Wary of Markets? Here is How to Increase Your Odds of Winning...

Oct 26, 2015

In this issue:
» Is the recent market rally sustainable?
» Tough road ahead for debt ridden corporates
» A round up on markets
» ....and more!

'Stock markets are not for me. I don't like gambling.'

That was the reaction of my friend when she asked me where to put her money and I suggested stock markets. This was quite a strong statement for someone who had never invested in stocks. But I realised that she is not alone.

There is no dearth of stories about people losing their homes and fortunes playing the markets. We've all heard them, and they're hard to forget. Conservative types, like my friend, 'learn lessons' from them and swear to never be in the same situation.

Yes, they avoid the risks. But they also forego the huge returns and the chance of a better standard of living, an early retirement, and leaving behind a lasting legacy.

Consider this: Despite the rise in activity by retail investors, a huge chunk of the population is cynical about stock markets. As of September 2015, the total number of demat accounts in the country stood at 2.5 crore. So less than 3.4% of the Indian working population has demat accounts. And since multiple demat accounts exist, the ratio could be even lower.

Given the demographics, the working population is going to increase. So it is time to dispel some myths about the stock markets.

The stock market is not a casino...unless you are a gambler

Most of the people who get disappointed by markets are speculators or day traders. The only trigger for them to act is the price levels. They have no strategy, no time frame, no conscious diversification. They are oblivious of the fact that every stock has a business behind it. They hardly know the businesses they are buying and selling. They are glued to the stock tickers like a kid to video game.

For them, trading is an addiction, a thrill...the kind one gets from gambling. Over time, the only people they make rich are their brokers. They lose the game in the long run and blame markets, like a bad workman blames his tools.

But mind you, this is not investing.

Unlike a casino where the odds are always in favour of the House and against players, the same is not true not for stock markets....

Warren Buffett, Philip Fisher, Benjamin Graham... What do they have in common? They were legendary investors. Yes, but why? What made them successful?

It was their indifference to speculations and short-term movements. It was their long-term approach, their diligent analysis. They built in a margin of safety and let the power of compounding work for them. It's not that they never lost money. But over time, with their approach, they let the markets make them rich.

Know where you belong...

While it is easy to lay out differences between long-term investors and speculators, it is more difficult to know where one belongs.

With so much information on stock markets streaming around, people believe their actions are knowledge-driven and not a shot in the dark.

It is difficult to convince those obsessed with domestic rates, election results, Fed policy, China's economy, oil prices, expert opinion, economic data, a friend's opinion, etc that when they act on this data they are not investing, but speculating.

'I never attempt to make money on the stock market. I buy on the assumption that they could close the market the next day and not reopen it for five years.' - Warren Buffett

The difference between the two is simple... Just see if you are willing to invest in a stock if markets close and not open for five years. If the idea makes you nervous, you are perhaps in the wrong place.

Does the idea of investing in markets scare you? If you do participate, are you a speculator or 'investor'? Let us know your comments or share your views in the Equitymaster Club.

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 Chart of the day
Speaking of Indian equities, the last few months have seen some fair amount of volatility in the Indian stock markets. For instance, we witnessed the big crash on Monday in late August. And then there were worried that more correction could be around the corner should the US Fed announce a rate hike.

The rate hike in the US did not happen. And as equities across the world rallied, so did the Sensex. Indeed, as reported in an article in Business Standard, the benchmark BSE Sensex is up 10.4% from this year's low (hit on September 7). This makes it the fourth best performing market in the current rally after the Hong Kong, South Africa and Shanghai markets.

However, it appears that the rally is more a result of expansion in the P/E multiple rather than a rise in corporate earnings. Indeed, the P/E multiple of the Sensex has risen around 12.1% since September 7, while earnings were down 1.6% during the same period.

The next few quarters could see India Inc report improvement in margins as the favourable impact of lower commodity prices begins to take shape. However, for a more sustained pick up in earnings, a mere meltdown in commodity prices is not enough. There will have to be a pick-up in demand, revival in the capex cycle and overall improvement in the Indian economy. For which the government will have to do a lot in terms of implementing key reforms effectively.

Sensex P/E rises considerably in last two months

Besides the slowdown in the Indian economy that has so far had an adverse impact on earnings of India Inc, the other factor that seems to be haunting companies is a rise in debt. We already know that bad debts have been a problem that has been plaguing the Indian banking system for a while now. This in turn highlights how Indian conglomerates are grappling with a large amount of debt. Indeed, as per an article in the Mint andbased on a Credit Suisse report, a lot of the problem is concentrated in 10 large conglomerates that have amassed considerable debt. They account for more than a fourth of all corporate loans. These business groups have seen their debt grow seven times over the past eight years. Why is that?

A lot of these companies took on debt as higher private investment in infrastructure was encouraged. But the tide changed for the worse during the reign of the UPA government. As policy actions became uncertain, a lot of key projects got stalled. In the meantime, a lot of these companies had already committed resources towards these projects. And the situation worsened when the Indian economy slowed down. The article further points out how there is a connection between these heavily indebted industries and the crony capitalism seen in the past decade. This is because a lot of these companies have strong links with the government.

In the meanwhile, these companies have to deal with the more pressing problem of how they are to reduce their debt burden. It is not going to be an easy road.

Indian stock markets had a rather volatile trading session today. While the indices began the day's proceedings on a firm note, profit booking intensified in the subsequent hours and pushed the indices into the red. At the time of writing, the BSE-Sensex was trading lower by 20 points. Losses were largely seen in oil and gas, healthcare and banking stocks. Auto stocks, however, have managed to buck the trend.

 Today's investing mantra
"I insist on a lot of time being spent, almost every day, to just sit and think. That is very uncommon in American business." - Warren Buffett

This edition of The 5 Minute WrapUp is authored by Richa Agarwal (Research Analyst) and Radhika Pandit (Research Analyst).

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Equitymaster requests your view! Post a comment on "Wary of Markets? Here is How to Increase Your Odds of Winning...". Click here!

1 Responses to "Wary of Markets? Here is How to Increase Your Odds of Winning..."

K.G. Rao

Oct 29, 2015

Dear EQM, While u constantly repeat the mantra that one shd done's homework and value a co before investing, there hv been no primers from u to educate the lay investor like me on how to do so. Broad strategies hv often been well laid out, but not the nuts and bolts of how to value a co. Most of us value investors hv had to work out our own methods, but it wld help if u came out with a detailed game plan on valuation for long-term investing, similar to the recent series on Trading and Options etc. U propagate value-investing, but teach short-term Trading. Dont u think it shd be the other way round.

Like (1)
Equitymaster requests your view! Post a comment on "Wary of Markets? Here is How to Increase Your Odds of Winning...". Click here!
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