»Profit Hunter by Equitymaster

On This Day - 30 MAY 2018
When the Stock You Invested in Corrects 30%, or More...

Richa Agarwal, Research analyst

As I write this, Sonata Software, a stock I recommended in Hidden Treasure, is nearing its target price.

It's up 130% since recommendation in June 2016.

Hidden Treasure subscribers have reasons to be happy.

But their journey to these gains has not been smooth.

Take a look...

Sonata Software: A Rewarding Journey for a Patience Investor

After I recommended it, the stock price was stagnant for six months, lagging the small cap index.

And then, just like that, in January 2017, the stock surged 40%, over the next one month.

Just when the investors and subscribers were feeling validated and relieved, the very next month brought in a sense of deflation.

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By February 2017, the stock had corrected by 17%.

The ensuing months tested the fortitude of value investors. By May 2017, the stock had corrected by 35% from its January 2017 peak.

By then, it had been a year since I recommended it. And it was showing a loss of 9%. In comparison, the small cap index was up 27%.

We maintained our Buy view. There was no stop loss.

I had to face some tough questions about recommending a stock like this.

While I picked this example to share with you, it was not the first time I faced this question, nor it will be the last.

Since my association with Hidden Treasure, there have been countless examples where the stock has refused to budge, or has corrected sharply from the recommended price within the first year.

A case in point is Ambika Cotton Mills Ltd that was down by over 30% within a month of recommendation.

I maintained the buy view. Again, without a stop loss.

The reason why we did not change our view is not loss aversion or inflexibility.

The simple reason is: I recommend stocks purely based on strong fundamentals of the business and attractive valuations, for the long-term.

Unless there is a deterioration in fundamentals, any correction in price is not a setback in my view, but an opportunity to enter a great business at an even more attractive price.

It goes without saying that one needs to be patient and focused. Volatility in stock prices, especially in small caps that are less liquid, is inherent.

If you could befriend volatility instead of losing your sleep and pressing the panic button over short-term price corrections, the holy grain of extra ordinary profits is yours to take.

That conviction comes from understanding the businesses and managements, and cultivating the temperament of true value investor. And to understand small cap companies and businesses, I believe meeting managements is a must.

Coming back to Sonata Software, subscribers who followed our view throughout and did not lose patience, are now sitting on 130% gains.

Ambika Cotton too, is up 86% from the lows it touched post our recommendation.

The reason I'm writing about this today is because a wave of correction has hit small caps once again. The small cap index is down by over 13% from the January 2018 highs.

The new regulation for reclassification in mutual funds' portfolio is further leading to some correction. As mutual funds gear up to be compliant and restructure portfolios, there is likely to be a considerable selling in the small cap space. As per the industry experts, around 44% of mutual fund schemes are likely to adjust their portfolios to comply with new norms.

Further, this churning could lead to an investment of about Rs 190 billion in mid-cap stocks, at the cost of large and small-cap stocks.

For those who have done their homework before buying stocks, this could be a golden period to enter in quality small caps.

And if you are already invested in such stocks, don't let short-term corrections deter you. In fact, I believe it would not be a bad idea to print out and paste this quote from Warren Buffett somewhere you could see it easily.

  • "The stock market is a device for transferring money from the impatient to the patient."

Make sure you do not let the volatility fool you into parting with your wealth.

Richa Agarwal
Richa Agarwal (Research Analyst)
Editor, Hidden Treasure

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