Every investor hopes to be successful on Dalal Street, but very few succeed in making it big.
Equity is the simplest way for an investor to participate in a business as a part owner. Equity investment can also enable direct participation in the growth of nation’s or global economy, and thus wealth creation.
While it has been proven over centuries that the equity route is the best way to create wealth, the same asset class has also seen immense wealth destruction at times.
Einstein once famously said: the power of compounding is the eighth wonder of the world. One of the key traits of successful equity investors is that they understand and apply the power of compounding. They know that, over a longer period, it can multiply an investment.
While it sounds simple, discipline and time duration play a significant role here. Most investors do not have the patience to sit through the initial period when gratification is delayed. Successful investors usually do not time the market and stay invested for significant time.
On the contrary, leveraging to invest in equity can cut both ways. In a turbulent market, it can result in huge loss of capital and swell interest costs.
“Successful equity investors rarely use leverage and end up reinvesting the dividends or any other income,” points out Ramesh Bukka, Director and Co-Founder, Entrust Family Office Investment Advisors.
Anil Rego, Chief Executive Officer and Founder, Right Horizons Financial Services, said: “It’s important to have a core portfolio, which one should not sell unless the money is needed for non-negotiable essentials, such as for owning a home. Good businesses grow at a pace about double the rate of the economy (or GDP). Reasonably consistent growth will create mammoth investment value over time. Patience is the key to unlocking wealth in best stocks. The power of compounding works as well in fixed income investments too.”
Joseph Kennedy, the legendary investor of the early 1900s, took the cue to exit his equity investments when his shoe shine boy started suggesting stocks for investment.
Typically, when the stock market runs up substantially and is close to peaking out, a lot of noise gets created. This is the time when the inexperienced trades in stocks, who are a different breed from sober investors, and loudly share their ideas with others without investment experience. This leads to gambling rather than investing. Gamblers normally lose a lot of money, with an occasional win to keep them involved in the game.
Learn something about the business you plan to own
Sometimes people buy a share without knowing the business. Shortlisting a few from over 5,000 stocks listed on BSE is a tough task. A couple of starting points would be to look at businesses either from industries one is familiar with, or whose products one uses (FMCG, medicines, cosmetics, food), vehicles and their components or industrial goods we use (paints, adhesives). The shopkeeper could tell you about new products that are showing big sales. Just as we study through a college and do professional courses to earn a living, some effort and time spent studying businesses around you can ease earning from equity investment.
Do a financial health check
Understanding financial ratios can help you pick a quality stock from the stock market. Ace investor Warren Buffet has named two of his most important numerical parameters for investing – return on capital employed (ROCE) and price-earnings (P/E) ratio. The RoCE is an indicator of the percentage of profits a business makes. Naturally, a company that has a high RoCE is a healthy business. A low RoCE below bank interest rates shows an inefficient business that must be avoided. The P/E ratio shows the pay-back period, or the number of years it will take for an investment to return capital invested at constant earnings. A low P/E is more attractive unless the business is growing at a fast clip.
Time your investment
Our grandmothers knew the right time to buy and stock up groceries and vegetables (obviously in the season), when they were cheapest and most abundant. It’s the same with equities. “The time to buy is when there’s blood on the Streets,” said Baron Rothschild in the 18th Century. He made a fortune buying in the panic that followed the Battle of Waterloo against Napoleon.
Rego of Right Horizons Financial Services said: “Prepare a wish list and start sampling the wares, buying a little. Add more on crashes, and more. Sell when everybody and your neighbour is talking about stocks. While buying at the very bottom, or selling at the absolute peak is only for magicians and liars, a very good return can be made buying in the Sensex PE range below 14 and selling when the PE moves close to and beyond 23.”
Patience and ability to ride volatility
Successful investors are extremely patient; they separate emotions from objectives and have the uncanny ability to not let market panics affect their investment. Every few years, the stock market displays extreme volatility and it takes courage to wade through these turbulent periods. They do not let sentiment limit returns or inflate losses and understand that volatility is normal.
Bukka of Entrust Family Office Investment Advisors said, “Successful investors know that stock markets are slaves of earnings and, hence, market panics are often best periods for them to hunt for great companies at bargain prices.”
One should always give a time to equity investment. Some of the stocks such as Eicher MotorsBSE 0.28 %, MRF and Ajanta PharmaBSE -0.20 % gave multibagger returns to investors even in volatile times.
Eicher Motors has witnessed tremendous growth in market capitalisation since FY11. On April 1, 2010, the company commanded a market capitalisation of Rs 1,759 crore, which was 4.52 per cent of Hero MotoCorp’s total market-cap of Rs 38,897 crore. At present, Eicher Motors’ market capitalisation is around over 100 per cent that of Hero MotoCorpBSE -0.93 %.
Do your research
Successful investors know themselves in terms of their investing abilities and they do their basic research, analyse companies, focus on quality and invest in companies whose products and strategies they like. They simply invest confidently only in what they understand. Further, they rarely believe cash to be king and know that cash drags returns over time.
Resist the lure of penny stocks
You will never come across successful investors investing in penny stocks or chasing hot tips. Most of these stocks are thinly traded, lousy and penny for a reason.
“Successful investors understand that in penny stocks, you will end up losing money and the downside risk is far greater and the potential for return is fairly low. They clearly know whenever there is fancy for penny stocks, the market is risky and possibly at its top,” Bukka said.
Keep it simple
Successful equity investors usually end up having a fairly simple approach to investing and not overcomplicate their portfolios. Their portfolios are diversified and they invest in what they understand. “You will not find them constantly switching strategies or churning portfolios. They focus on the future, and understand that keeping costs low and reinvesting dividends ultimately results in better wealth creation,” Bukka said.
By RAHUL OBEROI, ETMARKETS.COM