How to Pick Multibaggers through 'Back-of-the-Envelope' Investing - The 5 Minute WrapUp by Equitymaster
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How to Pick Multibaggers through 'Back-of-the-Envelope' Investing

Dec 10, 2015
In this issue:
» Emerging stocks underperform developed peers
» India moves one step closer to much needed real estate regulator
» ...and more!
0.00
Rahul Shah, Co-Head of Research

Did your mom maintain an expense diary during your growing up years? Mine certainly did. Jotting down each expense incurred during the day was a ritual my mom rarely missed.

When I became wise enough to give her process a close scrutiny, I was a little surprised. Most of the time she was quite short on details and had put things in very broad categories. I prodded her to be more precise and organised in her entries. It didn't work. She stuck to her old ways, and chided me for being too methodical. As per her, there is no point being scientific; back-of-the-envelope calculations work just fine.

Is investing a 'back-of-the-envelope' discipline? Or should one aim for precision in numbers? Academicians and of the marketers of Microsoft Excel sheets may want you to believe the latter. However, it is a fact that it is impossible to work out the exact odds in investing. Simple yet effective 'back-of-the-envelope' calculations can actually do wonders for one's investment returns.

Take, for example, our method of digging up promising multibagger stocks. Low valuations and improving profit margins can give you a great head start if you are looking for a multibagger. However, if the stock is to give great returns year after year, its topline has to fire. Strong, consistent topline growth is the most important element in a stock turning 10-, 20-, and even 50-bagger in quick time.

Therefore, if a stock is touted as the next big story, you would do well to check out its topline growth potential.

Finding a multibagger then becomes a matter of finding companies with great topline growth potential stemming from the company's ability to increase prices and volumes. More the latter because prices cannot be raised rapidly beyond a certain point.

Thus, you can increase your odds of investing in a multibagger by looking for companies where volumes are growing briskly - either by increasing market share or entering new markets.

Consider some of the biggest multibaggers of the past decade in the BSE-100 universe - stocks such as Eicher, Lupin, Aurobindo Pharma, IndusInd Bank...

These companies have been able to increase their topline anywhere from five to ten times over the last ten years. This factor alone has led to their explosive earnings growth as well as the expansion of the valuation multiples (to multibagger status).

If you are looking to invest in the next multibagger, you could do well to pay particular attention to stocks with the potential to grow toplines at least 20-25% - mostly through volumes.

This kind of back-of-the-envelope analysis can help reduce the potential universe to a list no more than 50-60 stocks perhaps. You can then further narrow this list based on other factors such as valuations and management quality.

Checking topline growth potential may seem quick and dirty. However, there's no denying its effectiveness. It is a fantastic way to quickly filter out stocks with weak topline prospects, thereby increasing one's odds of finding that rare multibagger.

What do you think? Where else do you find back-of-the-envelope investing useful? Let us know your comments or share your views in the Equitymaster Club.

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2.35 Chart of the day

Global investors have long held a special fascination for emerging markets. These economies and companies grow faster than their developed world peers, so stock market returns are bound to be higher here. At least that has been the general thinking among investors.

But they're in for a disappointment. As today's chart shows, emerging markets have hardly obliged. For three consecutive years now, the MSCI Emerging Markets Index has turned in shoddier returns than the MSCI World Index (the latter representing developed markets).

The biggest spoilers have been a slowing China, the collapse in commodities, and the depreciation of emerging market currencies versus the US dollar.

How will emerging markets look like in 2016? Pointing out to a BofA-ML survey, a Livemint report observes that the biggest risk may be a Chinese recession followed by an emerging markets debt crisis. Nevertheless, for all the 'ifs' and 'buts', these things remain as impossible as ever to predict.

Third year of emerging market underperformance
3.50

We have for long been critics of the real estate sector in India. Prices are too high, builders rampantly resort to shady business practices, construction is invariably much delayed, the list can go on...

Inevitably, through all of this, the biggest losers end up being the consumers.

Luckily, the Union cabinet yesterday approved the much anticipated Real Estate (Regulation and Development) Bill, 2015. With this important nod, the bill will now be presented to Parliament during the ongoing winter session.

It aims to 'protect the interest of consumers, promote fair play in real estate transactions and to ensure timely execution of projects' as per an official statement from the government. It will bring in mandatory disclosure by promoters to customers through registration of real estate projects as well as real estate agents with the Real Estate Regulatory Authority.

The bill's intentions are noble enough. There's no denying that. As always however, what remains to be seen is the final shape and form of its execution. For it is precisely this part that will determine whether it is successful in restoring confidence of consumers in the real estate sector or not.

4.48

The Indian stock markets were trading strong today on the back of sustained buying activity in many index heavyweights. At the time of writing, the BSE-Sensex was trading up by around 165 points. Gains were largely seen in energy and real estate stocks.

4.56 Today's investment mantra

"We try more to profit from always remembering the obvious than from grasping the esoteric." - Charlie Munger

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

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2 Responses to "How to Pick Multibaggers through 'Back-of-the-Envelope' Investing"

Prakash

Dec 10, 2015

Dear Rahul,

I agree with your analysis on the identification process for possible multibaggers.But the bigger question is getting the right and timely information. As a starter where do we easily access volume information. Possibly from the annual report or some brokerage report. Yearly information on volume information is not enough to catch the stock early.The key handicap to indian investors is reliable valuable basic information.Most of the financial sites including equitymaster does not give any volume information.

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Ravi

Dec 10, 2015

Very well said. Simplicity is the key. What you highlighted would be a good starting point before deciding to invest. Prudent advise as always. Hope Equity master maintains such prudence at all times.

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Equitymaster requests your view! Post a comment on "How to Pick Multibaggers through 'Back-of-the-Envelope' Investing". Click here!
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