The golden rule of investing - The 5 Minute WrapUp by Equitymaster
Investing in India - 5 Minute WrapUp by Equitymaster
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The golden rule of investing 

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In this issue:
» India Inc borrows more to pay off debt
» Should India open mining?
» Demographic dividend - the wasted growth driver
» Fiscal cliff outlook brightens
» ... and more!


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00:00
 
When you go to a restaurant, you choose your order from a list which is referred to as a menu. Usually the number of options available from which you have to choose is around 50. But imagine if the choice had to be made from over 5,000 options. And that too options where the price changed continuously. Such is the case when it comes to investing in India. With over 5,000 listed stocks an investor has to make a choice of 10 to 20 good stocks. This can become an overwhelming task. What if we were to tell you that this task can actually be made quite easy?

That's right. The way to make this easy is to apply the golden rule of investing devised by none other than the legendary investor Warren Buffett. The rule is to stay within 'your circle of competence'. Circle of competence is nothing but investing in companies or sectors where the investor knows more than an average investor. In simpler words it means invest only in what you know and understand rather than investing in anything and everything. It especially means that one should stay away from sectors or businesses that you do not understand at all. Investing in what you know would mean that investors should know the company's products and services. Understand the company's customers and its competitors.

If you apply this golden rule to the entire list of listed companies, you are bound to come up with only 3 or 4 companies or at the most 10 companies. These are the ones you should concentrate on because these are the ones you would be able to earn higher returns in. If you can tell clearly as to what is driving a company's growth then in all probabilities you will be able to predict its growth as well. And understand what would be the right price to pay for this growth. However, if you step out of your circle of competence then your answer to the same question would be 'I don't know'. Or worse, 'Because so and so told me it will grow at this rate". This is nothing but a recipe for disaster because you would never know if the price that you are paying for the stock is right or wrong.

So there you have it. The golden rule of investing is to stay within your circle of competence. It is important to remember though that this circle is not something that comes in one day or one month. It takes time to build and strengthen. And for that you need patience. But in the long run this circle can help you earn fantastic returns on your investment. It is the recipe of getting rich in the long term.

Do you agree that staying within your circle of competence is the recipe for getting rich in the long term? Share your views or you can also comment on our Facebook page / Google+ page

01:10  Chart of the day
 
Social networking is a trend that has gripped nearly everyone around the world. Sites such as Facebook and Twitter are a part of the daily routine for quite a few of us. These sites are increasingly becoming a medium to express views and ideas online. This is why a lot of companies are increasingly shifting their marketing focus to these sites. But while social networking has become a raging trend, India seems to lag behind its global peers in terms of social networking usage. As per a recent study carried out by Pew Research Centre and reported by The Mint, only 6% of adult Indians use social networking sites. This is lower than the 31% users that China has despite the extreme internet censorship that prevails in the country.

Source: The Mint

01:50
 
Warren Buffett was once asked what kind of managers he was looking for to handle investments at Berkshire Hathaway. As he often does, he came up with a simple yet quite an enlightening answer. He opined that he wants a manager who is not only aware of the risks that lie in plain sight but also the ones that are highly improbable. That's a pretty interesting comment we should say. A business or an asset manager should always conduct operations in a manner that makes the firm resilient to even the most improbable event.

However, few Indian firms have perhaps failed to appreciate the value of the above statement. We are referring to firms that were aggressive issuers of a security called as FCCB. Consequently, the bad consequences are now coming home to roost. As per a leading daily, most of the companies whose FCCBs were due for redemption this year have borrowed afresh to meet their obligations. This means that they would now be paying a higher interest rate than what they paid for their FCCBs. This could worsen their interest coverage at a time when the core operation is not throwing up enough cash on account of the economic slowdown. Clearly, this is yet another example of why it pays to be conservative at all times.

02:30
 
India is a mineral rich country. It has the world's fourth largest coal reserves , the fifth largest iron ore reserves, and significant proportion of reserves of bauxite and several other minerals. Given the large infrastructure deficit the country faces, these resources play a direct role in our economic and social development. But the sad part is that despite having such abundant resources, India has not been able to tap the resources market properly. The country needs to have a transparent mining policy. This will allow Indian corporate community and entrepreneurs to bring in world-class technology and big investments to support the growth in the sector. Exploration of domestic natural resource reserves will unlock India's true potential as an economic powerhouse. It will also help us create better infrastructure, generate employment and bring in latest technology. It can generate significant additional revenues to the government that can be used for the social sector.

03:00
 
There has been a lot of debate on the ongoing economic slowdown in India and the need for reforms. India's fiscal deficit is also set to end up much higher than the target set as per the Union Budget 2012-13. The Finance Minister has been pressing for interest rate easing by the Reserve Bank of India (RBI) so as to boost growth. But the RBI has been reluctant to give in until inflation shows some definite signs of easing.

In short, the bulk of India's economic debate has mostly circled around short to medium term issues. What is seriously lacking is a long term vision for the country. How India will absorb its rising workforce is a very crucial question. But there has been little directed effort towards harnessing India's demographic dividend. India has a growing working population. And this demographic advantage is likely to continue till 2050. It is worthwhile to note that most other major economies would be witnessing a reverse trend during this period.

In order to channelise the young population, India really needs to expand its manufacturing base. Necessary labour law reforms have to be made. There is also a greater need to focus on vocational education to create a skilled workforce. Such long term initiatives are the need of the hour. But the government seems to be concerned only about the immediate challenges before the 2014 general elections. A youth without a job is more likely to take to regressive anti-social activities. As such, there is a huge danger if the rising youth population does not find meaningful employment.

03:40
 
Problems such as recession, high unemployment, rising fiscal deficit have been plaguing the US economy for quite some time now. Not to mention a deadlock between the Democrats and the Republicans on various policy issues as a result of which not much headway has been made on these. And the latest seems to be the looming 'fiscal cliff', a deadly cocktail of hike in taxes and spending cuts unless both agree to thaw the ice and work out some solution. And this could probably happen.

House Speaker John Boehner has offered to accept a tax rate increase for the wealthiest Americans. This in some sense signals a step down from the staunch Republican stance. This means that what the Democrats and the current government need to do is figure out the income levels and the tax rates. With just two weeks remaining before the fiscal cliff kicks in, it is questionable whether both parties will be able to come out with a comprehensive policy by then. But the fact that the Republicans are willing to relent appears to be an encouraging sign. And now, the ball is in the Democrats' court in terms of the steps to be taken next and certain compromises that they will need to make too. Whether this will be the solution to a much longer term problem of the health of the US economy remains to be seen though.

04:15
 
We are not yet out of the woods. At least as far as the economic outlook is concerned. But it seems many sectors in India Inc. are already preparing for a recovery. And what better way to start than raising capacities? Now, while not many want to undertake big ticket capex, manpower expansion is on their mind. After all, it is wise to tap the best talent before there is shortage of it.

As per a recruitment survey published by Firstpost, hiring activities are likely to gather momentum from the first quarter of 2013. And no prizes for guessing the sectors that will lead the pack. As expected, sectors like IT and FMCG will lead the pack. Financial services and auto sectors follow next. But it is encouraging to know that even sectors like realty and telecom, which are badly affected by downturn and regulatory issues, are not shying away. The survey covers around 3,000 employers in India. Hence one can say with a reasonable degree of confidence that the employment scenario in India is finally looking better. We hope this gives the much needed boost to the economy. Fingers crossed.

04:45
 
In the meanwhile Indian equity markets are currently trading on a negative note. At the time of writing, the Sensex was down by 38 points (0.2%). Among the stocks leading the gains were Bharti Airtel and Tata Consultancy Services (TCS). With the exception of China and Japan, other major Asian stock markets have closed the day on a negative note.

04:55  Today's Investing Mantra
"The stock market is filled with individuals who know the price of everything, but the value of nothing." - Philip Fisher
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2 Responses to "The golden rule of investing"

Rakesh Kumar Jajoo

Dec 17, 2012

What you stated is really very correct.The golden rule of investing is to stay within our circle of competence.
Fantastic advise.

Like 

sundaravaradan S

Dec 17, 2012

Hi People,

It is TRUE and well said that we need to Invest in 'Our Circle of Competence' (Over the years).
It is like saying' "If a Human drinks the Heavenly Nectar, he will never Die'! How True!
The only thing is No one...No one.. is competent to know ALL the Macro, Micro events of the Future of any Company.
---
We have so many Analysts, MF-Managers,HNIs, as Investors.
Are the always right? Do they pick-up 3-8 stocks only, at ANY given time?
----
No offence meant!

THIS IS SIMPLY IMPRACTICAL ADVICE, in this interconnected World!

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