Do you have guts to stick to your investment strategy?
(Apr 16, 2015)
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In this issue:
» Who is the largest holder of the US treasury?
» Is India ready for full capital account convertibility?
» Did retail investors make money in stocks during FY15?
» ...and more!
15th April 2005. This was the day when I first joined Equitymaster as a junior analyst looking to catch a glimpse into the world of investing. And also in the process help investors such as you make money from equity investing. I completed 10 years yesterday and I must say that the journey has been immensely rewarding.
Now, over all these years, besides researching companies, I have also been reading up on the investment strategies of gurus such as Warren Buffett, Benjamin Graham amongst others. After all, if you are serious about generating wealth from equities, understanding the philosophies of these investing greats is essential in my view. And since I have completed 10 years, what better time than now to share some of their wisdom and my views on the same.
So once again consider these big names in the investing world. Warren Buffett. Benjamin Graham. Philip Fisher. Peter Lynch. On a broader basis, each of them has been able to identify stocks that have gone on to multiply returns on their portfolios. That is the one factor that binds them in common. But have the strategies to accomplish these feats been the same? Not really. Dig a bit deeper and you will find some differences in the way they went about investing in stocks.
For instance, Benjamin Graham followed a more quantitative approach while picking out stocks. He believed in investing in companies, whose stock prices are very distressed or are available at deep discounts to their intrinsic value. Warren Buffett, also believes in the concept of intrinsic value. But he also believes in healthy moats, robust franchises and good management quality. And for very strong companies that display such characteristics, he will not mind paying a fair price for them. Philip Fisher believed mostly in growth stocks and invested in companies that fell in the high growth to moderate growth in their lifecycle. Thus, he did not mind paying a high multiple for the stock except when the valuations were exceptionally high or in the momentum zone.
What worked out for each of them is that they had identified the philosophy that works best for them and stuck to it through various cycles. This we believe is very important. Many a time, during periods of extreme bullishness or bearishness in the stock markets, investors are tempted to abandon their chosen strategy and cash in on the momentum. Let us highlight with a simple example.
Let us say you been doing a lot of reading on Warren Buffett. You are now convinced that buying good quality stocks which are trading at a sufficient discount to intrinsic value is what will help you build a robust portfolio in the long run. For you, the current bull market will really test your mettle. Why? Because most likely you will hardly find any such stocks that are trading at good discounts.
In the meanwhile, your friends and colleagues will have a different investing mindset. They would rather focus on high growth companies and for this they are willing to pay a higher price for those stocks. Nothing wrong with this idea. What more, your friends are also immediately reaping benefits as they see the stock prices rise in tandem with the overall momentum in the markets.
But, it is quite natural for you to get all antsy. Probably, your friends think you are foolish not to jump on the bandwagon. And you could possibly get carried away. You will think that maybe investing in high growth companies at higher valuations is not such a bad idea at all. Isn't that what made Philip Fisher rich? And so rather than sticking to your chosen strategy, you will choose instead to ape your friends. This, we believe, is a recipe for disaster.
If you have decided that buying good quality stocks at cheap valuations is your thing, then you must stick with your conviction. A bull market, of the kind we are seeing now, may not throw up too many opportunities. But that is fine. There is no harm in staying invested in cash. Markets can be extremely bullish during one period, and extremely bearish during the next. So the moment, the prices of some of your favourite stocks correct, that will be the time for you to start putting in your money. This, in the end, will enable you to generate good wealth in the longer run.
Do you change your investment strategy depending on market sentiments and which way the momentum is swinging? Let us know your comments or share your views in the Equitymaster Club.
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As an emerging economy, India's growth has been much higher than its peers in the developed world even if you take the current slowdown into account. As the momentum swings from the West to the East, India no doubt harbours ambitions of being a top global economy. But is only high growth sufficient? According to Jayant Sinha, minister of state for finance and published in the Business Standard, what India will also have to do is adopt capital account convertibility.
Capital account convertibility is the freedom to convert local financial assets into foreign ones at market-determined exchange rates. This leads to free exchange of currency at lower rates. More importantly, it also encourages unrestricted flow of capital.
And that is what makes it a double edged sword. While foreign investment will certainly increase, the flipside is the kind of impact it will have when any crisis unfolds. Because then there will be massive capital outflows that could cripple an economy.
Opinion on India gaining capital account convertibility is divided. Having said that, there is still quite a lot of work the country needs to do before it can even think of full convertibility. Firstly, the government will have to bring its current account and fiscal balances into shape. And secondly, it will have to ensure that this is maintained on a consistent basis throughout.
BSE-Sensex ended FY15 with a gain of 25%. Unlike many times in the past, this time around retail investors have made the most of this rally. As per the data published by NSDL 18 lakh new demat accounts were opened in FY15. However, higher number of accounts is in no way an indication that retail investors have made money. It just indicates an increase in participation.
But a deeper analysis into studying the shareholding patterns of companies indeed indicates that retail investors have benefitted from the current rally. As an example, out of the 170 odd BSE companies that have disclosed their shareholding pattern for 4QFY15, 89 of them have witnessed an increase in individual shareholding. Even the Sensex companies like SBI, Infosys, ONGC, Tata Power etc have witnessed an increase in individual shareholding.
This may indicate that retail investors have come of age. However, the moot point over here is to know what made investors increase their exposure to equities in FY15? Was it their conviction about the rise in Sensex or the fear of being left out as markets were rallying?
Whatever the case, the fact is that retail investors have pocketed gains. And the next question lying before them is whether they should exit and realize those gains or hold on to their positions. Earlier it was a question of fear and now it's a question of greed.
While there is euphoria in India to invest in equities as gauged by the number of demat accounts opened in FY15, there is similar euphoria in Japan to invest in US treasury debt. As seen in today's chart, Japan has surpassed China as the largest holder of the US treasury. Since 2008 China maintained its leadership position in holding the US treasury. However, change in economic trends in both the nations has allowed Japan to pip China. Recently, the growth in the dragon nation has slowed down. As a result, the country has less to invest in the US treasuries. On the other hand, Japan has been printing money excessively in order to fight against deflation. Thus, it has more money to invest which is moving to the US.
One may wonder why excess cash surplus of many countries shifts to the US treasuries only. Why not to any other country's debt? After all, if you are investing in a government security, the default risk is zero. So, investing in Euro or the US dollar denominated security should not make much of a difference. Even the interest rates in the US and Euro-zone are at similar levels. So, what is the advantage of buying US treasuries?
Well, the US dollar is the global currency of sorts. Gold and oil, two critical commodities, are bought and sold in the US dollars. It is also perceived to be a safe haven. This makes the US dollar a natural choice for investment.
However, considering the way the US is managing its economy by running deficits and issuing bonds, the faith in the US dollar has weakened. But can the dollar lose its reserve currency status leading to a mass sell-off in the US debt? Well, our guess is as good as yours.
Top foreign holders of US treasury
The Indian stock markets were trading in the red at the time of writing. While the BSE Sensex was down by 250 points, NSE-Nifty was down by 85 points. However, most Asian equity markets were trading in the green at the time of writing. European stock markets, however, opened mixed today.
"The key to making money in stocks is not to get scared out of them" - Peter Lynch
|| Today's investing mantra
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