to survive and make money going forward. For this, we avoid high debt (generally we will only buy zero debt), high operating costs, too much dependence on things we don’t understand- Sugar stocks are oversensitive to state politics, chemicals and metals to geo-politics, etc. Then, we will want to see whether the company fits in our overall thesis of a wealthier India. If the company is in a business of financialization of savings or selling luxury goods or a play enabling the same, we are interested. We generally tend to avoid legacy businesses such as paper, textiles, etc. because they don’t really make good return on capital and hardly pay dividends.
For us, a clean balance sheet demonstrated by a healthy dividend payout is our insurance to fuzzy accounting. You can file false balance sheets but can’t pay dividends on phony profits!
Having filtered through all this, we generally are left with a few sectors- FMCG, IT, Cement, Financials, Consumer Durables, etc. We do prefer FMCG, the large boys such as Colgate, ITC, etc. because they have gone through this kind of slow growth situations before as well and have come out all gun’s blazing. The issue is that people are still trying to buy Asian Paints, HUL or Colgate and thus, despite time wise correction for three-four years, they are trading at 50x PE with 0-5% growth or less! Doesn’t matter how much we would love to own HUL/Asian paints, we would wait for them to go through the seven-year zero return scenario which will help us believe that at least the time correction is over, just like 2002-2008.
The IT sector is in a sense becoming a lot more commoditized where the ultra-small companies are eating out into the margins of the large ones who can’t do small deals for the needle won’t move and the large deals are hard to come by. And the dividend yields are still not so attractive that a mean reversion to price will itself make a killing. We do not intend to own cement or chemicals as of now because there isn’t much juice left as either the sectors have consolidated like in Cement where Adani, UltraTech and Shree control the entire market or in Chemicals where the prices are so high that you can’t make out what is a good entry point. Chemicals are notorious for their extreme swings on both sides and what looked like a great entry can suddenly be down 40% in a month.
We do not also intend to own the Defense, PSU or Heavy Electrical Shares because they don’t fit our thesis and also are incredibly expensive to begin with. Doesn’t matter how you justify their prices and how many defense orders they get, investing based on order book can be very risky for all it takes is one stroke of pen by the government to delay payment or cancel a deal. Even though I subscribe to the make in India push but buying some of these stocks at such elevated levels is very speculative, especially when the entire narrative is played out on order wins! Having worked in the government, I do realize that policies can and will change overnight and once the government stops prioritizing such contracts, the story can unravel very quickly with deep corrections. Part of the story did play out after Budget of 2024! As far as Cummins and Voltamp etc. are concerned, we remain skeptical of their valuations and order books. As an investor, you have no way to verify the order book except trusting the management and as history has shown, it can be very tricky.
7. So, what do we do now?
Having filtered through the entire basket to stocks and identified 100-150 stocks which we potentially would like to own, we try to understand which part of the cycle we are in. So, in our thesis, we are in the sixth year of the Bull Run which began in 2020 and this run has one massive rally on the upside left before it corrects sharply. The decadal heroes- the capital markets, EMS, Defense etc. will all make one really higher high when the skeptics will stop questioning and many of them will find their way into NIFTY 50 with a large weightage, etc. A large part of the market where we do see visibility are expensive- hotels, etc. and it makes no sense to buy them now when it can be bought 40-50% down two-three years later.
We believe that this is the time to preserve capital and avoid any fancy activity. If you can survive with whatever you own currently and can see through this phase with 5-10% down tick at max, you will most likely see 2-3x on portfolio in the next leg of the bull run which will come, sooner rather than later.
For people with concentrated portfolios like ours, it is very likely that 90% of the returns over a three-year period will be made in less than 30 trading days and for the rest of the time, you will either lose 0.5-1% a day or will hardly make any money. Like we said, patience is the rarest virtue.
In the end, it is essential to elongate your horizon to three- five years while making investment decisions. The greatest investors, Buffett included have also hardly able to make 20% plus CAGR on a sustainable basis for a long time and thus, as long as you are not down 20% in a year when the markets are up 20%, you will do reasonably well.
Why did I title this post as Random Investing Thoughts? Simply because doesn’t matter how good the process is and how rigorously you select the stocks and build a portfolio, the returns will be what the market gives you. So, you have to be very humble when the returns are high and avoid despair when you are crushed because by very nature, the game of investing is of randomized outcomes! Its like the game of cricket where doesn’t matter how good a batsman you are, you can still get out on the worst delivery ever bowled. If you, however, control the process, you will, in the long run, will score 10000 runs and that’s all that matters!
Life is all about Compounding! 