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The Secret 'Domino' Formula for Getting Insanely Rich with Stocks

Jun 9, 2016

In this issue:
» The 'Domino Effect' employed by Warren Buffett
» Why is there a spike in inquiries on setting up trusts?
» ...and more!
00:00
Rahul Shah, Co-Head of Research

The magic of the internet and some spare time on a lazy Sunday afternoon can make you do some weird things...

It started when a friend sent me an interesting video, a real visual spectacle...

It featured thousands of dominoes impeccably lined up and then toppled over in perfect harmony. Not a single domino out of place. Not a single domino failing to respond to the stimuli. It was a sight to behold.

Before long, I was buried deep into the world of dominoes. Turns out, people have lined up dominoes not just by the thousands; even the million barrier has been breached. The current world record was set back in 2009 when a whopping 4.5 million dominoes were lined up and toppled.

I won't go into the science behind the spectacle. However, I will point out interesting titbit I discovered in the depths of my Sunday afternoon domino study.

A domino is capable of toppling dominoes heavier and bigger than itself. More precisely, a domino can topple another domino around 1.5x its size and weight. This means that if you line up dominoes such that each is 1.5x bigger and heavier than the previous one...you could topple a skyscraper with the push of your finger.

That's not all. If you start with a regular-sized domino, domino number 57 in the line-up would reach a height roughly equal to the distance between the moon and the earth!

Hidden within this amazing fact is an important investing lesson: If you want to shoot for the moon when it comes to building wealth, you must think of your capital as dominoes toppling over-bigger dominos.

You see, most people get into the world of investing seeking instant results. They expect every stock they invest in to be a multibagger that turns them rich overnight.

True wealth building, however, doesn't work that way. It is more sequential, like dominoes, and not instantaneous. You start with little capital and gradually grow it so that you reach the next level and then the next and so on. Within a few years, you will have a capital so substantial that you will find it hard to believe you started with such a small initial corpus.

This relates to Warren Buffett's cardinal rule of investing:

Rule number one: Never lose money. Rule number two: Don't forget rule number one.

You have to focus on increasing the size of your capital block a wee bit every year. You have to be very careful not to lose big. For if you do, you have to set up your dominos all over again.

Therefore, instead of investing in the next hot tip or the next growth story, focus on companies with strong competitive advantages trading at a discount to their intrinsic values. This way you ensure the downside risk is minimum.

And if you keep capital losses to a minimum, you may just reach the moon.

Do you think the 'Domino' formula is a better way of building wealth over the long term? Let us know your comments or share your views on the Equitymaster club.


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02:37 Chart of the day

Talking of Buffett's cardinal rule of investing, if you want to see how beautifully he has employed the domino effect, you won't have to look beyond today's chart of the day. Starting with just US$ 6,000 at the age of 15, Forbes today pegs his net worth at an astonishing US$ 67 billion!

Here's what his journey has looked like over time:

When you stack your Dominoes right, this is what you get


Two big milestones are when he reached a US$ 1 million by the age of 30 and US$ 1 billion by 56. His current net worth may seem staggering. However, there was nothing instantaneous about it. As you can see, it was sequential like dominoes increasing slightly in size each time.

He started with a small capital and kept growing it at an acceptable rate, ever concerned about rule number 1 and 2. Over time, he has reached a figure so substantial, it's almost unbelievable.

03:37

Remember the changes to dividend taxation made in budget 2016? The finance minister was of the view that persons with relatively higher income can bear a higher tax cost. He therefore announced that in addition to DDT paid by the companies, tax at the rate of 10% of gross amount of dividend will be payable by the recipients, that is, individuals, Hindu Undivided Families and firms receiving dividend in excess of Rs 10 lakh per annum.

But it seems like not only might these changes not have the desired effect, in the process of many trying to find their way around this tax, it is also leading to many distortions in the market.

First, within two days of the announcement, about 70 companies decided to pay dividends right away. And many others followed suit after that. Thus companies began to artificially tweak their dividend payment patterns to avoid the tax.

Now, it seems a new trend is on the anvil. As per reports in the Times of India, many high net worth individuals (HNIs) are showing strong interest in setting up trusts. Recent months have seen a spike in inquiries to set up funds by 25% to 50%. All in the hope that considering the fine print of the announcement, the tax will not applicable to a trust. Not only will this lead to many bigger fry avoiding the tax, it may also lead to a large spike in tax litigation.

Perhaps it's high time that tax laws in India are formed with an eye not only on intent, but also on smooth execution.

04:37

The Indian stock markets were trading weak today on the back of sustained selling activity across most index heavyweights. At the time of writing, the BSE-Sensex was trading down by around 200 points. Losses were largely seen in FMCG and IT stocks.

04:52 Investment mantra of the day

"Understanding both the power of compound interest and the difficulty of getting it is the heart and soul of understanding a lot of things." - Charlie Munger

This edition of The 5 Minute WrapUp is authored by Rahul Shah (Research Analyst).

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