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Perhaps the Davids Will Always Have an Advantage over the Goliaths

Apr 19, 2016

In this issue:
» Exports fall for the 16th consecutive month!
» Infosys v/s TCS
» ...and more!
Devanshu Sampat, Research analyst

We often come across remarks such as, 'There is always a buying opportunity in the markets. After all, there are over 5,000 listed stocks on the Bombay Stock Exchange.'

Yes...that is true. As of yesterday, there were 5,478 listed companies on the Bombay Stock Exchange (BSE). But turns out only about three-fourths of these are tradable. The balance are suspended.

To make the universe even more manageable, some investors filter by growth parameters, others by long-term earnings quality. Some simply look for low-valued stocks, and others want only the high flyers.

Most institutions use a methodology that requires them to gauge by liquidity as well. The Quantum Long Term Equity Fund, for instance, only includes stocks that have an average daily trading volume in excess of US$1 million.

Liquidity is an important parameter not only when buying but also at the time of selling. Suppose a fund owns shares of a company that has an average daily trading volume of US$ 500,000 per day. The fund holds shares worth US$15 million. Let's assume the stock hits its target price. And now the fund wants to liquidate the position. Simple math tells us it would need thirty days to clear its position. And that too if it were the ONLY seller. The impact of this on the stock price is another matter altogether.

So you get it...liquidity can be a constraint for the big players.

Speaking of big players, here's Warren Buffett on this matter...

  • If I was running $1 million today, or $10 million for that matter, I'd be fully invested. Anyone who says that size does not hurt investment performance is selling. The highest rates of return I've ever achieved were in the 1950s. I killed the Dow. You ought to see the numbers. But I was investing peanuts then. It's a huge structural advantage not to have a lot of money. I think I could make you 50 percent a year on $1 million. No, I know I could. I guarantee that.
  • The universe I can't play in has become more attractive than the universe I can play in. I have to look for elephants. It may be that the elephants are not as attractive as the mosquitoes. But that is the universe I must live in.

But the aam investor lives in a different universe. He does not have such constraints. His universe isn't meddled by the big 'influential' investors. This puts him in the position to lock into very small companies early on.

In last week's issue of The 5 Minute WrapUp, I wrote:

  • There are really tiny companies listed on the stock market. They are high-risk stocks. Our small-cap service will never recommend those. The reason is liquidity. Hidden Treasure has strict liquidity criteria that prevents us from considering these stocks.

A couple of weeks ago, I looked at the average one-year daily liquidity of all the companies listed on the BSE. Turns out only a fifth of the total listed companies had liquidity in excess of Rs 5 million. Even if we relax the limit to Rs 3 million, it would only increase the total investible universe by another 3% (not excluding the suspended companies).

Let's get gutsy. Say I were to bring the limit down to just Rs 1 million per day. This would increase the universe to 29% of the total listed entities.

Going below this figure for us as a research house would be suicidal. In effect, though, it leaves as many as two-thirds of the listed companies (barring the suspended companies) open to the small investors.

It goes without saying...the smaller the company, the more cautious one needs to be. That's simply because the company is yet to achieve scale and prove itself in the market.

On the positive side, this is the universe that's perhaps the most fertile land for finding tomorrow's multi-baggers. Infosys and TCS are safe companies alright but have become elephants that can only trudge along at a slow pace. Not the relatively illiquid space though. With careful due diligence and all the time in the world to wait for the right price, this section of the market could well be a boon for individual investors...

Do you agree that small investors have the upper hand when compared to institutional investors? Let us know your comments or share your views in the Equitymaster Club.

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2.50 Chart of the day

India's exports have fallen for the sixteenth month in a row. In March 2016, India exported US$ 22.71 billion worth of goods, down 5.47% YoY. This depressing news does not come as a surprise. India's abysmal productivity in the manufacturing sector is old news.

But interestingly, this has not caused a problem with the trade deficit. The reason is simple. India is a net commodity importer. The huge fall in commodity prices has kept the quantum of imports in check. Last month, gold imports fell sharply by 80.48% YoY. This has helped to keep India trade deficit at manageable levels. In fact, in FY16 the trade deficit fell by 14% YoY.

But is this a good thing? Can we tolerate falling exports just because the trade deficit is in check due to falling imports? This is an unacceptable situation in our view. Every effort must be made to boost India's exports of manufactured goods. The government's 'Make in India' campaign aims to do just that. However, the progress on this front has been excruciatingly slow. If commodity prices start to rise, there will be trouble on the external front.

Falling Imports Keeps Trade Deficit in Check


Infosys and TCS have both declared their financial results for the fourth quarter and full year FY16. India's two leading IT firms have done well. In FY16, revenues of Infosys and TCS grew by 17.1% and 14.8% respectively. The corresponding figures for the net profit growth were 9.4% and 22.4% respectively.

So how do they stack up? As we stated in yesterday's edition of The 5 Minute WrapUp, the valuation gap between the two has narrowed a lot over the last 1 year. Vishal Sikka has received the credit for the turnaround of Infosys. TCS seems to have found it difficult to maintain the scorching growth of the past few years.

Now, these issues don't concern us too much. As long-term investors, we know that both these companies have bright futures ahead. But that does not mean investors can jump in and buy these stocks at any price. Please do keep in mind that even the best stocks may not provide much upside if they are purchased to sky-high valuations.


22nd April is just around the corner. We will be celebrating our 20th anniversary on this day. It is a time of not only joyous celebration but also of reflection. On this occasion we'd love to hear from you. Do share your experience with Equitymaster or read what some of our valued long time subscribers have to say about us.

Here's what Gaurang Trivedi, an Equitymaster Subscriber and Wealth Alliance member since 2011, from Gujarat, had to say about his experience with Equitymaster:

  • Equitymaster has been my mentor, guide and friend since I started investing in the share market. Its authentic recommendations have really built up my confidence for this company. Though it has been providing its services since last 20 years, it has not lost its perception and accuracy. Just as I trust my parents blindly in my social life, I trust Equitymaster blindly for my financial decisions.
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4:50 Today's Investing Mantra

"To have a true investment, there must be a true margin of safety. And a true margin of safety is one that can be demonstrated by figures, by persuasive reasoning, and by reference to a body of actual experience." - Benjamin Graham

This edition of The 5 Minute WrapUp is authored by Devanshu Sampat (Research Analyst).

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