Laying bare the facts: Beware the lust - The Honest Truth By Ajit Dayal
Investing in India - Honest Truth by Ajit Dayal
Laying bare the facts: Beware the lust A  A  A
1 MARCH 2012

Dominic Strauss-Kahn, the former head of the IMF and once a potential candidate for the French presidency, is known to enjoy a little nibble on the side. After being let off for the alleged forced encounter with a hotel maid in New York in May, 2011 DSK was recently questioned by the French authorities for his role in a prostitution ring and participation in some pretty wild group events.

In pleading the innocence of DSK, his defence lawyer reportedly told radio station Europe 1, "He could easily not have known, because as you can imagine, at these kinds of parties you're not always dressed, and I challenge you to distinguish a naked prostitute from any other naked woman."

DSK's lawyer is right.
No matter how many KYC norms exist, a man with an active libido put in a room with a lot of potentially active women, is overpowered by animal instincts.

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The probability of any man asking impatient, attractive naked women to show some concrete ID and proof of income is pretty close to zero.

Run naked with the markets?
But should investors in India's mojo markets show the same disdain for proof of legitimacy as a man on fire? Over the past few months many small cap and mid-cap stocks have had scorching runs recording gains of +50%.

It is time to ask the DSK question: is someone pimping bad stuff or are these legitimate companies that deserve the price elevation?

Investors flock to mid-cap and small-cap stocks with a view to discovering the next Infosys or HDFC. The gains from an investment in such stocks could look after a family for a few generations and free them from financial bondage.

And with some 3,000 companies in the running to be future leaders there is ample opportunity for the starry-eyed to dream away.

But it takes a lot for a small cap company to become an Infosys or an HDFC. There is the challenge of taking a regional company, national: the challenge of scale. There is the challenge of growing the right human talent to build the business: the challenge of bandwidth. There is the challenge of accessing low-cost financing to grow your business: the challenge of capital.

In their search for nirvana, investors could get saddled with some pretty bad duds. Though the BSE Small Cap and Mid Cap Indices represents the "survivors" amongst such speculative stocks, their performance still lags that of the BSE 30 Index of more established companies (Graph 1). This means that investors, so far, have not been compensated for the risk of buying less liquid small cap or mid-cap stocks - despite their recent fiery run.

Source: Ace Equity

Home maker or home breaker?
The Equitymaster research team has highlighted 6 small and mid-cap stocks with their judgement of whether these are stocks to love for the long run or whether these are booby-traps to avoid.

Source: Ace Equity

A regular stream of dividends and a strong competitive advantage makes this stock a safe, long term bet.

Source: Ace Equity

It has been notching up strong profit numbers alright but its leveraged balance sheet as well as low return ratios do not quite make it a strong long term story as per us.

Source: Ace Equity

An erratic profit profile with losses in four of the last ten years, a balance sheet with reserves and surplus in the negative and still up 10 fold in the last 15 months or so! We don't quite fathom this.

Source: Ace Equity

A company that suffers a fall of more than 50% in profits in the latest completed fiscal and has debt almost four times its equity is a sureshot ticket to the poor house isn't it? Not in this case though as the more than doubling of share price indicates.

Source: Ace Equity

When a firm has pricing power that even continuously higher taxes and volatile commodity prices cannot blunt, you know that you are onto something. Godfrey Phillips is one such stock, feels the Equitymaster Research team.

Source: Ace Equity

This small cap company is one of those recommendations that is a perfect example of the process driven approach that is followed at Equitymaster. The stock was recommended based on its good fundamentals and within a short span of two months, went up by more than 70%. However, this was too quick a jump and as indicated by our research process, we asked our subscribers to book some of their profits, enabling them to exit right at the peak.

So, before you rush into the mad frenzy of a market with alluring returns, it is very important to recognise the credentials of what you are jumping into. Otherwise you may be forced to deploy the rather creative DSK defence.

Furthermore, just as Mr DSK got caught up in a web of lust, investors too are extremely susceptible to the same. The lust of the Bull Market variety that is. In other words, their greed blinds them to the extent that they are not really able to recognise the good quality stock from the bad.

It is at these times they need the help of someone like Equitymaster. Their proven track record in weeding out the good stocks from the bad lends great support to your stock selection process.

Have an enriching Saturday!

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Disclaimer: The Honest Truth is authored by Ajit Dayal. Ajit is a Director at Quantum Advisors Pvt. Ltd and Quantum Asset Management Company Pvt. Ltd. The views mentioned above are of the author only. Data and charts, if used, in the article have been sourced from available information and has not been authenticated by any statutory authority. The author, Equitymaster, Quantum AMC and Quantum Advisors do not claim it to be accurate nor accept any responsibility for the same. Please read the detailed Terms of Use of the web site. To write to Ajit, please click here.

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3 Responses to "Laying bare the facts: Beware the lust"


Mar 6, 2012

With all due respect, Mr. Ajit Dayal has right to solicit Equitymaster service, even Warren Buffet will ask you to buy insurance from GEICO. But with the person of stature of Ajit Dayal, I would expect him to show the right picture and talk about equitymaster overall performance including failures and not only 1 short term success of 70% in 1 stock.

If I had bought Vijay shanthi at start of year you would have gained 140% or even tata motors DVR I would have gained 60%. But that doesn't mean anything since I would have not both those 2 stocks in first place and even if I had bought, those would not have been the only 2 stocks in my portfolio.

Nothing against equitymaster, their overall service might be good and performance above average or even excellent but this newsletter facing with representation bias. Facts seems twisted to attract new customers.



Lawrence Rao

Mar 6, 2012

We are getting advertisements in our mail box from with the header as "Honest Truth". This is in a way fooling your readers.



Mar 1, 2012

Hi, thought Honest Truth was an unbiased ringside view of the happenings in the Investing world, was disappointed that Mr.Ajit Dayal thought it fit to plug for Equitymaster thru' this newsletter. This indirect solicitation for subscribing to Equitymaster's services was unexpected, especially from a person of Mr.Ajit's stature. regsrds

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