Stockmarkets: Can you spot the odd? - Views on News from Equitymaster

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Stockmarkets: Can you spot the odd?

Sep 1, 2005

The markets have been in a frenzy of sorts in recent times, FY06 to be more precise. While strong liquidity has continued to fuel the seemingly insatiable appetite of investors - international and domestic, and large and small - there is a high possibility that this madness may witness an end soon. While our indication is largely towards the so-called mid-cap madness, many large-cap and well-researched stocks too deserve a blind eye. This is because it is during such types of market mania that the old and the experienced 'banned bulls' try to make a comeback, which is visible in the astronomical valuations and trading patterns of many stocks. Also, it is during such times that the best camouflaged stock market malpractices start to breed.

Before going ahead, let us consider a couple of examples first.

Chart 1 below shows the movement of a particular stock by the name Pharmaid Pharmaceutical vis-a-vis the Sensex. Further, the same data when converted to the 'Rs 100 invested in...' format looks like what is depicted in Chart 2. Thus, as can be clearly seen below, Rs 100 invested in the BSE-Sensex at the beginning of FY06 would have fetched you a good 20% return today, which is impressive from any yardstick. However, if you would have invested in the stock mentioned above, the same Rs 100 would have returned over 80% within a couple of months. And if you would have held onto the stock (greed playing a part here), the return today on your investment would have been... -100%!

Kindly note that there is no error in the chart above neither is there any error in our calculation of your returns. Your returns would have actually been -100%. This is because trading in the stock was suspended on the BSE in mid-July 2005. Thus, all your investments, whether made at around Rs 20 in April 2005 or at Rs 40 in May 2005, the net result would have been similar. You would not be able to recover your investments until the stock starts trading again. Till then, there is no other choice but to wait patiently. On second thoughts, wouldn't it have been better to wait patiently instead for normal 15% to 20% annual returns from a fundamentally sound stock?

Anyways, now let us consider the second example.

Charts 3 and 4 below compare the movement of BCL Forgings vis--vis the Sensex for FY06 in absolute and relative terms respectively. Again, as can be seen below, Rs 100 invested in the Sensex at the beginning of FY06 would have returned 20%. However, a Rs 100 investment in BCL Forgings on April 21, 2005 (?) would have returned over 4,500% to date and over 6,000% (within 4 months) if you would have booked your profits at the peak or close to the peak. Alas! One can only wish that buying and selling would have had been as simple as the statement above. But the reality is, it is much more difficult than it seems, especially for retail investors who ultimately become the bins with whom lie the dud quality stocks in the event of these going out of favour.

However, the reader must be wondering here why an investment in BCL Forgings should be made on April 21, 2005? This is because, before this, the stock was not trading on the bourses. It stopped trading on the BSE during May 2001! This means, an investor who may have invested in this company's stock in 2001, would have had to wait 4 painful years to recover his/her investment. Moreover, do not assume here that the ill-fated investor would have reaped a windfall since the stock has reached astronomical levels. In fact, more likely than not, most of them would have sold their holdings at the first opportunity. After all, fear too plays its part in stock market investing.

Thus, if we look at the above patterns closely, can we say that stocks that saw suspension in trading during the previous bullrun(s) have got themselves 're-listed' on the bourses to take advantage of the current bullrun? Also, can we say that stocks that have been suspended from being traded in the current bullrun would get active only in the next bullrun now, whenever that would be? We leave that for the investors to decide. However, investors must note that stocks are suspended/de-listed from the stock exchanges for various reasons, which includes non-compliance with the listing norms and of course, these norms are for the benefit of the investors.

To conclude, it must be borne in mind that it is the retail investor who ultimately turns out to be the biggest loser when the tide turns. Thus, it becomes all the more imperative for him/her to spot the odd. But, how does one spot the odd?

Well, investors must learn to understand the veracity of market/stock movements. This can be done by running a thorough check on the company and its credentials/fundamentals. On doing this, if we fail to find any justification for the price at which a particular stock is trading, then it is in the interest of the investor to avoid contributing to the buying frenzy. However, if we can identify a genuine fundamental argument that justifies the valuations, then do not worry about the stock price.

Further, we believe that another important aspect to consider while investing is the management factor. Invest in clean managements that know what they want to do and where they want to go. Global slowdowns will come and go, stock market ups and downs will come and go, scams would be unearthed and trials would continue for years without any concrete direction or decision, but there will always be some managements that work very hard to create value for its shareholders. Happy investing!

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