Would you pay more to a 25 or a 35 year old?
(Apr 21, 2015)
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In this issue:
» Why management integrity is non-negotiable
» Is India better prepared for a crisis this time?
» How well has Jan Dhan Yojana promoted financial inclusion?
» The RBI should ensure that savers get a good deal
» ...and more!
Students often go to visit Warren Buffett. And when they do, he often plays a little game on them.
He asks each student to pick a classmate. Not just any classmate, but the classmate they would choose if they could demand a claim on 10% of that classmate's earnings for the rest of their lives. Then he would ask, "Which classmate would you pick and why?"
"Are you going to pick the one with the highest IQ?" asks Buffett. "Are you going to pick the guy who can throw a football the farthest? The one with the highest grades? What qualities will cause you to pick them?"
He follows up with more questions. "Who would you think least likely to succeed? Why?"
He asks the students to take out a sheet of paper and list the positive attributes on the left and the negative ones on the right.
Inevitably, the most useful qualities have nothing to do with IQ, grades or family connections. He then asks the students which of the qualities they are incapable of having and which they are incapable of stopping?
To Buffett, the answer is "none". It's quite simple in the end. Develop qualities from the left and try to stop doing the ones on the right.
And finally he has this piece of solid advice to look for the best partners. "You're looking for three things, generally, in a person," says Buffett. "Intelligence, energy and integrity. And if they don't have the last one, don't even bother with the first two." He then tells them, "Everyone here has the intelligence and energy-you wouldn't be here otherwise. But the integrity is up to you. You weren't born with it; you can't learn it in school."
Buffett and Munger used exactly these filters while evaluating the managers and CEOs of the scores of companies that they have invested in.
The reason I am revisiting this lesson in human resource from the value investing legends is because of a question I was asked by the founder of Equitymaster, Ajit Dayal; some 8 years back. He asked me, "Would you pay more to a 25 or a 35 year old?" Sensing my naive eagerness to reply to his seemingly simple question, he asked me to think hard. "You may definitely want to reward an intelligent and energetic 25 year old that can bring in breakthrough ideas and execute them well. But you should wait to pay him more than a person with far more experience only once the performance matches up."
Doesn't this logic apply in long term investing as well? Think about it. The companies that you invest in for 5-10-20 years are literally partners in your growth. You would want them to be innovative, high growth and high potential ones. But at the same time you would want them to allow you to have a good night's sleep. In other words you should not have to worry about their ability to weather business challenges.
So going by this logic, would you want to pay a lot more for a new high growth loss-making company than a safe, fundamentally solid one with an established track record? Well, the investors in new-age technology business have managed to take to stratospheric levels the valuations of yet to breakeven firms like Flipkart, Snapdeal and Ola Cabs. So much so that the market valuations of these unlisted entities have tipped the market cap of bluechips like M&M, Tata Steel and Indian Hotels. The disruptive digital edge of the new companies is apparently a lot more enticing to the investors than the boring brick and mortar models of the bluechips.
However, what you must not forget is that the bluechip-like market value of the new entities does not make them bluechips. As I learnt from Ajit, you would definitely want to pay a premium for these high potential stocks only once they prove themselves to be worthy of partnering you in your long term portfolio.
How do you go about selecting your 'partners' for your long term wealth building portfolio? Let us know your comments or share your views in the Equitymaster Club.
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At a time when the worries of a currency war are still keeping central bankers on the edge of their seat, Dr Raghuram Rajan seems less worried. The governor of India's central bank, RBI, has over the past few months tactically built up a larger forex kitty. Something that he believes will not just aid India counter rise in global interest rates but also avert a currency crisis, if any. As per Reuters, India's forex reserves stood at US$ 343 bn at the end of March 2015. It was up more than US$ 20 bn from December 2014 levels. And it is up a good 13% YoY. However it is not the same story across emerging markets. Across emerging markets excluding China, reserves were US$ 4.89 trillion at the end of March 2015 compared to US$ 4.94 trillion a year ago.
The divergent trend in forex accumulation is to be blamed for the stagnancy in reserves. Now, capital inflows into emerging markets have slowed compared to pre-crisis years. However, unlike the uptrend in forex reserves in economies such as Korea and India, Russia's political instability has cost it a lot of its reserve surplus. Others such as Indonesia and Turkey are being forced to tolerate currency depreciation because of the trade-off between depleting reserves and currency weakening. So, most of the developing economies except China still remain very vulnerable to a possible currency crisis. The Indian central bank would do well to be on guard.
Prime Minister Modi's Jan Dhan Yojana has been a big success. Its rapid roll out has ensured that almost every Indian household now has access to a bank account. This was a positive step taken by the government to channel India's vast savings pool into the banking sector. The success of the scheme has attracted a lot of interest. The World Bank has conducted a detailed study. Its findings however, have put a bit of a dampener on the enthusiasm.
As seen from the chart, the large increase in bank accounts has not yet translated into usage. Most new account holders are from rural areas. They still do not perceive bank accounts as a means of saving. Hopefully the idea will catch on soon. Surprisingly, subsidy payments are still not being transferred electronically in a big way. However, it must be kept in mind that these low percentages will improve going forward, hopefully in a big way. We believe financial inclusion is a non-negotiable step to be taken on the road to becoming an economic power.
Financial inclusion still a long way off
Long time readers of the 5 Minute WrapUp will be aware of our concern about India's current account deficit (CAD). When India's CAD got out of hand in FY14, the rupee collapsed to nearly 70 to a US dollar and India earned entry into the infamous Fragile Five club. Things have certainly improved since then. Gold import curbs as well as falling crude prices have led some to believe that India may end up with a current account surplus in FY16! We won't be that optimistic. We believe it is important to learn from history.
As per a very interesting article in the Mint, the sharp deterioration in the CAD during FY11-FY13 was largely a result of a jump in household spending. Traditionally, India was a high savings rate country. However, the massive increase in subsidy spending during the UPA years was a leading cause of high inflation. This discouraged savers and they responded by increasing consumption (including Gold). Had they received sufficiently high interest on bank deposits, the situation would have been totally different. The lesson is thus clear. To avoid a repeat of the 2013 crisis, the RBI must encourage savings. The best way is to ensure the interest on bank deposits is higher than inflation.
Meanwhile, the Indian stock markets were trading flat. The BSE-Sensex was trading down 12 points (0.04%) at the time of writing. Banking stocks were leading the gainers while pharma stocks were leading the losers. The midcap and small cap indices were outperforming with gains between 0.2 and 0.3%. Most Asian indices ended in the green. European indices have also opened on a positive note.
"Wide diversification is only required when investors do not understand what they are doing." - Warren Buffett
|| Today's investing mantra
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|This edition of The 5 Minute WrapUp is authored by Tanushree Banerjee.
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