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-- An Insights on Investor Behaviour
Have you ever wondered how the rich got their wealth and then
kept it growing? Do you dream of retiring early (or of being able to retire at all)? Do you know that you should invest, but don't know where to start? If you answered "yes" to any of the above questions, you've come to the right place. The world of finance can be extremely intimidating, but it is firmly believe that the stock market and greater financial world won't seem so complicated once you learn some of the lingo and major concepts. It is emphasize, however, that investing isn't a get-rich-quick scheme. Taking control of your personal finances will take work, and, yes, there will be a learning curve. But the rewards will far outweigh the required effort.
Contrary to popular belief, investors don’t have to allow banks,
bosses or investment professionals to push your money in directions that you don't understand. After all, no one is in a better position than you are to know what is best for you and your money. Regardless of your personality type, lifestyle or interests, this will help you to understand what investing is, what it means and how time earns money through compounding. But it doesn't stop there. This will also teach you about the building blocks of the investing world and the markets give you some insight into techniques and strategies and help you think about which investing strategies suit you best.
Stocks To Riches
-- An Insights on Investor Behaviour
1.2 What Rich Means Rich, what this means in today’s business world, whether it is person with huge wealth or a person who is able to maximise his wealth day by day, year by year. There are two things needed in these days; first, for rich men to find out how poor men live; and second, for poor men to know how rich men work. A great amount of accumulated money and precious possessions: affluence, fortune, pelf, treasure, wealth. Riches are not an end of life, but an instrument of life Have you never been moved by poor men's fidelity, the image of you they form in their simple minds? Why should you always talk of their envy, without understanding that what they ask of you is not so much your worldly goods, as something very hard to define, which they themselves can put no name to; yet at times it consoles their loneliness; a dream of splendor, of magnificence, a tawdry dream, a poor man's dream --and yet God blesses it!
Stocks To Riches
-- An Insights on Investor Behaviour
INVESTMET INVESTMET OPTIONS OPTIONS
MUTUAL MUTUAL FUNDS FUNDS BOND BOND COMMODITY COMMODITY BANKS BANKS
EQUITY EQUITY Primary Primary Market Market Secondary Secondary Market Market
POST POST OFFICE OFFICE NSC KVP NSC KVP GOI SAVING GOI SAVING BONDS BONDS
short-term money-market instruments. A private investor who buys shares through a stockbroker for his/her private portfolio. The two other basic types are closed-end funds and Unit Investment Trusts (UITs). Also known as individual investor or small investor. Legally known as an "open-end company. or other securities.Stocks To Riches -. as opposed to an institutional investor.An Insights on Investor Behaviour WHO CAN INVEST??? WHO CAN WHO CAN INVEST? INVEST? RETAIL RETAIL INVESTOR INVESTOR MUTUAL FUND MUTUAL FUND COMPANIES COMPANIES FOREIGN FOREIGN INSTITUTIONAL INSTITUTIONAL INVESTOR (FII’s) INVESTOR (FII’s) INVESTMENT INVESTMENT COMPANY COMPANY HUF HUF INSURANCE INSURANCE COMPANIES COMPANIES BANKS BANKS POST POST OFFICES OFFICES √ Retail investor An individual who purchases small amounts of securities for him/herself. 4 . bonds." a mutual fund is one of three basic types of Investment Company. √ Mutual Funds A mutual fund is a company that pools money from many investors and invests the money in stocks.
END OF CHAPTER I “Never invest in a business you cannot understand” CHAPTER II 5 STOCKS . pension funds and mutual funds. International institutional investors must register with the Securities and Exchange Board of India to participate in the market. An investor or investment fund that is from or registered in a country outside of the one in which it is currently investing. individual investors should be able to save on trading costs since the investment company is able to gain economies of scale in operations. an investment company gives individual investors access to a wider range of securities than the investors themselves would have been able to access. Institutional investors include hedge funds. One of the major market regulations pertaining to FIIs involves placing limits on FII ownership in Indian companies. There are two types of investment companies: open-end (mutual funds) and closed-end (investment trusts). insurance companies. Also. The term is used most commonly in India to refer to outside companies investing in the financial markets of India. √ Investment Company Firm that invests the pooled funds of retail investors for a fee.Stocks To Riches -.An Insights on Investor Behaviour √ Foreign Institutional Investor (FII’s) FII means an entity established or incorporated outside India which proposes to make investment in India. By aggregating the funds of a large number of small investors into a specific investments (in line with the objectives of the investors).
you have people like you and me who buy shares of stock in these corporations. They send positive signals to foreign investors when they are in a bull phase. the buyers and sellers.Stocks To Riches -. √ Regulator 6 . Stock markets are the barometer of an economy. Now let’s see what each one wants from the markets. Booming stock markets create confidence and spur the governments to go ahead with their economic policies. governments need booming markets.An Insights on Investor Behaviour 2. build more factories or offices. No government likes depressed stock markets. The place where we all meet. On one side.2 The Psychology of Stock Market Participants Understanding the psychology of the participants is the key to knowing how they will behave when they are gripped by fear and greed. you have the owners of corporations who are looking for a convenient way to raise money so that they can hire more employees. is the stock market. He who understands this psychology is able to manipulate the markets by using the different participants at different times. 2. The way they raise money is by issuing shares of stock in their corporation. and upgrade their equipment. √ Government At this point when the world has become a global village and each country wants to attract foreign capital. On the other side.1 The Stock Market: The Biggest Auction in the World Think of the stock market as a huge auction or swap meet (some might call it a flea market) where people buy and sell pieces of paper called stock.
√ Stock Exchanges They facilitate stock transactions. It also results in additional revenue in the form of higher transaction and service charges due to the increase in turnover. Financially healthy companies are able to attract and retain good talent. etc. and keep their shareholders happy. etc. √ Banks Their business increases with soaring stock markets as opportunities open up in lending against stocks. During boom periods. the regulator also like booming stock markets.Stocks To Riches -. √ Companies Rising markets lead to higher stock prices. listing fees. √ Mutual Funds 7 .An Insights on Investor Behaviour Appointed by the government. depository and custodial business. The net worth of owners increase and companies can mop up more capital for expansions. √ Brokers In a bull markets the clientele increases and so do business opportunities. The feel good factor drives investors to banks for various financial services. A rising market is evidence of good governance. incomes skyrocket by way of transaction charges from brokers. margin trading. This results in higher incomes for the brokers.
He is aware that the Bull Run psychology creates the Bull Run. brokers and company management. He is the king-maker who uses his knowledge to win over investors. which translates into increased advertisement revenue. √ Investors The lure of quick money draws investors in a bull market. 2. Day traders become very active as they are rewarded with easy gains. and he has the ability to exploit that for his own benefit. √ Media The media plays a pivotal role in spreading information.Stocks To Riches -. Rising markets attract more investors which mean more money under management. He knows the system.STOCK 8 . √ Operators He is the smartest and shrewdest of all. and higher asset management fees.3 Understand the Term . They are also able to come out with different kinds of funds to satisfy every requirement. An increase in investors means increased viewers/readers.An Insights on Investor Behaviour Higher Stock price means increased net asset values. he understands the psychology of the participants.
Usually stock is issued to raise money for a variety of reasons: expansion. it is called an initial public offering or IPO. however mass sales will also drive a price in the negative direction. Nonetheless. Prices will drop when a particular industry takes a fall.4 Classifying Stocks: Income. when the economy has a general downturn. Stock is simply a portion of a company. By owning stock. A person or organization which holds shares of stocks is called a shareholder. & Growth 9 . or when there is too much debt. 2. Stocks are bought and sold on stock exchanges. Professional analysts and investment bankers who issue buy/sell/hold ratings also affect the price. stock is the capital raised by an organisation through the issuance and distribution of shares. developing new products. such as the BSE & NSE. Volatility is when a stock price goes up or down.An Insights on Investor Behaviour In financial markets. Value. when the company management is failing. you are a shareholder. The aggregate value of a company’s issued shares is its market capitalization. stock prices rise and fall with supply and demand. to pay off debt and acquiring other companies. Usually. When a company issues stock for the first time. there are other reasons for stock prices to fluctuate.Stocks To Riches -. An IPO is underwritten by an investment banker that decides what the stock is worth and when it is best to issue it. The price will rise when everyone wants the stock and is buying it.
Investors who are attracted to value stocks have a number of fundamental tools (e. Another advantage of stocks that pay dividends is that the dividends reduce the loss if the stock price goes down. They may not rise or fall as quickly as other stocks. dividends are considered taxable income. Second. Growth Stocks 10 . if the company doesn’t raise its dividend each year and many don’t—inflation can cut into your profits. stocks that pay a regular dividend are less volatile. Finally.Stocks To Riches -. Some investors. In addition. usually older individuals who are near retirement. which include share of corporations that give money back to shareholders in the form of dividends (some people call these stocks dividend stocks). Value stocks are often those of old-fashioned companies. It takes a lot of research to find a company whose price is a bargain compared to its value.. so you have to report the money you receive to the IRS. Just because you own stock in a so-called conservative company doesn’t mean you will be protected if the stock market falls. The trick. which is fine with the conservative investors who tend to buy income stocks. or value. Value Stocks Value stocks are stocks of profitable companies that are selling at a reasonable price compared with their true worth. such as insurance companies and banks that are likely to increase in price in the future. There are also a number of disadvantages of buying income stocks. even if not as quickly as other stocks.An Insights on Investor Behaviour Income Stocks The first category of stocks is income stocks. Some low-priced stocks that seem like bargains are low-priced for a reason. of course.g. are attracted to income stocks because they live off the income in the form of dividends and interest on the stocks and bonds they own. P/E ratios) that they use to find these bargain stocks. is determining what a company is really worth—what investors call its intrinsic value. First. income stocks can fall just as quickly as other stocks.
An Insights on Investor Behaviour Growth stocks are the stocks of companies that consistently earn a lot of money (usually 15 percent or more per year) and are expected to grow faster than the competition. as the corporation wants to use every cent it earns to improve or grow the business. penny stocks are so cheap for a reason. you made a 100 percent profit. 2. For example.75 a share.50 penny stock.Stocks To Riches -. the trading volume on penny stocks is exceptionally low. After all. A number of traders specialize in these stocks. The price of growth stocks can be very high even if the company’s earnings aren’t spectacular. Even with their low price.50.5 What Makes Stocks Go Up or Down 11 . They are often in high-tech industries. with only Rs. That is the beauty of penny stocks. you could put your order in at Rs 0.1000 you can buy 2000 shares of an Rs 0. Penny Stocks Just as their name suggests. Most of the time. they can make sudden price moves in either direction. although this is not easy. no earnings. It happens all the time. They are also called pink sheet stocks because at one time the names and prices of these stocks were printed on pink paper. there usually aren’t enough buyers to make the stock go higher. This is because growth investors believe that the corporation will earn money in the future and are willing to take the risk. That reason could be poor management. If the stock ever makes it to a rupee.0. but whatever it is. penny stocks are stocks that usually sell for less than a rupee a share (although some people define a penny stock as one selling for less than Rs. or too much debt. growth stocks won’t pay a dividend. Because growth stocks are so volatile. On the other hand.5 a share). and a couple of days later the stock could fall to Rs. The advantage of trading penny stocks is that the share price is so low that almost everyone can afford to buy shares. This is ideal for short-term traders but unnerving for many investors.
if you buy stock in a company that is doing well and making profits. Any one of these events can send the market lower as investors seek protection in cash. If there is anything the market hates. Just have a Short Term Affair” CHAPTER III 12 INVESTORS . you should pay attention to anything that may affect your stocks. One of the reasons the most recent bear market lasted so long was that no one knew when the recession would end. or a recession will cause havoc with the stock market. but that is the risk you take when you participate in the market. Some events seem to come out of nowhere —perhaps a terrorist attack. that you’ll make money. or real estate. Sometimes it helps to step back and see the bigger economic picture. whether we would win the war on terrorism. gold. Even the stocks of good companies can sometimes go down. of course. and whether the United States was going to war.An Insights on Investor Behaviour When you invest in the market. END OF CHAPTER II “Never Love or Marry your Stock. As an investor or trader. If you buy stocks in companies that do well. you should be rewarded with a higher stock price. then the stock you own should go up in price. 2. you can shift your money into more profitable investments. Quite simply. If you can anticipate how an event could affect the stock market. You make money in the stock market by buying a stock at one price and selling it at a higher price. It doesn’t always work out that way. a war.6 You Buy Stocks for Only One Reason: To Make Money The stock market is all about making money. It’s that simple. Some pros believe that having a thorough understanding of the investment environment is more important than picking the right stock. There is no guarantee. you must be aware of outside events.Stocks To Riches -. it is uncertainty.
need more control. timing. the control over entity. and characteristics. 3.1 The Ten Investor Controls 1. 13 . investor may gain some insights on how he can gain greater control as an investor—especially control number 7. The control over the terms and conditions of the agreements 9.An Insights on Investor Behaviour “A person who makes investments” “A person whose principal purpose is to invest money prudently and productively over the longer term with the investment objectives being achievement of a reasonable return and capital appreciation to preserve purchasing power. The control over yourself 2. The control over when you buy and when you sell 6. The control over access to information 10. The control over income/expense asset/liability ratios 3.Stocks To Riches -. The control over the management of the investment 4. and characteristics) 8. or simply lack any basic understanding about investing. The control over brokerage transactions 7. This is where many investors lack control. The control over giving it back. redistribution of wealth. The control over taxes 5.” Many people find investing risky because they are not in control of one or more of these ten investor controls. timing. However. philanthropy. The control over the ETC (entity.
√ Investor 1. you still need financial education. we define qualified investor as a person who has money as well as some knowledge about investing. however. As it relates to the stock market. This investor would be considered an “outside” investor as opposed to an “inside” investor. The control over when you buy and when you sell 14 The Investor Controls Possessed by the Qualified .Stocks To Riches -. A long-term investor who has chosen to invest for security and comfort may very well qualify as an accredited investor. for example. you will have access to investments that most people do not. they have learned and understand the difference between fundamental investing and technical investing. Here. he said qualified investors would include most professional stock traders. A qualified investor is usually an accredited investor who has also invested in financial education. Through their education. qualified investors include stock traders and analysts. If you can qualify as an accredited investor.An Insights on Investor Behaviour 3. If you choose not to invest your time in your financial education.2 Types of Investors The Accredited Investor The accredited investor is someone with high income or high net worth. The control over yourself 2. The control over income/expense asset/liability ratios 5. Generally. To be successful in choosing your investments. you should turn your money over to competent financial advisors who can assist you with your investment decisions. The Qualified Investor The qualified investor understands how to analyze publicly traded stock.
and securities laws to maximize both earnings and to protect the underlying capital.Stocks To Riches -. From the sophisticated investor on. The control over brokerage transactions 6. On the black and white side of the coin. The control over taxes 4. √ Investor 1. corporate. these investors know that there are two sides of the coin. timing.An Insights on Investor Behaviour The Sophisticated Investor The sophisticated investor typically has all “three Es. The control over yourself 2. It is a world where you definitely do not want to do things on your own. They know that on one side of the coin. an investor must enter with their team. The control over when you buy and when you sell 5. On the gray side of the coin. characteristic) The Investor Controls Possessed by the Sophisticated 15 . He or she utilizes the tax. some investors can invest on their own.” In addition. the world is a world of black and white and they also know that the other side of the coin is a world of different shades of gray. If you want to become a successful investor but do not wish to build your own business to do so. The control over income/expense and asset/liability ratios 3. the sophisticated investor understands the world of investing. your goal should be to become a sophisticated investor. The control over the E-T-C (entity.
it's a different way to think about how to make money. And that's exactly what most of us do. making your money work for you maximizes your earning potential whether or not you receive a raise. Growing up. or starting your own business. so instead. the goal is always to put your money to 16 . not to mention the fact that having a bunch of money is no fun if we don't have the leisure time to enjoy it You can't create a duplicate of yourself to increase your working time. which we'll discuss in a later section of this tutorial.your money . However.to work. The point is that it doesn't matter which method you choose for investing your money. or real estate (among many other things). not being in control is risky. or even mowing your lawn. bonds. There's one big problem with this: if you want more money. Essentially. This includes putting money into stocks. mutual funds. Quite simply. you need to send an extension of yourself . Sometimes people refer to these options as "investment vehicles. sleeping. reading the paper or socializing with friends. while you are putting in hours for your employer. you can also be earning money elsewhere. It's actually pretty simple: investing means putting your money to work for you.Stocks To Riches -.” 4. That way.1 What Is Investing? The act of committing money or capital to an endeavor with the expectation of obtaining an additional income or profit.An Insights on Investor Behaviour END OF CHAPTER III CHAPTER IV INVESTING Investing is not risky. there is a limit to how many hours a day we can work." Each of these vehicles has positives and negatives. There are many different ways you can go about making an investment. most of us were taught that you can earn an income only by getting a job and working. you have to work more hours. decide to work overtime or look for a higher-paying job." which is just another way of saying "a way to invest.
If you were emotionally strong and you have ended making a huge 17 .An Insights on Investor Behaviour work so it earns you an additional profit. But the sentiment changed. Take for instance the black Monday in May 2004. Market fluctuations are based on the varied opinions expressed by its participants.3 Why Investing so Difficult The most difficult part of investing. 4.Stocks To Riches -. It’s the crowd behaviour that dominates the decision-making and is responsible for the sudden changes in the sentiments. may come from the way some people use investment vehicles. Yes. True investing doesn't happen without some action on your part. Part of the confusion between investing and gambling. he or she performs thorough analysis and commits capital only when there is a reasonable expectation of profit. but investing is more than simply hoping Lady Luck is on your side. 4. which in turn are subject to change commensurate with the changing sentiments of people. it could be argued that buying a stock based on a "hot tip" you heard at the water cooler is essentially the same as placing a bet at a casino. What precipitated this huge fall? Had anything gone drastically wrong with the performance of the companies whose stock prices crashed? Definitely not. The market lost around 700 points when the elections brought the Congress to power. Even though this is a simple idea. The herd mentality was at work and the markets crashed as each one wanted to get out faster than his neighbour. The BJP being voted out of power was a big change and normally we do not like changes.2 What Investing Is Not Investing is not gambling? Gambling is putting money at risk by betting on an uncertain outcome with the hope that you might win money. however. A "real" investor does not simply throw his or her money at any random investment. and there are no guarantees. it's the most important concept for you to understand. For example. Hence there was gloom all around and people dumped stocks as though there was no future. there still is risk. understands the behaviour of the stock markets.
4 The Law of the Farm Stock Market investing is all about managing the rewards associated with the risks undertaken. The seed has to endure summer. You reap what you sow but the crop is also subjected to changing seasons. Understanding behavioral science is the key to success in the financial markets. winter and spring before it turns into a full-blown tree.Stocks To Riches -. as it does not conform to the law of nature. Stock market investments also work that way. There are no short cuts. Invest you must but before that you must bear in mind the law of the farm. However. If we invest in the right stocks with the right business model and fundamentals. Its application not only helps you control your emotions but also helps you to understand other’s emotions and benefit from their mistakes.An Insights on Investor Behaviour fortune. to do this requires patience and we have to go through the ups and downs but it is important to stay the course. But this seems easy only in hindsight. Without risk there is no return. At the point of time to go against crowd is the most difficult but the most sensible thing to do. 4. rain. Getting carried away by the greed of quick returns ultimately destroys wealth. 18 . over the long run we are assured of optimum returns. Many of us forget that nature and society are one.
An Insights on Investor Behaviour 19 .Stocks To Riches -.
Stocks To Riches -. very careful about allocating resources. They are therefore. Such investors are always on the lookout for good opportunities and bargain prices. It is the most difficult path as it requires a keen mind of study the different concepts of investing – how different businesses work. even years. and can comprehend business and the environment. They have a strong belief in their abilities and. Charlie Munger. the second is Physically Difficult and the third is Emotionally Difficult Path. they are in no hurry to invest. they are willing to wait for them. since their goal is investing long-term for cash flows as against capital gains. 20 . John Templeton. One is Intellectually Difficult. but that is only because of our inability to grasp their point of view. Here the name of the game is patience. we may see them as being misguided. They know that patience is a virtue and therefore take long-term positions. This method is all about the cash flow approach. They can be out of the market for months. news.An Insights on Investor Behaviour 4. This path is pursued by those who have a profound understanding of investing. 1. and how economic policies and market forces affect the business environment. They are not perturbed by events. one must have the money to invest. and a few others have taken the intellectually difficult path of beating the markets.5 Three Ways of Investing” There are three ways by which an investor can invest to achieve superior results. A good grasp of the various fields of management is required to understand organisations and their ability to capitalize on various business opportunities. They never buy on impulse. rumours and gossip that create short-term volatilities. A good knowledge of the field of liberal arts is basic to the development of various investment concepts. Initially. We admire them but usually in retrospect. can see future trends clearly. As long-term investors. They strongly believe that opportunities are always there but that when the biggest of them come. The Intellectually Difficult Path Investors like Warren Buffet.
They are constantly on the telephone making calls and receiving more calls though most of the time the answering machine takes the calls. Their intellectual capability is derived from their hard work and their strong belief in the long-term approach to investments. They choose work over the family. 2. Intellectual investors are also emotionally strong. This is a wrong notion. examining different viewpoints on business. They are always busy with the breakfast meetings. Moreover. Their talk revolves round finding the next best investment opportunity to make money. They constantly explore opportunities by talking with managements.An Insights on Investor Behaviour They have the patience to wait till the right moment. trying to understand economic policies and its effect on business environment. They carry with them all the newspapers to read whenever time permits. 21 . They visit companies and plants and talk with the management. They keep in touch with a number of brokers as they believe it will increase their efficiency in the stock markets. Intellectual investors as they do not churn their portfolios regularly. That is the reason they are able to exercise such restraint. At the office they scan their terminals and the CNBC news for market movements and at home they keep tabs on the BSE and NSE.Stocks To Riches -. etc. They carry home huge reports to read before the next day. they use common sense in their judgements and are not swayed by rumours. They do not know what their children are doing as they don’t have time for them. We all want to be such investors but we cannot. more luncheon meetings and even more dinner meetings. The Physically Difficult Path Most people are deeply involved in the physically difficult way of beating the markets. as we believe that we are not all as intellectually blessed as they are. Brokers usually do not like such investors as they do not churn their portfolios regularly. They come early to the office and stay late. The reason they are intellectually capable is because they work hard and make the effort to reach that stage. They are overloaded with information. They continuously monitor stock price movements.
Show the world they are busy. inflation figures. they are busy on their mobile phones. We make it complicated. The physically difficult path is based on the assumption that there are a lot of opportunities out there and you have to keep digging hard to be successful at investing. the call went to the answering machine. Market gossip excites them and they make decisions based on rumours. They spend the entire day collecting information and make decisions based on that information. So. News regarding political developments. They tend to time the markets on such news. The telephone rang but he did not answer it. with all the fund managers and the day traders treading the same path.An Insights on Investor Behaviour When they are on the move. After a couple of rings. This is how most of them behave. The day traders also take the physically difficult path of investing. Life is simple. They sincerely believe that keeping themselves busy this way makes them look important and increases their ability to pick up the winners. Once I was at the office of a fund manager and we were chatting informally. and GDP growth figures play an important role in their lives. In every way they expend tremendous physical energy and effort to beat the market by outmanoeuvring the competition. monsoon forecasts.Stocks To Riches -. how can any one of them achieve better results??? Good opportunities come once in a while and you spot them only when you are cool and have the time to think. My experience in the stock market dealing with fund managers has been really amusing. But they don’t realise that others are also doing the same. change in a minister’s portfolio. 22 . The current volatility in the markets is the result of too many people trying to invest by this method.
In that case we could opt for what is called the emotionally difficult path. The Emotionally Difficult Path Most of us may find the intellectually and the physically difficult path too daunting. When the newspapers report big investment opportunities. It is not easy to control your emotions and go against the herd. Emotional discipline is the most difficult. this path is very straightforward. It often pays to go against popular opinion. When your neighbours exit the stock markets. Simply work out a longterm investment policy that is right for you and be committed to it. This how you do it. don’t follow them. be wary of such news. stay calm and unconcerned. don’t sell. To give an example: If one were to compound money at a modest rate of seven percent the money would double at the end of 10 years and it would be 16 times at the end of 40 years. When newspapers report a bear phase and tell you to liquidate portfolio. The emotionally difficult path like the intellectually difficult pay lays stress on the virtue of patience. It can be magic even when the rate is modest. When your friends or your broker tell you about a great investment opportunity and they say it is a great time to buy. Actually. don’t buy. Patience focuses an investor’s attention on the goal of compounding money over a long period. When you broker tells you to sell as he sees bad times ahead do not listen to his advice and sell.An Insights on Investor Behaviour 3. don’t sell.Stocks To Riches -. The stress is on the cash flow approach. But you need to believe in yourself and the investment policy to which you are committed. Both are based on the view that the long-term approach to investments is the only strategy that can enrich investors and increase their wealth. don’t be tempted. When your neighbours tell of how the stock markets have made them rich in the last couple of months. When you banker offers credit facility against your shares to buy more shares. When analysts on TV tell you that the market is going to crash and the stock prices will nose dive. Patience also helps you to control transaction costs. 23 .
such as a strike by factory workers for Hero Honda." This theory has a solid foundation behind it. changes in political leadership. he or she is putting himself/herself at risk at times when the steel cycle starts to turn down. there is a case to invest in stocks across sectors. thus. the performance of stocks from other sectors would make up for the losses suffered in that sector. Our emotions directly affect our decisions on investments and expenditure. Systemic risk is that which impacts all sectors and companies. "Do not put all your eggs in one basket. and even the most seasoned of industry veterans have got it wrong occasionally.systemic and unsystemic. Understanding our own anomalies as also that of others will help us become better investors. On the other hand. All these costs could be avoided if one has patience. Thus. It is to reduce risk.Stocks To Riches -. The emotionally difficult path requires an understanding of how our emotions guide our decision-making especially when we deal with money. Let us understand the basic rationale for diversification. unsystemic risk is a risk that is specific to a particular company. there are 2 types of risks . Now. 24 . cannot be diversified.An Insights on Investor Behaviour The more you churn your portfolio the more you pay the broker in terms of taxes of brokerage and off course the government in terms of taxes on your capital gains. 4. Examples of such risks include events such as 9/11. an attack on an important crude pipeline. and. For example. or a fire at Bombay High for ONGC. We have to learn to think with our emotions rather than have our emotions do the thinking. geopolitical risks and government policies. Now.6 Investing: Diversification or concentration? The basic logic for diversifying one's portfolio is. keeping track of such trends is no easy task. if an investor decides to invest only in steel stocks. so that in case of a downturn in any one sector.
Of course.. Therefore. as mentioned above. For example. management teams and future prospects. As a result.Stocks To Riches -. Now. diversification of a stock portfolio serves the purpose of reducing the unsystemic risk of that portfolio. One must understand that returns can never be de-linked from risk . while the software sector undoubtedly has strong growth prospects. such a strategy would more likely than not involve a higher degree of risk. taking a call on which stock to invest in to outperform the benchmark index is a none-too-easy task for a retail investor. . rather concentrating it towards a few stocks. an investor decides to tilt his or her stock portfolio towards software stocks.they are never mutually exclusive and always co-exist.. their business models. who might not have the time to study the stocks. an investor must have the ability to spot trends in his or her sector of interest. END OF CHAPTER IV Investing is risking and should be approached with care!!! 25 .and against! On the other hand. by not diversifying the stock portfolio. an investor can (still) get higher returns. a major purpose of diversification is 'optimising' returns (as opposed to maximizing returns. and time it accordingly. which might involve a higher level of risk). in order to execute such a focused investment strategy.An Insights on Investor Behaviour Therefore.
Stocks To Riches -.An Insights on Investor Behaviour 26 .
Stocks To Riches
-- An Insights on Investor Behaviour
Guide to Stock-Picking Strategies
When it comes to personal finance and the accumulation of
wealth, few subjects are more talked about than stocks. It's easy to understand why: the stock market is thrilling. But on this financial rollercoaster ride, everyone wants to experience the ups without the downs. Here, investor will find some of the most popular strategies for finding good stocks (or at least avoiding bad ones). In other words, investor will see the art of stock picking – selecting stocks based on a certain set of criteria, with the aim of achieving a rate of return that is greater than the market's overall average. Before exploring the vast world of stock-picking methodologies, investor should address a few misconceptions. Many investors new to the stockpicking scene believe that there is some infallible strategy that, once followed, will guarantee success. There is no foolproof system for picking stocks! This doesn't mean investor can't expand his wealth through the stock market. It's just better to think of stock-picking as an art rather than a science. There are a few reasons for this: 1. So many factors affect a company's health that it is nearly impossible to construct a formula that will predict success. It is one thing to assemble data that investor can work with, but quite another to determine which numbers are relevant.
Stocks To Riches
-- An Insights on Investor Behaviour
2. A lot of information is intangible and cannot be measured. The quantifiable aspects of a company, such as profits, are easy enough to find. But how do investors measure the qualitative factors, such as the company's staff, its competitive advantages, and its reputation and so on? This combination of tangible and intangible aspects makes picking stocks a highly subjective, even intuitive process. 3. Because of the human (often irrational) element inherent in the forces that move the stock market, stocks do not always do what you anticipate they'll do. Emotions can change quickly and unpredictably. And unfortunately, when confidence turns into fear, the stock market can be a dangerous place. The bottom line is that there is no one way to pick stocks. Better to think of every stock strategy as nothing more than an application of a theory - a "best guess" of how to invest. And sometimes two seemingly opposed theories can be successful at the same time. Perhaps just as important as considering theory, is determining how well an investment strategy fits investor personal outlook, time frame, risk tolerance and the amount of time investor want to devote to investing and picking stocks. At this point, investor may be asking why stock-picking is so important. Why worry so much about it? Why spend hours doing it? The answer is simple: wealth. If investor becomes a good stock-picker, he can increase his personal wealth exponentially. Without further ado, let's start by delving into one of the most basic and crucial aspects of stock-picking: fundamental analysis, whose theory underlies all of the strategies explore here. Although there are many differences between each strategy, they all come down to finding the worth of a company.
Stocks To Riches
-- An Insights on Investor Behaviour
5.1 Fundamental Analysis
Ever hear someone say that a company has "strong
fundamentals"? The phrase is so overused that it's become somewhat of a cliché. Any analyst can refer to a company's fundamentals without actually saying anything meaningful. So here we define exactly what fundamentals are, how and why they are analyzed, and why fundamental analysis is often a great starting point to picking good companies.
√ The Theory
Doing basic fundamental valuation is quite straightforward; all it takes is a little time and energy. The goal of analyzing a company's fundamentals is to find a stock's intrinsic value; a fancy term for what investor believes a stock is really worth - as opposed to the value at which it is being traded in the marketplace. If the intrinsic value is more than the current share price, investor’s analysis is showing that the stock is worth more than its price and that it makes sense to buy the stock. Although there are many different methods of finding the intrinsic value, the premise behind all the strategies is the same: a company is worth the sum of its discounted cash flows. In plain English, this means that a company is worth all of its future profits added together. And this which the Rs.1 investor receives in a year’s time is worth less than Rs.1 you receive today. The idea behind intrinsic value equaling future profits makes sense if investor thinks about how a business provides value for its owner(s). If investor has a small business, its worth is the money he can take from the company year after year (not the growth of the stock). And he can take something out of the company only if he have something left over after he pay for supplies and salaries, reinvest in new equipment, and so on. A business is all about profits, plain old revenue minus expenses - the basis of intrinsic value.
The people at the top ultimately make the strategic decisions and therefore serve as a crucial factor determining the fate of the company. more subjective qualities of a company. 30 . √ Management The backbone of any successful company is strong management. where. Investor should ask himself if these backgrounds make the people suitable for directing the company in its industry. Then you can move onto the next question. when and why? √ Who? Do some research.2 Qualitative Analysis Fundamental analysis has a very wide scope. Here investor will look at how the analysis of qualitative factors is used for picking a stock. Valuing a company involves not only crunching numbers and predicting cash flows but also looking at the general. √ Where? Investor need to find out where these people come from. again investor should ask himself whether he or she has the necessary qualities to lead a mining company to success. CFO. you should know who its CEO.An Insights on Investor Behaviour 5. and find out who is running the company. To assess the strength of management. investors can simply ask the standard five Ws: who. A management team consisting of people who come from completely unrelated industries should raise questions.Stocks To Riches -. If the CEO of a newly-formed mining company previously worked in the industry. their educational and employment backgrounds. specifically. Among other things. COO and CIO (chief information officer) are. what.
otherwise. for example. His long tenure is a good indication that he was a successful and profitable manager. √ Why? A final factor to investigate is why these people have become managers. and if it works for the company. If investor sees a company continually changing managers. which is a nice way of saying "a change in management due to poor results". was CEO of General Electric for over 20 years. If a company is doing poorly. and try to see if these reasons are clear. or has s/he acquired the position through questionable means. valuing policy and established logic above all in the decision-making process. the shareholders and the board of directors wouldn't have kept him around. Jack Welch. Other management philosophies are more rigid and less adaptable. promoting an open. Investor can discern the style of management by looking at its past actions or by reading the annual reports MD&A section. Once investor knows the style of the managers.An Insights on Investor Behaviour √ What and When? What is the management philosophy? In other words. find out when this team took over the company. transparent and flexible way of running the business. in what style do these people intend to manage the company? Some managers are more personable. given its size and the nature of its business. it may be a sign to invest elsewhere. such as self-appointment after inheriting the company? 31 .Stocks To Riches -. Does this person have the qualities investor believe are needed to make someone a good manager for this company? Has s/he been hired because of past successes and achievements. Investor should ask himself if he agrees with this philosophy. Look at the manager's employment history. one of the first actions taken is management restructuring.
such as its growth potential. "What is the company's business model?" √ Industry/Competition Aside from having a general understanding of what a company does. Many estimate that the intangible value of Reliance brand name is in the billions of rupees! Massive corporations such as HLL rely on hundreds of popular brand names. the question would be. discerning a company's stage of growth will involve approximation.An Insights on Investor Behaviour Know What a Company Does and How It Makes Money A second important factor to consider when analyzing a company's qualitative factors is its product(s) or service(s). Take for example the most popular brand name in India: Reliance. 32 . while a mediocre company in a poor industry will likely take a bite out of your portfolio.Stocks To Riches -. √ Brand Name A valuable brand reflects years of product development and marketing. A mediocre company in a great industry can provide a solid return. Having a portfolio of brands diversifies risk because the good performance of one brand can compensate for the underperformers. investor should analyze the characteristics of its industry. Of course. if the demand for the industry is growing. but common sense can go a long way: it's not hard to see that the growth prospects of a high-tech industry are greater than those of the railway industry. It's just a matter of asking. How does this company make money? In fancy MBA parlance.
The concept is actually very simple: find companies trading below their inherent worth.3 Value Investing Value investing is one of the best known stock-picking methods. Not a Stock Investor should emphasize that the value investing mentality sees a stock as the vehicle by which a person becomes an owner of a company . These factors are not inherent to the company. its high quality. and therefore are not seen to have any effect on the value of the business in the long run. Benjamin Graham and David Dodd. not by trading.to a value investor profits are made by investing in quality companies. and cash flow .Stocks To Riches -. The value investors seek companies that seem to be incorrectly valued (undervalued) by the market and therefore have the potential to increase in share price when the market corrects its error in valuation. Because their method is about determining the worth of the underlying asset. √ Value. such as market volatility or day-to-day price fluctuations. laid out what many consider to be the framework for value investing.that are selling at a bargain price. In the 1930s. Value investors have to do their homework and be confident that they are picking a company that is cheap given 33 . book value. given their quality. Not Junk! Value investing doesn't mean just buying any stock that declines and therefore seems "cheap" in price. √ Buying a Business.An Insights on Investor Behaviour 5. dividends. finance professors at Columbia University. The value investor looks for stocks with strong fundamentals including earnings. value investors pay no mind to the external factors affecting a company.
growth investors buy companies that are trading higher than their current intrinsic worth . You have concluded with a high degree of certainty that it's perfectly safe to stand 100 feet from the center of the explosions.4 Growth Investing In the late 1990s. it relies on a strict screening process. you implement a margin of safety by setting up barriers 125 feet from the explosions. with much less emphasis on its present price. a technique which is simple yet very effective.but this is done with the belief that the companies' intrinsic worth will grow and therefore exceed their current valuations. on the other hand. at this moment. there's nothing boring about outperforming the S&P by 13% over a 40-year span! 5. Unlike value investors. growth investing techniques yielded unprecedented returns for investors.An Insights on Investor Behaviour √ The Margin of Safety A discussion of value investing would not be complete without mentioning the use of a margin of safety. s/he should realize that this strategy comes with substantial risks and is not for everyone. Growth investors. which will include flames and explosions. focus on the future potential of a company. are trading for less than their apparent worth. 34 . Value investing is not as sexy as some other styles of investing. But before any investor jumps onto the growth investing bandwagon. Consider a real-life example of a margin of safety. √ Value versus Growth The best way to define growth investing is to contrast it to value investing. when technology companies were flourishing. But to be absolutely sure no one gets hurt. they look for stocks that. But just remember. Say you're planning a pyrotechnics show.Stocks To Riches -. Value investors are strictly concerned with the here and now.
or sets of guidelines or criteria . the investor must consider the company in relation to its past performance and its industry's performance. The application of any one guideline or criterion may therefore change from company to company and from industry to industry. but there is no absolute formula for evaluating this potential. then you're ready to learn about a newer. Typically a growth investor looks for investments in rapidly expanding industries especially those related to new technology. Growth investors are therefore primarily concerned with young companies. growth stocks are companies that grow substantially faster than others. 5. Growth investors use certain methods .5 GARP Investing Do you feel that you now have a firm grasp of the principles of both value and growth investing? If you're comfortable with these two stockpicking methodologies.as a framework for their analysis. √ No Automatic Formula Growth investors are concerned with a company's future growth potential. but these methods must be applied with a company's particular situation in mind. hybrid system of stock selection.An Insights on Investor Behaviour As the name suggests.Stocks To Riches -. √ What Is GARP? 35 . Every method of picking growth stocks (or any other type of stock) requires some individual interpretation and judgment. The theory is that growth in earnings and/or revenues will directly translate into an increase in the stock price. Here we take a look at growth at a reasonable price. or GARP. Profits are realized through capital gains and not dividends as nearly all growth companies reinvest their earnings and do not pay a dividend. More specifically.
36 . some misconceptions about the style persist. Critics of GARP claim it is a wishy-washy. The criteria which GARPers look for in a company fall right in between those sought by the value and growth investors. Below is a diagram illustrating how the GARP-preferred levels of price and growth compare to the levels sought by value and growth investors? √ What GARP Is NOT Because GARP borrows principles from both value and growth investing. fence-sitting method that fails to establish meaningful standards for distinguishing good stock picks. Like most respectable methodologies. this is not the case: because each of their stock picks must meet a set of strict criteria. GARP doesn't deem just any stock a worthy investment. Again.An Insights on Investor Behaviour The GARP strategy is a combination of both value and growth investing: it looks for companies that are somewhat undervalued and have solid sustainable growth potential.Stocks To Riches -. it aims to identify companies that display very specific characteristics. but a combination of the two. However. selecting stocks that have neither purely value nor purely growth characteristics. Another misconception is that GARP investors simply hold a portfolio with equal amounts of both value and growth stocks. GARPers identify stocks on an individual basis.
dividends are more prominent in certain industries. These companies generally no longer are in rapidly expanding industries and so instead of reinvesting retained earnings into themselves (as many high-flying growth companies do). √ Who Pays Dividends? Income investors usually end up focusing on older. which have reached a certain size and are no longer able to sustain higher levels of growth. Thus.6 Income Investing Income investing. This measures the actual return that a dividend gives the owner of the stock. The more important gauge is the dividend yield. is perhaps one of the most straightforward stockpicking strategies. have historically paid a fairly decent dividend. stocks can also provide a steady income by paying a solid dividend. Dividend Yield Income investing is not simply about investing in companies with the highest dividends (in dollar figures). which aims to pick companies that provide a steady stream of income. calculated by dividing the annual dividend per share by share price. For example.100 and a dividend of 37 . Utility companies. and this trend should continue in the future. mature firms tend to pay out retained earnings as dividends as a way to provide a return to their shareholders. a company with a share price of Rs. more established firms. When investors think of steady income they commonly think of fixed-income securities such as bonds. Here we look at the strategy that focuses on finding these kinds of stocks.An Insights on Investor Behaviour 5. for example.Stocks To Riches -. However.
7 CANSLIM CANSLIM is a philosophy of screening. as well as intangibles like a company's overall strength and ideas. the co-founder of Investor's Business Daily.Stocks To Riches -. it is described in his highly recommended book "How to Make Money in Stocks". The best thing about this strategy is that there's evidence that it works: there are countless examples of companies that. The name may suggest some boring government agency. Not Fixed Income Something to remember is that dividends do not equal lower risk. Stock Picking. Developed by William O'Neil. met CANSLIM criteria before increasing enormously in price. The average dividend yield for companies in the S&P 500 is 2-3%. over the last half of the 20th century. or 6% return from dividends. In this section we explore each of the seven components of the CANSLIM system. but this acronym actually stands for a very successful investment strategy. higher dividends will result in lower retained earnings. What makes CANSLIM different is its attention to tangibles such as earnings. Because they are paid out of a company's net income. purchasing. Keep in mind that high dividends don't automatically indicate a good company. Problems arise when the income that would have been better re-invested into the company goes to high dividends instead. Dividends Are Not Everything You should never invest solely on the basis of dividends. 38 . and selling common stock.An Insights on Investor Behaviour Rs.6 per share has a 6% dividend yield. although the risk can be minimized by picking solid companies. 5. The risk associated with any equity security still applies to those with high dividend yields.
distinguishing between market leaders and market laggards is of key importance. Whether it is a new management team. see Types of EPS. S = Supply and Demand The S in CANSLIM stands for supply and demand. or a new high in stock price. √ N = New O’Neil’s third criterion for a good company is that it has recently undergone a change. √ L = Leader or Laggard In this part of CANSLIM analysis. (If you're unfamiliar with EPS. O’Neil found that 95% of the companies he studied had experienced something new. In each industry. and those that lag 39 .) √ A = Annual Earnings CANSLIM also acknowledges the importance of annual earnings growth. For example. a new product. The system indicates that a company should have shown good annual growth (annual EPS) in each of the last five years. which is often necessary for a company to become successful.Stocks To Riches -. there are always those that lead. which refers to the laws that govern all market activities. providing great gains to shareholders. a new market. a company’s EPS figures reported in this year’s April-June quarter should have grown relative to the EPS figures for that same three-month period one year ago.An Insights on Investor Behaviour √ C = Current Earnings O’Neil emphasizes the importance of choosing stocks whose earnings per share (EPS) in the most recent quarter have grown on a yearly basis.
M = Market Direction The final CANSLIM criterion is market direction. it is important to recognize what kind of a market you are in. it incorporates tactics from virtually all major investment strategies. growth. providing returns that are mediocre at best. and even a little technical analysis. This component of CANSLIM may require the use of some technical analysis tools. When picking stocks. all of the thousands of institutional money managers have passed over the company. Think of it as a combination of value.An Insights on Investor Behaviour behind. fundamental. they may end up investing a trend and thus compromise gains or even lose significantly. I = Institutional Sponsorship CANSLIM recognizes the importance of companies having some institutional sponsorship. whether it is a bear or a bull.Stocks To Riches -. which are designed to help investors/traders discern trends. CANSLIM is great because it provides solid guidelines. Against the Daily Prices and 40 . CANSLIM suggests that a stock worth investing in has at least three to 10 institutional owners. he argues that if investors don’t understand market direction. The idea is to separate the contenders from the pretenders. Best of all. Basically. this criterion is based on the idea that if a company has no institutional sponsorship. Volumes CANSLIM maintains that the best way to keep track of market conditions is to watch the daily volumes and movements of the markets. keeping subjectivity to a minimum. Although O’Neil is not a market timer.
Definitely not.An Insights on Investor Behaviour 5. he or she wastes little time deciding whether to exit his or her position. Picking Stocks with Technical Analysis Technicians have a very full toolbox. Whereas a value investor must exercise a lot of patience and wait for the market to correct its undervaluation of a company. Sometimes also known as chartists. prices and volumes. whether up or down. They literally have hundreds of indicators and chart patterns to use for picking stocks. it is important to note that no one indicator or chart pattern is infallible or absolute. depending on what direction the data is saying the price will move. using stop-loss orders to mitigate losses.8 Technical Analysis Technical analysis is the polar opposite of fundamental analysis. If a stock does not perform the way a technician thought it would. holding positions for short periods in order to capitalize on fluctuations in price. However. the technician must possess a great deal of trading agility and know how to get in and out of positions with speed. or technicians. select stocks by analyzing statistics generated by past market activity. A technical analyst may go short or long on a stock. the 41 . Technical analysts. Is Technical Analysis a Long-Term Strategy? The answer to the question above is no. Which is the basis of every method. Technical analysts are usually very active in their trades.Stocks To Riches -. technical analysts look at the past charts of prices and different indicators to make inferences about the future movement of a stock's price.
buying companies that may be trading higher than their intrinsic worth but show the potential to grow and one day exceed their current valuations. business model. 5.Stocks To Riches -. √ The GARP strategy is a combination of both growth and value: investors concerned with 'growth at a reasonable price' look for companies that are somewhat undervalued given their growth potential. industry and brand name. 42 . it is worth all of its future profits added together. In other words. as reflected by its fundamentals. or its intrinsic value. look for solid companies that pay a high but sustainable dividend yield. a company is worth the sum of its discounted cash flows.An Insights on Investor Behaviour technician must interpret indicators and patterns. Growth investors are concerned with the future. √ Value investors. √ Income investors. and this process is more subjective than formulaic. concerned with the present.9 Bird’s Eye on the above Strategies Let's run through a quick recap of the foundational concepts that are already covered in the above well-known stock-picking strategies and techniques: √ Most of the strategies discussed in this tutorial use the tools and techniques of fundamental analysis. seeking a steady stream of income from their stocks. look for stocks selling at a price that is lower than the estimated worth of the company. √ In quantitative analysis. whose main objective is to find the worth of a company. √ Some qualitative factors affecting the value of a company are its management.
√ Technical analysis. Be greedy when others fear” 43 . END OF CHAPTER V “Be fearful when others are greedy.Stocks To Riches -. but instead looks at past market activity to determine future price movements. new changes. institutional sponsorship. and market direction. the polar opposite of fundamental analysis.An Insights on Investor Behaviour √ CANSLIM analyzes these factors of companies: current earnings. annual earnings. and leadership in industry. is not concerned with a stock's intrinsic value. supply and demand.
An Insights on Investor Behaviour 44 .Stocks To Riches -.
numbers. market sentiments and trends. the first question asked is ‘How much investment investor should start with to realize good returns?’ The first thing to remember is that return is relative to many factors. It is relative to the duration that you’ve held the stock and relative to the risk you have taken. supply/demand.Stocks To Riches -. ‘I want to make money as soon as possible’. funds. it does not matter how much you invest. it is a combination of both science and art. Quick came the reply. to understand the global scenarios. Stocks or equity is one of the asset classes like savings instruments. commodities and real estate for investment.An Insights on Investor Behaviour CHAPTER VI BEHAVIOURAL FINANCE 6. Firstly. “It involves ratios. many people stick to ‘stock’ and forget the word ‘investment’. At a micro level. calculations. So the most important thing before entering is a proper homework and build confidence. Now turning focus back to stocks. making money has never been so simple and secondly when we talk of ‘Stock Investment’. this is a question to a group of people with common interest that ‘is stock investment is an art or a science?’ and got varied answers. When a common person builds interest in stock markets. ratios is science. interest rates and possess enough knowledge to join all the points to get the right picture and build the conviction to make up mind to buy or sell or to have patience not to buy or sell is an art. ‘what is your objective of stock investment?’ who showed interest in knowing the stock market. so it is a science”. details of the company finance. 45 . At the macro level. But in a nutshell. “Picking the right time to sell and buy is an art”. balance-sheet.1Conversation with STOCK INESTOR If u ask a simple question to a stock investor. and cash flow.
as now his partner would be out of action for quite some time.An Insights on Investor Behaviour The next common comment is ‘Investor got only Rs 50 return for the Rs1000. That person was worried. investor invested. After six months a few students complained to person about his colleague’s rude behaviour. 6. To start with one should understand that rate of return is not relative the amount you invest. They thought that they had been successful in removing him. They visited him at the hospital and took him flowers.Stocks To Riches -. 000.000 will also yield the same 5 per cent for Rs10. decisions that enrich us emotionally may impoverish us financially. They started off well and within a couple of months they were full to capacity. Behavioural finance is the study of how emotions and cognitive errors can cause disasters in our financial affairs. Hatred and resentment gave way to empathy and love. This news shocked that person. Frequently emotions prompt us to make decisions that may not be in our rational financial interest. One day that person learned that the colleague had brain tumour and needed an operation. They wanted him removed or else they would discontinue the classes. So never measure the return in absolute terms but in Percentages. The students were very happy. The allegation was that he was very short-tempered and arrogant. Moreover he was a brilliant professional and an able tutor. 46 . The students were stunned and this shock changed their attitude. Indeed. and investor was expecting more’. They repented their stand and prayed for his early recovery so that he could come back to teach. If a stock yields a return of 5% for Rs 1. He informed the students of this calamity. His colleague was his partner and he could not be removed.2Emotions Change Paradigms This is a true story of a person who ran a coaching class with one of his colleagues. After a couple of weeks the colleague fell ill and was absent for some time. The purpose of this story is to understand that as humans we are emotional beings and our behaviour and decisions are guided by our emotions.
It also assumes that humans are rational beings and will act to maximise their gains. We do it mechanically. Yet. 5 coin on the road. If you and I were walking down a busy street in Colaba and you said saw a Rs. So many people walk this road and the markets being efficient someone would have definitely picked it up. However behavioural economists believe that the markets are inefficient and human beings are not rational beings. This is a common mistake we make without realizing its pure economic implications. we give tips at the end of the meal. if we assume that people make rational decisions to maximise profits then how do we explain people giving to charities or throwing a party to celebrate a birthday or an anniversary? Definitely this is not about maximising profits by rational people. We even give tips when the service is substandard. I would say it’s impossible. But in reality we do come across such instances. This shows that the markets are not as efficient as they seem to be. Behavioural finance researchers seek to bridge the gap between classical economics and psychology to explain how and why people and markets do what they do. Behavioural finance raises a couple of important issues for investors.3 Classical Economic Theory v/s Behavioural Economic Theory The Classical Economic Theory talks about efficiency of the markets and people making rational decisions to maximise their profits. Tipping is more a custom. The acronym TIPS stands for: To Insure Prompt Service.An Insights on Investor Behaviour 6. The first is whether or not it is possible to systematically exploit 47 .Stocks To Riches -. Yet. It assumes that the markets are efficient and no one can take advantage of its movements. Consider this example. If tips ensure good service we should be tipping before the service starts. unaware that we are behaving irrationally. Here’s another example for how irrational we can be. in economic theory we are rational beings always intent on maximising our economic status. Further.
They seek to identify market conditions in which investors are likely to overreact or under react to new information. Ridiculously overvalue and undervalue stocks. The goal of behavioural finance strategy is to invest in or disinvest from these securities before most investors recognise their error. Jump in late and busy stocks that have peaked Take desperate risks and gamble wildly when Avoid taking the reasonable risk of buying Never find the right price to buy and sell stock.An Insights on Investor Behaviour Irrational market behaviour when it occurs. These mistakes cause under priced or overpriced securities. promising stocks unless there is an absolutely ‘assured’ profit. Buy when we have to sell and sell when we Buy because others are buying and sell In the stock markets. The second issue is how to avoid making sub-optimal decisions as an investor. a fact that is being increasingly recognised. Behavioural finance explains why in a rally just before the price declines. √ Investor: Hold on stocks that are crashing. and to benefit from the subsequent jump or fall in prices once they do. Sell Stocks that are rising. should be buying. 48 . Psychology can play a strategic role in the financial markets. Students and proponents of behavioural finance create investment strategies that capitalize on irrational investor behaviour. our stocks fall. The goal is to close the gap between how we actually make decisions and how we should make decisions. because others are selling.Stocks To Riches -.
An Insights on Investor Behaviour 6. investors become emotionally affected by the price at which they purchased the stock. as well as the embarrassment of reporting a loss. the result is regret of buying a losing stock and the regret of not selling when it became clear that a poor investment decision was made . theory deals with the emotional reaction people experience after realizing they've made an error in judgment. many people feel much less 49 . it's time to sell. or simply regret. Oddly enough. √ Regret Theory Fear-of-regret. "What are the consequences of repeating the same purchase if this security were already liquidated and would I invest in it again?" If the answer is "no". Some investors avoid the possibility of feeling this regret by following the conventional wisdom and buying only stocks that everyone else is buying. don't we? What investors should really ask them when contemplating selling a stock is. Regret theory can also hold true for investors who find a stock they had considered buying but did not went up in value.Stocks To Riches -. Faced with the prospect of selling a stock. fits in? Insight into the theory and findings of behavioral finance. So.and a vicious cycle ensues where avoiding regret leads to more regret.which is why there's a whole field of study that explains investor’s-strange behavior. otherwise. Let us look Where an investor.4 Understanding Investor Behavior When it comes to money and investing. We all hate to be wrong. they avoid selling it as a way to avoid the regret of having made a bad investment. Investor is not always as rational as they think they are . rationalizing their decision with "everyone else is doing it".
people get accustomed to healthy. Say. however. huh? An investing example of mental accounting is best illustrated by the hesitation to sell an investment that once had monstrous gains and now has a modest gain. and the difference between these compartments sometimes impacts our behavior more than the events themselves. gains. 50 . long-term averages and probabilities. During an economic boom and bull market. and mistakenly extrapolate recent trends that differ from historical. When the market correction deflates investor's net worth. Do you buy a Rs 20 ticket for the show anyway? Behavior finance has found that roughly 88% of people in this situation would do so. √ Mental Accounting Humans have a tendency to place particular events into mental compartments. They create mental compartments for the gains they once had. People tend to place too much credence in recent market views. When you arrive at the door. you realize your ticket is at home. they're more hesitant to sell at the smaller profit margin. different mental compartments. √ Anchoring In the absence of better or new information.An Insights on Investor Behaviour embarrassed about losing money on a popular stock that half the world owns like Reliance and Infosys . Notice. When you get there you realize you've lost a Rs 20 bill. Now. let's say you paid for the Rs 20 ticket in advance. investors often assume that the market price is the correct price. causing them to wait for the return of that gainful period. for example. opinions and events. that in both scenarios you're out Rs 40: different scenarios. albeit paper. same amount of money. Pretty silly.Stocks To Riches -. and tickets are Rs 20 each. you aim to catch a show at the local theater.than about losing on an unknown or unpopular stock. Would you pay Rs 20 to purchase another? Only 40 % of respondents would buy another.
A consequence of anchoring. is an over. When did it become a rational decision to invest in stock with zero earnings and thus an infinite price-to-earnings ratio (think dotcom era.An Insights on Investor Behaviour In bull markets. Many investors believe they can consistently time the market. investors become extremely pessimistic amid downturns. circa year 2000)?! Extreme cases of over. placing too much importance on recent events while ignoring historical data. √ Overconfidence People generally rate themselves as being above average in their abilities. investment decisions are often influenced by price anchors. At the peak of optimism. Over-/Under-Reacting Investors get optimistic when the market goes up. assuming it will continue to do so. investor greed moves stocks beyond their intrinsic value. 51 . They also overestimate the precision of their knowledge and their knowledge relative to others.or under-reaction to market events which results in prices falling too much on bad news and rise too much on good news. But in reality there's an overwhelming amount of evidence that proves otherwise.Stocks To Riches -. prices deemed significant because of their closeness to recent prices. with trading costs denting profits.or under-reaction to market events may lead to market panics and crashes. This makes the more distant returns of the past irrelevant in investors' decisions. Overconfidence results in excess trades. Conversely.
That said. But. Implementing a strategy that is well thought out and sticking to it may help you avoid many of these common investing mistakes. consistently uncovering these inefficiencies is a challenge. not to mention a dent in your wealth.opportunities to make money.Stocks To Riches -. Questions remain over whether these behavioral finance theories can be used to manage your money effectively and economically. irrational behavior. investors can be their own worst enemies. Trying to outguess the market doesn't pay off over the long term. 52 . it often results in quirky. producing inefficient markets and mispriced securities .An Insights on Investor Behaviour Bird’s Eye Behavioral finance certainly reflects some of the attitudes embedded in the investment system. Behaviorists will argue that investors often behave irrationally. That may be true for an instant. In fact.
An Insights on Investor Behaviour END OF CHAPTER VI “Gaps between perception and realty are where Investment opportunities are born” 53 .Stocks To Riches -.
Remember this: Do not invest in the stock market in order to lose money. investor need a plan before they buy their first stock. The most obvious clue that something is going wrong with his investments is that losing money. One rule is so important that investor should post it in front of their computer or on their desk: If they lose more than 10 percent on an investment. some investor holds onto their losing stocks too long. some of the mistakes which are done by retail investors are as follows: √ Mistake #1: Investor Don’t Sell Losing Stocks For a variety of reasons. Failure to get out of losing positions early is probably the number one reason why so many investing and trading accounts are destroyed. 54 . The main point is that investor should take action when their stock is losing money. no matter how many times people try to stop Investor from losing money in the market. sell. or they can make a mental note. they often don’t listen until it’s too late.Stocks To Riches -. Actually. They can put a stop loss order at 10 percent below the purchase price when they buy the stock. so they sell the stock. the biggest mistake investor can make is not recognizing himself that he had made one. It is only after losing most of their money that they finally admit that they made mistakes.An Insights on Investor Behaviour CHAPTER VII 7.1 Why Investors Lose Money INVESTOR LOSE MONEY Unfortunately. Here. There is nothing wrong with or unusual about making mistakes. They lost. A loss of more than 10 percent on an investment is a signal of a problem. The reasons investor hold onto losing stocks is primarily psychological. To keep your losses small.
the market takes away). allowing your ego to get in the way of your investing is a dangerous sign. An old but true saying is. If you sell a stock for a gain. One of the reasons the bull market was destined to end so abruptly was that too many people were making too much money and thought they were geniuses. becoming too emotional about your investments is a clue that you could lose money.” The point is that people thought they were geniuses. A common problem. Mistake #3: Inability to control their emotions is the main reason why most Investor Get Too Emotional about their Stock Picks people should not participate in the stock market. you are left with the lingering feeling that if you had held it a little longer. Although some self-confidence is necessary if you are going to invest in the market. is overconfidence. Some are still in denial about the fact that many of their favorite stocks will never return to even. many people are flooded with emotions that compel them to make the wrong decisions. When investing in the market with substantial money at stake. In contrast. it would have been less painful to have never made money in the market at all than to have won and lost it all. and one that especially afflicts those who have tasted success in the market. but in fact they were just being carried by the strength of a bull market. then sat back and watched helplessly while all their profits disappeared (what the market gives. you’d have made more money. “There are no geniuses in a bull market. some people made tons of money in the stock market. Many people lost not only their gains but their original investment as well.Stocks To Riches -.An Insights on Investor Behaviour √ Mistake #2: Investor let their Winning Stocks Turn into Losers It seems as if you can’t win no matter when you sell. 55 . In fact. Making money should be as boring as waiting in line at the supermarket. For these people.
many investors got so greedy that they couldn’t think straight.Stocks To Riches -. which although legal. You want stocks in companies that are so good that they will be profitable for years. • Stock prices in companies that had no earnings were doubling and tripling each day. did not seem fair to shareholders who lost money.” “People are hopeful when they should be afraid and are afraid when they should be hopeful. They were convinced that the good times would last forever. The signs of greed were everywhere: • A 15-year-old boy. (Many made their millions through stock options. • Stock analysts and CEOs were treated like rock stars.) • Thousands of people were quitting their jobs to become day traders. The SEC allowed him to keep half his profits. no one stock should make up more than 10 percent of your portfolio. 56 . made a million rupees pumping and dumping penny stocks.An Insights on Investor Behaviour Before the bull market’s abrupt end. • Many mutual funds were going up by over 100 percent a year. (In general. Jonathon Lebed. then buy stocks in conservative companies with low P/Es (less than 10) that pump up their returns with quarterly dividends. If you feel that you must bet all your money on only one or two stocks.” √ Mistake #4: One of the problems with investing directly in the stock market is Investor Bet Money on Only One or Two Stocks that most people don’t have enough money to maintain a properly diversified portfolio. “Hope is a dangerous thing. • The CEOs of dozens of companies were paid hundreds of millions of rupees in salary and compensation. it also protects you in case one of your investments does badly. even though their companies were losing money.) Although diversification limits your upside gains.
This has always worked for successful investors and mutual fund managers. but you must be realistic enough to realize that you could be wrong. Although the pros are right in claiming that you need discipline if you are to be successful in the market. many investors went down with the sinking ship. Some investors were so rigidly disciplined about sticking with their stock strategy that they didn’t react when the market and their stocks turned against them. Why? They didn’t know how it felt to lose money. you have a strategy. Because they had made money the wrong way. your plan. When the easy money stopped and the market plunged. One of the worst things that happened to many investors in the tech boom was that they made money in the market too quickly and easily. you also need to balance this with a healthy dose of flexibility. a plan. If you are disciplined.Stocks To Riches -. and a set of rules. and your rules. plan. It means that you have to stick to your strategy and obey your rules.An Insights on Investor Behaviour √ Mistake #5: Almost every professional investor will rightly claim that a lack of Investors Are Unable to Be both Disciplined and Flexible discipline is the main reason that most people lose money in the market. they were destined to give it all back. and no matter what you are feeling. 57 . you stick to your strategy. Discipline means having the knowledge to know what to do (the easy part) and the willpower and courage to actually do it (the hard part). many of them had no idea what to do next. and rules. Discipline is essential. √ Mistake #6: Most experienced investors and traders know that you learn more Investors Don’t Learn their Mistakes from your losers than from your winners. especially if you are losing money. In the name of discipline. You have to be flexible enough to change your strategy.
especially if they come from well-meaning but uninformed relatives or acquaintances. Instead of burying your head in the sand. there is a simpler way to find stocks to buy—stock tips. At the same time.An Insights on Investor Behaviour If you lose more than 10 percent in the market. It’s not useful to make excuses and act as if your stock losses are only paper losses that will be made up in the future. Analysts lied.”) The best advice you should received on the market was also the simplest: “Keep your ears shut” 58 . These people often become cheerleaders for a stock. Because it’s hard to say no to easy money (especially when the tip comes from a trusted source). everything doesn’t always work out in the end. economists misjudged the economy.Stocks To Riches -. trying to convince you to buy it. √ Mistake #7: If an investor eyes glaze over when they read about fundamental or Investor listens or Get Tips from the Wrong People technical analysis. In the market. Accept the loss and make sure you don’t make the same mistake again. Should you get your stock picks from experts? Don’t forget that most of the experts who appeared on television or were quoted in magazines were terrible stock pickers. The beauty of tips is that investors can make money without doing any work. greedy and lazy investors must take responsibility for buying stocks based on tips. In fact. there are a few things you can do. one of the easiest ways to lose money in the market is by listening to tips. there are some steps you can take to limit your risks. and accounting firms fudged the numbers to make losing companies look like winners. CEOs were overly optimistic. If this sounds too good to be true. it is. take the time to understand your mistakes. (“Everyone wanted to be a player but we ended up being played.
The biggest mistake many investors make is thinking that their stocks won’t go down. Mistake #9: √ Investor’s Aren’t Prepared for the Worst Before investor get into the market. and it seems like perhaps the worst possible time to invest. they should be prepared. the signal that a bull market is ending is that it seems as though everyone is in the market. Unfortunately. you must be prepared for the worst. they don’t win for long. a recession. When almost everyone is avoiding the stock market. create a “crash proof” plan based on logic and common sense. Conversely. deflation. They are not prepared for an extended bear market. If you study the psychology of group behavior. Unfortunately. 59 . If you study the lives of some of the greatest traders and investors in the recent past. not scared. you find many periods and events in history that attest to herd mentality—or the “madness of crowds. Keep in mind that perception about the market change very rapidly. it is excruciatingly difficult to think differently from everyone else.” as one author put it. a market crash. you will find that they often made their fortunes by doing the opposite of what the crowd was doing. Although you should always hope for the best. That means buying when other people are selling and selling when other people are buying.Stocks To Riches -. the bear market will end. no one rings a bell to announce the end. not fear. You have to figure it out for yourself. As mentioned earlier.An Insights on Investor Behaviour √ Mistake #8: If investor want to lose money? Then do what everyone else is Investor’s Follow the Crowd doing. Although the crowds can win. Even if you don’t expect a financial disaster. a signal of a bear market’s end is that people are too afraid to invest in the market. or an unanticipated event that will ruin the market.
Stocks To Riches -. It’s the fear of loss that prevents many people from buying at the bottom. You have to make a decision based on the best information you have at the time. fear results from a lack of information. if you can’t manage money. A little bit of fear keeps you on your toes.2 Things Every Investor Should Know (Investing Basics) There are a number of issues that investors should know and understand PRIOR to making investing decisions. Obviously. This gives you an opportunity to make an informed decision based on the facts. It’s the fear of missing out on higher profits that prevents people from selling before it’s too late. Just as harmful as mismanaging money is missing out on moneymaking opportunities. That is why it’s essential that you do your own research when a financial opportunity comes your way. If you think about it long enough. you’re destined to have financial problems. In the end. it’s not how much you make but how much you keep that matters. you aren’t privy to all the information that you need in order to be 100 percent right. you’ll realize that this makes a lot of sense. it’s not easy to find investments where you don’t lose money. but that shouldn’t stop you from trying. Do you want to know the secret to making money in the stock market or with any investment? Don’t lose money. but it’s one of the most important skills to have.An Insights on Investor Behaviour Mistake #10: √ Investor’s Miss Out or Mismanage Money Managing money is a difficult skill for most people. Unfortunately. 60 . Many times you’ll be wrong. Obviously. 7. not on emotion. Usually. but too much fear can cause you to miss out on profitable investments or trades.
The level of return you seek is tied to a level of risk.An Insights on Investor Behaviour Investing in a vacuum is never a good idea. you are on a journey. The professionals also do not have the luxury of holding on (or buying more of) when a specific security starts to tank. It is a well-known fact that in order to achieve higher return rates you must assume a higher level of risk which can and typically does equate to losses within a portfolio greater than many investors are comfortable with accepting. or in other words the higher the rate of return the higher the risk you assume. 61 . focused on the long-term. "I am more concerned about the return of my money than the return on my money". It is never wise to invest solely for the sake of "doing well" or "I want to retire comfortably".Stocks To Riches -. You should have no such worries over performance measurement but can simply sit back. This sounds ultra simplistic. They are judged solely by their performance and are therefore influenced to take more inherent risk in order to beat indexes and peers. Goals such as these leave too much ambiguity and room for error. Your portfolio should reflect your goals (to retire at 55 with a specific income). Think of it this way. How do you know if you have arrived if you do not know where you are going? Investor have an advantage over the pros Professional money managers are usually always tied to beating "the market" month to month and quarter to quarter. In fact as Mark Twain once remarked. In some cases something is considered "high risk" because it is unlikely to generate a moderate or high return. just because a holding or portfolio is high risk it is not necessarily capable of generating high returns. Earning a high level of return requires taking more risk. but taking more risk does not always equate to a higher return. risk tolerance. However. and wait it out. Set and establish goals for your future and determine how those goals are influenced by the results of your investing.
The Rule of 72. For those of you who wish your money to double every 3 or 4 years this should give you an idea of the level of return (and subsequent level of risk) you must achieve. The rule of 72 is one of those rules of thumb for quick and basic calculation.Stocks To Riches -. A good. The movements generated by the advice of those in the television and print media are not always the best for the investor. 62 .An Insights on Investor Behaviour Asset allocation is THE most important part of investing* Much more so than choosing the right security or being lucky enough to own the next Infosys. These formats are informative if taken lightly and in the proper amount but they are more interested in selling subscriptions and driving ratings than they are about giving quality advice. For example. asset allocation determines over 91% of the total portfolio performance according to an Ibbotson study. Many investors I have spoken with over time wonder about how long it takes to double their money. Turn off the talking heads on TV and put down the latest investment periodical. News only sells when it gets our attention and unfortunately that hardly ever equates to good news. Take the rate of return and divide it into 72. sound selection of asset classes mixed together will establish the framework of your portfolio performance over the long run. This is typically presented in a statement that they desire their money to double every 3 or 4 years. This will be the approximate amount of time it takes for the money to double at the specified rate of return. if you assume a 12% rate of return and divide 72 by 12 then your money would double in 6 years. Watch what you watch and read. END OF CHAPTER VII An investor should act as though he had a lifetime decision card with just twenty punches on it.
The attraction of quick money and the advent of the futures market have lured them to margin trading. the risk is exchanged every time the stock is sold and bought. and risk guidelines. Satyam. speculating can go wrong. However.Stocks To Riches -. The greatest problem today is that most investors are acquiring speculative habits believing that they are investing. Firstly. 63 .An Insights on Investor Behaviour CHAPTER VIII INVESTMENT STRATEGIES An investor's plan of attack to guide their investment decisions based on individual goals. Speculate without the right knowledge and skill. Investment strategies can differ greatly from a rapid growth strategy where an investor focuses on capital appreciation to a safety strategy where the focus is on wealth protection. On the contrary it is beneficial in two ways. The most important part of an investment strategy is that it aligns with the individual's goals and is closely followed by the investor. Secondly. risk tolerance and future needs for capital. 8. buy and sell guidelines. and in earlier times companies like Reliance. but it is never eliminated. The tempting chance of a huge gain is the grease that lubricates the machinery of innovation. However. The components of most investment strategies include asset allocation. would never have been able to raise the necessary capital for expansion. the seller still retains the residual risk of the chance that the stock he sold may go up. without speculation untested new companies like Infosys.1 A Good Strategy There is nothing wrong in speculation as such. Speculate beyond the capacity to take a loss (that is called margin trading). if people: Do not understand the difference between investing and speculating. When the buyer buys a stock he takes the primary risk that the stock will go down.
Not all strategies work during all market conditions. you can still lose money. 2. 64 . here are a few things you should remember: 1. It can take a long time before you find an investment strategy that not only makes sense but also increases the value of your portfolio.An Insights on Investor Behaviour For a number of people. Keep in mind that you aren’t limited to only one strategy. This could be bad news especially when they are dealing with their life savings. No matter what strategy you use.2 MONEY-MAKING STRATEGIES A strategy is a plan that helps you determine what stocks to buy Or sell. A strategy is only as good as the person using it. A stock can decline significantly in the short run and yet give a decent longterm return. Some investors and traders use a variety of strategies. If a particular strategy seems to make sense to you. no matter how brilliant and ingenious the strategy. this has become a full-time occupation due to the advent of the Internet and online trading. If you are new to the stock market. take the time to do more research.Stocks To Riches -. Nothing is Right or Wrong This conclusively proves a few points namely: Long-term investing can be very rewarding if you buy the right company at the right price. Short-term investing (speculation) can also be very rewarding if you are able to time the markets and take advantage of short-term volatility. 8. whereas others are comfortable using only one. In other words. it’s best to keep an open mind before choosing a strategy.
The other advantage of buy and hold is that because you are not constantly buying and selling stocks. and they intend to hold their reasonably priced stocks as long as possible. They are focused only on the business.Stocks To Riches -. you are paying very little in brokers’ commissions. They don’t sell because of what is happening to the market. in retrospect. √ Buy and Hold: The Most Popular Strategy for Investors The reasoning behind the buy-and-hold strategy is that if you buy a stock in a fundamentally sound company and holds it for the long term (at least a year). the only way to find out what ultimately works on Dalal Street is through trial and error. Money is the scorecard that determines whether your strategy is working. there are no magic answers to finding success in the stock market.An Insights on Investor Behaviour 3. Investors who bought companies like Infosys. or the stock price. and. Unfortunately. Don’t become so devoted to a strategy that you are blind to the fact that you are losing money. TCS. it worked extremely well during the bull market. you’ll realize a profit. For most people. Perhaps the only time buy-and-hold investors sell is if something fundamentally changes in a company. You have to take the time to find the strategy or strategies that fit your personality and lifestyle. Buy and hold is the easiest investment strategy to use. 65 . and RELIANCE in the early days made huge sums of money on paper without having to pay much attention to the market. the economy. The beauty of a buy-and-hold strategy is that you can buy a stock and watch it rise in price without having to constantly watch the market.
often costing lot of money. Momentum investing works best during bull markets when there is a lot of liquidity. it seemed as if no matter which stock you bought— especially if was an Internet stock—the stock would go higher. Although it is still possible to find momentum stocks. They don’t care too much about the price they paid as long as the stock goes higher. it’s not as easy as it was a few years ago.) Momentum investing. you will always be able to find a bigger fool who is willing to buy it from you. especially if it believes the decline is only temporary. although exciting and potentially profitable. √ Momentum Investing: Buy High and Sell Higher Momentum investors are growth investors who look for stocks that are ready to make explosive moves upward. People who used this strategy in the past made tons of money as the shares they bought kept going higher. In the go-go 2000s. (And it’s unlikely that we’ll see that kind of market environment again for many years to come. 66 . They buy stocks at a high price but plan to sell them at an even higher price. Although it’s possible to catch some of these stocks on the upside.Stocks To Riches -.An Insights on Investor Behaviour √ Buy on the Dip: An Offshoot of Buy and Hold In this strategy. The idea is that because the market always goes up over time (or generally has in the past). Some critics call momentum investing the “greater fool theory. people buy more shares. the shares bought at a lower price will eventually be worth more. it is definitely not as easy as it looks. Many momentum stocks can explode in either direction. In the 2000s. is a difficult strategy. Momentum investors tend to use technical analysis to look for stocks that will make sudden and dramatic moves in a short period. when a stock goes down in price. a surprise announcement or positive rumor could send stocks up 20 or 30 points in one day.” which means that no matter how high the stock price is.
day traders buy and sell within seconds.3 Simple Investment Strategy: Invest in IPO’s With more and more companies coming out with tempting IPO or additional offers. Prospects and Price. minutes. The four critical factors which need to studied in an offer document when making an investment decision are Promoter.Stocks To Riches -. 67 . who may wait years before selling. Performance. Using technical analysis. these issues have generated huge interest amongst the investors and raised thousands of crores. And most of them have given huge listing gains to the investors. Usually. it becomes necessary for the investors to become cautious and be more selective about their investments in IPO’s. And predictably enough. Therefore. Four critical factors to be studied in an IPO offer document. In such a scenario it is but natural for the euphoria to pass on to the primary market. seems to be tapering off and we are increasingly seeing public issues from the relatively not-so-good or known companies and at fairly stretched prices. before making an IPO investment. 8. professional day traders try to anticipate where a stock will go in the near future and trade accordingly. however. Day trading is an extreme trading strategy that involves constantly moving into and out of stocks. We have more and more companies coming out with IPO’s or additional offers. day traders sell all their stocks and move to cash by the end of each day.An Insights on Investor Behaviour √ Day Trading: Buying and Selling in Minutes Unlike investors. Practically all such issues have been hugely oversubscribed. This trend. there is greater need to exert caution and pick the best IPO investments. or hours. One good thing about the IPO market vis-à-vis the earlier times has been that most of them have been from good companies and at reasonable prices.
EPS etc. √ Study company performance The share price is the reflection of the operational performance of the company.An Insights on Investor Behaviour √ Check promoter standing This by far is the most important factor in any investment decision. Read the risk factors very carefully especially those pertaining to the promoter/management. the experience he has in the industry. Ensure that there are no dubious transactions. Therefore. a good management will take all necessary steps to ensure profitable performance. Secondly. would mean poor performance on the stock exchange. they would be constantly looking at new business opportunities. Look for any window dressing.Stocks To Riches -. Poor numbers say the sales. Check for any serious litigation against the promoter or the company. we are reasonably certain that the company money will not be deliberately misused or siphoned off to the detriment of the shareholders. thereby ensuring regular growth in the company. especially over long periods. Look at the loans given to group companies. without any justifiable reasons? Also look at the performance of the group companies and the intercompany transaction within the group. his track record. Thirdly. A good promoter or management team is important for any business success. Are the numbers in line with the similar companies in the industry? Is there any sudden improvement in the numbers just before the issue. While businesses may have their ups and downs. profit. it is important that the company has a track record of good operational performance. Are they paying reasonable interest? Is the loan likely to be repaid? 68 . investor complaints etc. See whether the company is a defaulter to the banks/FIs and the reason thereof. look at the promoter’s background. the performance of the other companies promoted by him. Therefore.
Look at the average industry PE and the companies EPS and try and estimate the fair price. √ Look at the price Finally of course every product/scrip has a right price based on its’ fundamentals and industry prospects. a high price is likely to reduce the prospects of appreciation at the exchange. should remain the cornerstone of an investment style” CHAPTER IX 69 RATIOS . which will add to the bottomline of the company? If its’ an offer-for-sale. Therefore.Stocks To Riches -. Such issues tend to quote below issue price over a period of time and it may be prudent to enter then. An issue which are overvalued. The amounts raised from the issue will not go to the Company. Therefore. there may not be much listing gain or loss. then one can consider investing. Buy value nor price. thereby defeating your purpose of investing. For follow-on issues the price is more or less known. the Company will not benefit from an offer for sale.An Insights on Investor Behaviour √ Understand future prospects The future prospects of the Company and the industry would play an important role in the performance of the scrip on the stock exchange. Again look for fair valued or undervalued scrip. A little time spent in reading the offer document and analysing the IPO on the above factors will help you to make right investment decisions and prevent you from ending-up holding a dud stock. Even if the above 3 Ps were favourable. How will they impact the future prospects? How will the funds raised be utilised? Will it additionally benefit the company? Is the money being raised for a new project. END OF CHAPTER VIII “Lethargy. Compare this with the issue price to see if it is undervalued or overvalued. bordering on sloth. than at the IPO stage. it means the existing shareholders are selling a part of their stake in the Company. If the purpose of the issue is to list the company on the stock exchange and the 4 Ps are positive. Check the objects.
and thus depend upon the expectations of buyers and sellers. 9. EPS serves as an indicator of a company's profitability. Diluted EPS expands on the basic EPS by including the shares of convertibles or warrants outstanding in the outstanding shares number. Prospects for companies of this type. data sources sometimes simplify the calculation by using the number of shares outstanding at the end of the period. because the number of shares outstanding can change over time. Among these are: The company's future and recent performance. 70 .An Insights on Investor Behaviour 9. However.1 Determining share prices Share prices in a publicly traded company are determined by market supply and demand. Calculate Ratios. New product lines.Stocks To Riches -. the "market sector" Prevailing moods & fashions.2 Earnings Per Share . it is more accurate to use a weightedaverage number of shares outstanding over the reporting term.EPS The portion of a company's profit allocated to each outstanding share of common stock. Calculated as: EPS In the EPS calculation.
To have faith in a comparison of P/E ratios.An Insights on Investor Behaviour 9. Calculated as: P/E Also sometimes known as "price multiple".3 Price/Earnings Ratio . the less you have to pay for the stock. If one stock has a P/E twice that of another stock. between countries.Stocks To Riches -. The main reason to calculate P/Es is for investors to compare the value of stocks. 71 . A valuation ratio of a company's current share price compared to its per-share earnings. it is probably a less attractive investment. The lower the P/E. one stock with another. and between time periods are dangerous. relative to what you can expect to earn from it. you should be comparing comparable stocks. But comparisons between industries. The higher the P/E the more over-valued the stock is.P/E Ratio: The Granddaddy of Stock Ratios The P/E of a stock describes the price of a share relative to the earnings of the underlying asset.
An Insights on Investor Behaviour Various interpretations of a particular P/E ratio are possible: 0-13 Either the stock is undervalued or the company's earnings are thought to be in decline. Either the stock is overvalued or the company's earnings have increased since the last earnings figure was published. Calculated as: ROE Essentially.ROE Measuring the Financial Health of a Company A measure of a corporation's profitability. The ROE is useful for comparing the profitability of a company to that of other firms in the same industry. 21-28 28+ N/A A company with no earnings has an undefined P/E ratio. Also known as Return on Net worth (RONW).Stocks To Riches -. ROE reveals how much profit a company generates with the money shareholders have invested in it. 72 . A company whose shares have a very high P/E either really does have an exceptionally rosy future or the stock may be the subject of a speculative bubble. 14-20 For many companies a P/E ratio in this range may be considered fair value.4 Return on Equity . 9.
if an investment does not have have a positive ROI. the benefit (return) of an investment is divided by the cost of the investment. be aware this varies by industry.6 Price-To-Book Ratio . or if there are other opportunities with a higher ROI. it could also mean that something is fundamentally wrong with the company. the result is expressed as a percentage or a ratio.5 Return on Investment . However. It is calculated by dividing the current closing price of the stock by the latest quarter's book value per share. To calculate ROI. 73 . Calculated as: A lower P/B ratio could mean that the stock is undervalued. Also known as the "price-equity ratio". 9. then the investment should be not be undertaken. As with most ratios. That is. Calculated as: Return on investment is a very popular metric because of its versatility and simplicity.Stocks To Riches -.An Insights on Investor Behaviour 9.P/B Ratio A ratio used to compare a stock's market value to its book value.ROI A performance measure used to evaluate the efficiency of an investment or to compare the efficiency of a number of different investments.
The dividend per share shows how much the company has paid out on each individual share. and so is worked out as:DIVIDEN PER SHARE = Dividends paid Total number of shares issued 74 . 9.7 Dividend Yield Ratio It is calculated to know what % of cash is earned on investment in particular scrip. Calculated as: Dividend yield ratio = DPS / MPS.8 Dividend Per Share Since the shareholders are the owners of the business. By law such payments can only be made out of current earnings or out of reserves (earnings retained from previous years). the shareholders. This is because the total amount a shareholder gets is reflected by their shareholdings in the company. 9. Publicly traded companies often make periodic quarterly or yearly cash payments to their owners.Stocks To Riches -. The dividend yield is the dividend paid in the last accounting year divided by the current share price. The resulting dividend is an amount of cash per share. in direct proportion to the number of shares held.An Insights on Investor Behaviour This ratio also gives some idea of whether you're paying too much for what would be left if the company went bankrupt immediately. The company decides on the total payment and this is divided by the number of shares. they are entitled to their share of the profits. and is usually expressed as an amount per share. This is paid out as a dividend.
Stocks To Riches -.9 Profit Margin Indicates what portion of sales contributes to the income of a company. END OF CHAPTER IX SMART PEOPLE INVESTS SMARTLY KNOWLEDGABLE PEOPLE INVESTS FOOLISHLY 75 . since they have no profit. Calculated as: Profit Margin = Net Income/Revenue This ratio is not useful for companies losing money.An Insights on Investor Behaviour 9. A low profit margin can indicate pricing strategy and/or the impact competition has on margins.
eight pieces of solid advice that will help you come out on top in the long run. 2) Sell the losers and let the winners ride! 3) Never invest on tips.Stocks To Riches -. 76 . however. 1) Use the Stop Loss order. These tips are by no means the only way to make money in the market. 5) Pay little attention to the P/E ratio.most of which never pan out? Problem is stock picks aren't what makes you a successful investor.An Insights on Investor Behaviour CHAPTER X INVESTING FUNDAS 10. They key to making money in the long run is understands the fundamental principles of investing. They are. 4) Stop worrying about the 1/8th. 8) Price is irrelevant. 7) Waiting for the market to correct. 6) Don't try to "time the market".1 √ FUNDAS OF INVESTING Tips for the Successful Long-Term Investor Many investing websites have hot stock picks and tips .
• Focus on factors such as profit margins. be sure there is still a built-in margin of safety. cash flow and general financial health. Ingredient #5: Know Thyself • Accurately assess your financial and personal situation and build a portfolio that is well-suited to your financial goals and personality. • Think about investments from the perspective of an owner and stop renting stocks. Ingredient #3: Avoid Big Mistakes (and Losses) • After analyzing your stocks for potential red flags. Ingredient #4: Don't Lose Sight of the Big Picture • Understand how the bigger picture affects a company before you invest in it.2 The 7 Ingredients to Market-Beating Stocks: Ingredient #1: Don’t “Pick Stocks” . • Don’t forget about price! Ingredient #2: Focus on the Important Factors • Once you filter out the noise in the stock market.Stocks To Riches -. Ingredient #6: 77 .Invest in Companies (At The Right Price) • It’s all about the fundamentals. you can objectively analyze stocks.An Insights on Investor Behaviour 10. • Look for companies with wide economic moats.
Ingredient #7: Remain Confidently Contrarian • When everyone is talking about something. 2) Always keep copies of all investment documentation (e. 4) Ensure that you are holding securities before you sell. contract notes). 7) If your broker can't help you to resolve your problem.g. 5) Give clear and unambiguous instructions to your broker/agent. write to the appropriate authorities. Explain your problem clearly and in brief. acknowledgment slips. Do’s & Don’ts for Investors Do’s 1) Always deal with the intermediaries registered with SEBI. it’s probably too late. 8) If the problem is still not resolved. 6) IF facing a problem act promptly.An Insights on Investor Behaviour Avoid Conflicts of Interest • Getting investment ideas from an unbiased source is critical (just ask those who invested in the tech stocks to which analysts had given "buy" ratings while privately calling them "junk"). application forms. Don'ts 78 .Stocks To Riches -. then talk to the stock exchange where transacted. Talk to broker and find a solution. 3) Ensure that you have money before you buy.
13) 14) 15) 16) Don’t transact based on rumors generally called ‘tips’. intermediaries.An Insights on Investor Behaviour 9) Don’t deal with unregistered brokers/sub-brokers. 10) 11) 12) Don’t forgot taking due documents of transactions. approvals could be for certain other purposes and not for the securities you are buying.Stocks To Riches -. in Don’t fall prey to promises of unrealistic returns. Don’t get misled from by companies agencies showing as the approvals/registrations Government good faith even from people whom you know. investments through post-dated cheques. Don’t forget to take note of risks involved in the Don’t get misled by guarantees of repayment of your Don’t panic when facing a problem. 79 . investment.
Very secure 80 . Grow at slightly above inflation rate c. Over the next ten years your annual family income is likely to: • • • a. 1. Go down substantially b. Your income source is: • • • a. Secure c. if you get a low score on this test. Between 36 and 55 c. Only yourself 4. Grow at more than 15 per cent a year 3. Risky b. This quiz will throw up an answer that will roughly tell you if you have the risk-taking ability. Tick the one most applicable to you. You may like to take more risk. 55 or over b. You are financially responsible for: • • • a. How old are you: • • • a.An Insights on Investor Behaviour The Risk Capacity Game Answer these questions to find out if you should even think of direct stock picking. Yourself and one more person c. but you may not have the profile to do so.Stocks To Riches -. Under 35 2. Yourself and three or more people b.
An Insights on Investor Behaviour 5. Less than one year or retired b. You are in debt (excluding the home loan) b. are: • • • a. How far away are your major financial goals? • • • a.Stocks To Riches -. Equal to six months salary or less c. don't own any real estate b. Your savings. Your own home on loan c. 2 to 7 years c. You won't retire for at least another 20-30 years Score in the following manner: Choice a: 1 point Choice b: 2 points Choice c: 3 points 81 . How many years until you expect to retire? • • • a. You won't retire for at least another 10 years c. Equal to two years salary or more 7. More than 8-10 years 6. You live in: • • • a. On rent. You are retired b. Your own home that is fully paid for 8. including retirement plans.
wants to maximize his profit. 14-19 -. You could look at allocating a small part of your equity asset allocation to direct stocks.An Insights on Investor Behaviour Final Scores: 8-13 -. Every investor . And minimize losses to least. Build a core portfolio with funds and then selectively use direct stocks to take more risk.High risk capacity. 20-24 -. Stay away from direct stock market investing. You certainly have the ability to go white water rafting. All equity exposure should come through mutual funds.Stocks To Riches -.Medium risk capacity. This adventure sport is not for you. Use the five tools we discuss to stay dry.” 82 .Very low risk capacity. Happy stock picking! END OF CHAPTER X “The human proclivity .it gets feared of losses and Gets induced to greed’s.
RAAMDEO AGRAWAL JMD MOSt & Portfolio Manager -MOSt PMS Profile of Raamdeo Agrawal – Date of Birth: 5th April 1957 Educational Qualification: Chartered Accountant Achievements: Co-Author of the book "CORPORATE NUMBERS GAME" in 1986 Joint Managing Director of Motilal Oswal Securities Ltd Author of annual "Wealth Creation Study *. Agrawal is an Associate of Institute of Chartered Accountant of India. Ram K Piparia.Stocks To Riches -. Raamdeo Agrawal is the co-promoter of Motilal Oswal Securities Ltd (MOSL) since 1987. he is respected by all in the research and broking industry of his valuable insights on issues related to equity research. An equity research stalwart. Mr. Agrawal authored the book Corporate Numbers Game.An Insights on Investor Behaviour CHAPTER XI INVESTMENT Guru’s Mr. He was awarded the Rashtriya Samman Patra by Central Board of Direct Taxes for a consistent track record of highest integrity in tax payments for a period of 5 years from FY95-FY99. 83 . Mr. His firm belief in “Value Investing” forms the core of MOSL investment philosophy. along with co-author Mr. In 1986.
Stocks To Riches -. The entire process was very exciting. 84 . I used to sleep reading them in my apartment. I don’t think I have learnt even one percent of what there is to be learnt. earn brokerage income and then invest the surpluses in the stock market. to be honest. you needed some capital. Broking is a great business I first began investing in 1980 on behalf of my brother who had about a lakh of rupees. But I did not know how to go about thing so. I began to think that I knew a lot about the stock market – much more than most of the guys on the street. Even to make a modest beginning. where does one get the first few thousand rupees to start with? I needed an idea that would enable me to begin without the comfort of adequate seed capital. Now. there was a strong desire to make big money. I used to go my broker’s office and there I saw some possibility of making money without actually investing in the stock market to start with. One grows by learning and every day I’m learning new things.An Insights on Investor Behaviour CIO: Could we start off by asking you what your overall investment philosophy is? RAAMDEO AGRAWAL: Investment philosophy evolves as one learns and grows The kind of ocean there is term of knowledge is amazing. However. I had a good grip on numbers and I wrote a book called The Numbers Game. The idea was to start as a stockbroker. There is nobody who can talk about a perfect philosophy of investing. I believe that one’s investment philosophy evolves as one learns and grows through such learning. When I began my travails with the stock market. I must have read over 500 balance sheets in the following three-four years. I started reading balance sheets in 1980.
I had a rough idea of what it takes to make money. Follow a focused approach to investing 85 . I came across a book on Warren Buffett. Buffett’s letter put things into perspective and I decided that I would never buy a stock that was not likely to earn 20-25 percent on its net worth going forward. I think. I used to think that if a company was big. A company that has identified its biggest competence and its confident of driving up its ROE substantially because of this is surely going to become rich. Buffett was. A lot of people who followed the stock markets – investors in the United States – had known of him and were regularly reading what he had to say. it is likely to go up substantially.” As a chartered accountant. But it was then that I realised that the real foundation on which good investment is based is the return on net worth. and focus on return on net worth. it got a high discounting.Stocks To Riches -. “Don’t focus on EPS. but the problem is that the whole market knows about such companies. I had never really tired to figure out what drove P/E. Though I had a little feel for this sort of thing – the return on my money – I had never focused much on that. This book was my first introduction to his views. famous much before that.An Insights on Investor Behaviour Then I came across Warren Buffett’s principles Then there was the first breakthrough – a ray of knowledge. In one of his letters he said. Companies that earn a 30-35 percent ROE are no doubt great. The Money Masters and some other book had interviewed him but I was not aware of that. I complied the letters right from 1977 and went through all of them in 3-4 months. The biggest opportunities can be found in a company that currently has low ROE but because of some inherent strength. Focus on Return on Net Worth I also happened to change on some of his letters and I found them extremely interesting. The Warren Buffett Way.
Even in the larger economies. If the customs duty on raw material increases or if the import duty on finished pens falls. RAAMDEO AGRAWAL: Yes.Stocks To Riches -. the economy as a whole is changing. Good businesses with sound management generally have a long life and their falling out of favour is normally a temporary phenomenon. Say for instance you hold shares of a company that manufactures pens.An Insights on Investor Behaviour Patience is an invaluable virtue I found that it is better to invest within your own stocks provided of course that you have chosen them with care. All the stocks in your portfolio will never remain at the peak. The whole environment is dynamic and as circumstances change. In fact. such instances often give you a good investment opportunity. it could have an adverse impact on the company’s profitability. If you do not keep a constant vigil on the businesses you have invested in. things are not stable. the prospects of the stocks you hold also change. You need to have patience. There will be some stocks that are undervalued and some stocks that are fairly valued. Always be vigilant CIO: You say buy and hold but don’t buy and neglect. You actually make money by sitting rather than by thinking. You have to allow a good company to run its own course before your investment begins to pay off. In India. you have to be constantly watching. It takes time for a young tree to flower and bear fruit. Focus on generating positive returns 86 . you could be caught on the wrong foot.
the company should have the potential to become large cap. market volatility is never an issue.Stocks To Riches -. The issue is that if it is not already large cap. unless a particular small cap company is really uniquely placed and has interesting ideas. I am basically concerned with picking very high quality companies for my portfolio. Pick high quality companies I generally invest in big companies. But now I am comfortable if we double our money in three years. No. I consider buying a stock with the intention to sell it within a year as speculation. Not that six months or three months is a short period but it doesn’t give me that tax break. So. Initially I used to think that we should double our money in two years. wouldn’t diversification help? RAAMDEO AGRAWAL: I have always focused more on generating positive returns from my investments rather than on what the market index does. the decision to hold the stock is driven by whether or not I think that it meets my basic criterion – the possibility of doubling in three years. My basic philosophy has been very simple. I am not saying that I consider only those companies that have market caps of at least Rs 5. which I don’t want to indulge in. So long as I am confident of the quality of the businesses that I have invested in. 000 crores. After one year. 000 crores or Rs 10. If all my 20-22 stocks were 87 .An Insights on Investor Behaviour CIO: But right now we are witnessing tremendous volatility in the market. anything with a holding period of less than a year is not of great interest to me. In such a scenario. that’s not the issue. I somehow don’t value very small cap companies as much as the large cap ones. I have no hesitation in picking it up. If I genuinely feel I have found a stock that will double in three years.
If a company has been able to achieve high ROE and ROCE for the last five-six years in a sustainable fashion. If you have the right temperament. however. I have never encountered such a position. I would have made a good fortune had I stuck to my positions. But I don’t have the temperament to sit with a short position.An Insights on Investor Behaviour affected by market volatility in the same manner and they all fell in line with or faster than the market indices. However. low gearing are some of the………… RAAMDEO AGRAWAL: It is possible that in a particular year a company might show extremely attractive financials. Profit & loss statements and balance sheet numbers can be suitably doctored to show a high return on equity. I have never made money by going short. I realise that those were very good decisions. I did try once or twice and when I look back. going short could be a much better way of making money. it is not possible to keep doing so in a sustained manner. Identifying a good business in not enough Examine whether good performance has been sustained CIO: In terms of quantitative measures would you say that high returns on equity. I am not comfortable even if my total short position is just one percent of my portfolio value. Risk arising out of market volatility cannot be eliminated unless you go into cash. So I’m not particularly concerned about market volatility so long as my portfolio is colorful. Follow a strategy that suits temperament CIO: Have you ever made money going short on any shares? RAAMDEO AGRAWAL: No.Stocks To Riches -. it is very unlikely that the management is not 88 . Of course. I am assuming that the laws are conductive to short selling. However. It is always the poor quality stocks that are most affected by market volatility and you need to be extremely worried if your portfolio is made up of such stocks. I would be deeply concerned.
by the same logic. but because there is so much of consensus that it is such a great stock. It is not easy to follow a disciplined approach to investing. one would comfortably get out. A sustained high ROE. If it is widely agreed upon that Infosys is a great company and it occupies the front pages of not only the national business dailies but also the global headlines. Normally. one would say. I am not a good enough artist.” But the stock might never again see a price 89 . you fall in love with a stock when it gets overvalued. Then you need to sell the steel companies you had bought on the premise that prices would rise. then it becomes difficult to take a contrary stand and sell the stock. Say you thought that steel prices are going to be up but global recession sets in and they actually fall. low gearing and a growing stream of profit is always associated with some unique business philosophy that has been guiding the company. “Let me wait for the stock to go up to at least Rs 100. if your predictions about its performance go wrong.An Insights on Investor Behaviour credible. I have also been guilty of breaking my own rules in the recent times. you should consider exiting. admit it and get out CIO: Are there any other factors that could influence you to exit a stock? RAAMDEO AGRAWAL: If a company is not behaving the way you thought it would. If you make a mistake. Typically. CIO: There is very little literature on what should determine one’s exit from a company: How do you decide when to exit? RAAMDEO AGRAWAL: If you get into a stock because it is undervalued. however. this is how one’s thought process would be: If one had bought at Rs 108 and the stock had run up to Rs 120.Stocks To Riches -. But if the stock had fallen to Rs 88. you should get out when it is overvalued. Not so much for the profit it has made for you.
” Even a slow and painful progress over time leads us forward. Never count on making a good sale I believe that if you identify about ten fast growing large companies and even if you go wrong on three-four of these. as part of our study on “Wealth Creation.” we had talked about the payback ratio or the purchase price recovery ratio. It has been my experience that the successful ones normally yield disproportionately high returns. “Rule 1: Never lose money. As long as I am sufficiently prudent in deciding my purchase price. wisdom is in getting rid of the stock at any price once you realize that your story has gone wrong. But we find that one can’t 90 . which you call the payback ratio.” As somebody once said. Could you discuss what this payback ratio is and how it works? RAAMDEO AGRAWAL: Yes. So long as we make good money we are not particularly concerned about the pace at which we do so. So. even a mediocre sale gives me a good return on investment or at least helps me to conserve my capital. I always love to keep that margin of safety when I buy a stock because I can never count on making a good sale. We never borrow – neither for our business not for our portfolio. Besides. which more than make up or the losses resulting from the failures.Stocks To Riches -. you could still get desirable returns on your portfolio. CIO: You had recently talked about a slightly different or a new valuation tool.An Insights on Investor Behaviour of Rs 100. The current P/E should reflect the figure growth scenario for a company. “I walk very slowly but I never walk backwards.” “Rule 2: Never forget rule one. I strongly believe in Buffett’s following two principles.
your wealth might have had multiplied by as much as 220 times. Today I have the benefit of saying this because I am looking back. Infosys’ payback ratio in 1995 was less than one. However. So we said let’s take a more relevant measure. In our last two studies we found that the overwhelming majority of the companies that do well on the stock markets show an earnings growth of at least 25 percent over the last three-four years. you’d have made a good investment. appear expensive now. If the P/E is 5. It could recover more than what it took to buy it in 1995 in the next five years. does it mean that the company can grow at 5 percent? I don’t think it is so. But had you bought it then.Stocks To Riches -. There are companies that grow at 25 percent but even then they do not make money. the stocks that we had found to be suitably price based on PEG calculations then. We took their market capitalization as they stood in 1995 and added their profits for the next five years to see whether they ‘paid back’ their market prices during that period. In 1995. So. This is because G has fallen. This may not be a sufficient condition. The problem with PEG is that it takes into account the last two or three years that we include. The issue here is how far into the future should one go? We assumed a five-year time frame and experimented with past data of recent multibaggers to see if the theory worked. It assumes a static condition for G going forward. you would have paid a price of Rs 380 crores for Infosys and in the next five years it would have earned Rs 500 crores. which is not true. The rewards of identifying such companies at the right time can be truly great. companies that are not growing at 25 percent 91 . the P/E per se is not a very good indicator of growth.An Insights on Investor Behaviour really figure out clearly how much growth is assumed. I mean it is coming to everybody’s notice in the last three month that whatever we had assumed in December is no longer true. So. I think if you bought a company at a price that is less than the present value of its future cash flows.
if you pay 11-12 times current earnings of this kind of company and if your projections are right. Thus.An Insights on Investor Behaviour definitely don’t make money. That sequence is very important. That is my last point. If 92 . the condition that a company should be growing at 25 percent is a good starting point. what payback ratio should he look at? If he is looking for a steady 20-25 percent kind of return. Unless I believe that a company’s earnings will double in the next five years. So. we saw that while Hero Honda’s P/E fell from 35 to 8 during the period. 25 percent should be the ROE then you PEG ratio should be 1/2. it went up from 8 to over 250 for IT companies. I do not consider an investment in it. If you are saying that 25 percent should be the earnings growth rate. I don’t mean that it is my starting point. is there a rule of thumb? If an investor is looking for a multibagger.Stocks To Riches -. Hero Honda had done better than many of the software companies on several parameters – whether it was free cash flow or earnings growth rate. I will always prefer investing in established large cap companies with good management. then what payback ratio should he look at? RAAMDEO AGRAWAL: I would be very comfortable with a payback ratio of less than one for a potential multi-bagger. Zeroing in on a low payback ratio is basically about trying to see whether the company can grow its earnings by 25 percent on a consistent basis. Five years back. Valuations would come after I am satisfied with the business and its management. it is unlikely that you will not make money. When I say I expect my investments to double in three years. Valuation should come last in your evaluation process CIO: So. So. But there had been no euphoria about the auto company. How much money you finally make will depend on the euphoria that the company generates.
An Insights on Investor Behaviour you start with the valuation first.000 listed companies. There are just about 100-150 listed companies that are really worth even looking at. what really determines your population of companies or your circle of competence? How do you go about determining what companies you would consider investing in? How many companies from the universe you would select from? RAAMDEO AGRAWAL: You can afford to completely ignore most companies. So I hate to invest in company which is not listed. CIO: How important is liquidity in your investment decision making? RAAMDEO AGRAWAL: I give liquidity a lot of importance. I’m not have trading volumes of one or two 93 . I am stuck with one of my largest investment because it is not listed. But I am not averse to investing in stocks that are out of favor looking should million. you could land yourself in serious trouble.Stocks To Riches -. I just for keep stocks my that tension levels low. In fact. CIO: Given that there are 10. I have let go of a number of good opportunities in the past because the stocks concerned were not listed.
top-down investing also has its own relevance. nevertheless. you may not be very much better off. It is. 94 . When you feel that a business has peaked out because of some bubble factor. even if you were investing in some other sector. There is constant monitoring with the help of the respective squadron leaders. a continuous process. It’s good you asked me that because I need to put it in perspective.Stocks To Riches -. but in terms of risk management. Particularly the risk associated with that business. Hence the stock that I replaced my earlier investment with also depreciated almost as much as the one that I sold.An Insights on Investor Behaviour CIO: Having invested in a stock. it might be wise to go into cash. CIO: And between these border thoughts of bottom-up investing and top-down investing have you by and large always been a bottom-up investor or you think that top-down investing has relevance an overall investment philosophy? RAAMDEO AGRAWAL: I have largely been a bottom-up investor. I did reduce holdings in some IT stocks but I went back searching for alternative stocks within the sector. In such circumstances. you are actually not reducing your risk. how frequently do you update yourself? RAAMDEO AGRAWAL: In fact. When the IT sector peaked. I have my own research department and I kind of eat what I cook most of the time – 99 percent of the time. I spend lot of time doing that. There is a practice of getting a valuation sheet organized value wise and business wise every day although I don’t really look at it on a daily basis. Say for instance. you get out of one overvalued IT stock and invest into another IT stock that you consider as undervalued at that point of time. But the records are maintained so that I am able to go through them whenever I feel that there is a need to do so.
move out CIO: Unfortunately. Could you tell us about the obvious indications that one could read into and hence avoid doing so? RAAMDEO AGRAWAL: I think the most obvious indication that the market is ripe for a fall is the entry of a large number of lay investors. the seasoned investor must start contemplating an exit. you’d fare better if you remained out of the market. In such times.Stocks To Riches -. you’d better avoid going there. it is better sit on cash. During such times you’d see that the pensioner. 95 . starts speculating in highly volatile stocks. investor can actually time the market as well? But if you don’t see a suitable investment opportunity. instead of trying to get half a percent more on his old-age provisions. When greed is pervasive.An Insights on Investor Behaviour CIO: Are you suggesting than an RAAMDEO AGRAWAL: No. I firmly believe that you should remain 100 percent invested both in good and bad times. I am not suggesting that. It is like asking should you go to the river for taking a bath. There is no problem about it but if it is actually swollen or extraordinary torrential. Trading volumes witness a massive increase and the market index shows no signs of falling. Situations like the 1992 boom or the recent tech boom are akin to the extraordinarily torrential river. it is time to move out. When you see that greed is pervasive. small investors typically enter the market at the wrong time. When people who do not know anything about the markets and who are not normally interested in them begin to invest passionately. Actually.
Fisher and Buffett. So. I consciously avoid getting deeper into investment techniques that I feel I do not have the temperament to follow. I am conservative and I look for value.Stocks To Riches -. I think I don’t have the capability to become a super doctor after meeting 10 doctors. margin of safety. the ones that stand out particularly are Graham.” When I buy a stock. But I am talkative and I like reading. focusing on value and the like. Although I have books on investing by several authors. 96 .An Insights on Investor Behaviour CIO: Who is your ideal in the investment world? RAAMDEO AGRAWAL: I have read several investment gurus and have benefited from them. Fisher talks more about growth companies and is closer to technology. However. I have particularly benefited from the concept of ‘margin of safety. I have been most influenced by Buffett and partly by Fisher. I look at it as buying a part of the company in question and not just as buying a share. I find it difficult to absorb things like asset stripping in special situations. Buffett has covered most of what Graham propounds – conservatism. I think I have been most fortunate to read Warren Buffett. I like more of growth investing than looking for some kind of dead value. I am listening to all these people. As I told you earlier. I strongly feel that you must have only one guru.
An Insights on Investor Behaviour Warren Buffet -. Investment philosophy: Investors should bet on companies that not only fit the Value Investing criteria. 97 .Stocks To Riches -. of course and now.Ace stock picker. They should ask questions about the earnings growth and consistency in margins return on equity and whether they retain earnings for future growth. but their business should have solid economics behind it. an empire-builder Background: A follower of Benjamin Graham. The Buffett Way Step 1. Buffet used a modified valueinvesting approach after he made a mistake by buying Berkshire Hathaway. then a textile firm. Turn off the Stock Market.
Step One: Turn off the Stock Market Remember that the stock market is manic-depressive. In “The Warren Buffett Way.” the first step is the most challenging. neither should you allow the market to dictate your actions. “It is just not necessary to do extraordinary things to get extraordinary results. Buy a Business.Stocks To Riches -. this behaviour creates opportunities. But if you have done your homework and understand your business and are confidence that you know more about your business than the stock market does. The Warren Buffett Way is deceptively simple.” Whenever people try something new. There are no computer programs to learn or two-inch thick investment banking manuals to decipher. But just as you would not take direction from an advisor who exhibited manic-depressive tendencies. Don’t worry about the Economy. give it your money by investing in index funds. particularly when shares of outstanding businesses are available at irrationally low prices. If you believe that the stock market is smarter than you are. Adopting a new and different investment strategy will naturally evoke some uneasiness. the rest of the way is easy. not a stock. it exists merely to assist you with the mechanics of buying or selling shares of stock. turn off the market. Sometimes it is wildly excited about future prospects and at other times it is unreasonably depressed.An Insights on Investor Behaviour Step 2. Buffett does not have a stock quote machine in his office.” says Buffett. Manage a Portfolio of Businesses. “What we do is not beyond anybody else’s competence. Step 4. There is nothing scientific about valuing a business and then paying a price that is below this business value. Step 3. The stock market is not a preceptor. and he seems to get by just fine without it. If you can master this first step. If you plan on owning shares in an 98 . there is initial apprehension. Of course.
despite your inattention to their stock quotes. “We don’t need a daily quote on our 100 percent position in See’s or H. Don’t look at a machine. what happens in the market on a day-to-day basis is inconsequential. Buffett considers this thinking foolish.An Insights on Investor Behaviour outstanding business for a number of years. “says Buffett. If after two days you companies are well. give yourself a test. then. we would not be disturbed if markets closed for a year or two. Buffett dedicates no time or energy analysing the economy. whether interest rates or moving up or down. You will be surprised that your portfolio weathers nicely without you constantly looking at the market. Why. and then for a whole week. STOP! Give yourself a break. don’t check the newspaper.H. You know you have approached Buffett’s level when your mind is: “Has anybody done anything foolish lately that will allow me an opportunity to buy a good business at a great price?” Step Two: Don’t Worry About the Economy Just as people spend fruitless hours worrying about the stock market. or whether there is inflation or disinflation. you inevitably invite turnover and 99 . Try not to look at the market for forty-eight hours. if you select stocks that will benefit by a particular economic environment. Second. Often investors begin with an economic assumption and then go about selecting stocks that fit nearly within this grand design. If you find yourself discussing and debating whether the economy is poised for growth or tilting toward a recession. First. try turning off the markets for three days.Stocks To Riches -. so too do they worry needlessly about the economy. Except for his preconceived notions that the economy inherently has an inflation bias. no one has economic predictive powers any more than they have stock market predictive powers. consequently. don’t listen to a stock market summary. Pretty soon you will be convinced that your investment health has survived and that your companies are still operational. should we need a quote on our 7 percent interest in Coke?” The same holds true for individual investors. “After we buy a stock. Brown to validate our well being. If you don’t believe so. don’t read a market dairy.
what are you going to think about? Probably many questions will run through your mind. and produces profits. initially causing a great deal of confusion. let us also pretend that once you have made your decision. he would methodically begin with: Business Tenet: Is the business simple and understandable? You cannot make an intelligent guess about the future of your business unless you understand how it makes money. Of course. Time is more wisely spent locating and owning a business that has the ability to profit in all economic environments than by renting a group of stocks that do well only if a guess about the economy happens to be correct. it cannot be changed and. Now. Ultimately. you have to hold the investment for ten years. Business Tenet: Does the business have a consistent operating history? Step Four: Manage a Portfolio of Businesses 100 . Buffett prefers to buy a business that has the opportunity to profit regardless of the economy. Step Three: Buy a Business. the wealth generated from this business ownership will support you in your retirement. Whether you correctly predict the economy or not. macroeconomic forces may affect returns on the margin. Too often individuals invest in stocks without a due as to how a company generate sales. To make it interesting. you have the ability to intelligently proceed further in your investigation. But if Buffett were given the same test. If you can understand this economic process. Not a Stock Let’s pretend that you have to make a very important decision.Stocks To Riches -. Buffett’s businesses are able to profit nicely despite vagaries in the economy. incurs expenses. furthermore. Tomorrow you will be given an opportunity to pick one business in which to invest. your portfolio is continuously adjusted to benefit in the next economic scenario.An Insights on Investor Behaviour speculation. but overall.
“On the other hand. Multiply the earnings per share by the number of shares you own to calculate the total earnings power of your companies.” he notes. it ceases to be dumb. or fifty stocks in your portfolio to achieve adequate diversification. they should own a large number of equities and space out their purchases over time.Stocks To Riches -. will produce the highest level of look-through earnings. just as Buffett does. “Paradoxically. “if you are a know-something investor. There is nothing shameful about becoming an “index investor. Because you are no longer measuring your success solely by price change or comparing annual price change to a common stock benchmark. you have the liberty to select the best businesses available. If a businesses. conventional diversification makes no sense to you. other words. forty. If these “know-nothing” investors want to own common stocks. is to create a portfolio of companies that. Buffett points out. The “know-nothing” investors should use an index and dollar cost average purchases. the index investor will actually outperform the majority of investment professionals. “Buffett says. 101 . The goal of the business owner.” In fact. nor do you have to include twenty. “Buffett asks you to consider: Investors can measure the economic progress of their business portfolio by calculating their look-through earnings. There is no law that says you must include every major industry within your portfolio. the competition of your portfolio will change. able to understand business economics and to find five to an sensibly-priced companies that possess important long-term competitive advantages.An Insights on Investor Behaviour Now that you are a business owner as opposed to a renter of stocks. “when dumb money acknowledges its limitations. thirty. why should it be any different for the owner of common stocks? Buffett believes that wide diversification is only required when investors do not understand what they are doing. Buffett explains. in ten years.
corporate management understand this when they focus on their won business operation. “that owns a subsidiary with superb long-term economics is not likely to sell that equity regardless of price. now becomes the highest priority in your portfolio. “A parent company.” END OF CHAPTER XI “An investor needs to do very few things right as long as he or she avoids big mistakes” 102 .An Insights on Investor Behaviour Because growth of look-through earnings.Stocks To Riches -.” A CEO wanting to increase the value of his business will not sell the company’s “crown jewel. not price changes. Ironically.” Yet this seems CEO will impulsively sell stocks in his personal portfolio with more logic than “you can’t go broke taking a profit.” Buffett explains. many things begin to change. you are less likely to sell your best businesses just because you have profit. First.
Stocks To Riches
-- An Insights on Investor Behaviour
Sector Analysis\ Reasons
1. Festival. 2. Auto Sector 3. Sales will High 1. BAJAJ 2. HERO HONDA 3. MARUTI increase. spending Power, because of bonus, salary increment, 4. rates 5. Easy Availability of Loans. High Credit Demand Low Interest Rates Banking Sector Low Inflation Bond Prices are high. 1 year Laggards 1. High Demand despite of Monsoon Cement Sector 2. Now 2. JP ASSOCIATES Monsoon Over, Prices will be high 3. As per the current situation, Demand is high and supply is low. 1. ULTRATECH 2. PNB 1. SBI Low Interest Diwali
Stocks To Riches
-- An Insights on Investor Behaviour Retail Sector 1. 2. Festival 3. Sales. Increase in More Diwali PANTALOONS INOX PVR Spending power
My Investment Strategy
After completing Workshop on Capital Market, I took decision of investing in shares. I started buying and selling shares in the month of August, 2005, when the bull market was just started, I opened my demat account in India bulls, because 2 of my friends suggested me to do so. Account was opened, now I have to deposit money into the account for buying shares. I started my investment with Rs. 5000, which I borrowed from my father. After completing all the formalities, I start looking which to company to buy, why to buy, what will be my investment strategy and these types of questions was coming in my mind. I started buying shares with the trading strategy, because the amount which I was having was too small, I can’t buy shares and hold, so my goal was to maximise wealth by hook or by crook. You must be thinking with only Rs 5000 how can I trade, because of India bulls, they have a facility called as 4x (times) margin available on ur deposit. So, I can trade unto Rs 20, 000. My investment strategy while buying shares. Is to call the broker, ask him intraday or short selling scrips, and ask him whether it will give profit or not, then too decide how many shares to buy for intraday or for short selling. At the end of the day either profit or loss. This type of investment strategy is because of lack of money.
Stocks To Riches
-- An Insights on Investor Behaviour But then I decided to buy shares for delivery, for that I started investing in IPO’s, which I believe is the easiest path of earning good profits in equities. But after completing this project, I came to a decision, to change my behaviour, and my investment strategy. Want to become a Long Term Investor, or a Value Investor. My aim while purchasing a stock I will its balance sheet and several ratios, which are required while analysing the correct price.
Now that you are aware of the risks as well as the rewards. more knowledgeable.Stocks To Riches -. you have choice. however. you can survive and prosper as a twenty-first-century investor. You have no one to blame but yourself when you do. don’t do it. You’re completely on your own. It is as serious as raising children or working at a fulltime job. If you aren’t willing to do your own homework (independently do research on companies and stocks) and must depend on a stockbroker or a stranger on television to tell you what stocks to buy or sell. On the other hand.” 106 . nor will your broker. if you decide that stocks are not for you. be aware that you are entering a battlefield populated by sharks that want your money. This misinformation that should help you no matter what you decide to do in the future. the government won’t help you. When in doubt. If you are willing to take the time to learn what works on Dalal Street. “It’s been a pleasure sharing my knowledge with you. at least you have a better understanding of how the stock market works. Remember that making money in the stock market is serious business. Always be on the lookout for profitable money-making opportunities while remaining cautious. you have to be faster. I wish all of you the best of luck and hope that all your financial dreams come true. Don’t stop until you have created a successful portfolio. and more flexible than investors in the past. you must fight them with knowledge (a very effective shark repellant). In the end. If you are going to invest in the market.An Insights on Investor Behaviour Conclusion Before you attempt to buy your first stock. If you lose money. you must take responsibility for your own investments. you are destined to lose money. To win.
bse.com BOOKS India’s Money Monarch.com www. Investing Secrets. The Warren Buffet Way.esnips.investmentu. How to build wealth like Warren Buffet.investopedia.An Insights on Investor Behaviour BIBLIOGRAPHY WEBSITES www.Stocks To Riches -.com www. NEWSPAPERS Economic times 107 .com www.
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