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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
Stocks To Riches -. The two other basic types are closed-end funds and Unit Investment Trusts (UITs). or other securities. short-term money-market instruments. A private investor who buys shares through a stockbroker for his/her private portfolio. Also known as individual investor or small investor. 4 ." a mutual fund is one of three basic types of Investment Company. bonds.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. as opposed to an institutional investor. Legally known as an "open-end company. √ Mutual Funds A mutual fund is a company that pools money from many investors and invests the money in stocks.
By aggregating the funds of a large number of small investors into a specific investments (in line with the objectives of the investors). individual investors should be able to save on trading costs since the investment company is able to gain economies of scale in operations. pension funds and mutual funds. Also. Institutional investors include hedge funds.Stocks To Riches -. The term is used most commonly in India to refer to outside companies investing in the financial markets of India. insurance companies. There are two types of investment companies: open-end (mutual funds) and closed-end (investment trusts). International institutional investors must register with the Securities and Exchange Board of India to participate in the market. One of the major market regulations pertaining to FIIs involves placing limits on FII ownership in Indian companies. END OF CHAPTER I “Never invest in a business you cannot understand” CHAPTER II 5 STOCKS .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. An investor or investment fund that is from or registered in a country outside of the one in which it is currently investing. √ Investment Company Firm that invests the pooled funds of retail investors for a fee. an investment company gives individual investors access to a wider range of securities than the investors themselves would have been able to access.
you have the owners of corporations who are looking for a convenient way to raise money so that they can hire more employees. Stock markets are the barometer of an economy. √ Regulator 6 . He who understands this psychology is able to manipulate the markets by using the different participants at different times. No government likes depressed stock markets. On the other side. On one side. the buyers and sellers.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. √ Government At this point when the world has become a global village and each country wants to attract foreign capital. Booming stock markets create confidence and spur the governments to go ahead with their economic policies.Stocks To Riches -. The place where we all meet. The way they raise money is by issuing shares of stock in their corporation. Now let’s see what each one wants from the markets. and upgrade their equipment. 2. you have people like you and me who buy shares of stock in these corporations. build more factories or offices. is the stock market. governments need booming markets.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.An Insights on Investor Behaviour 2. They send positive signals to foreign investors when they are in a bull phase.
This results in higher incomes for the brokers. Financially healthy companies are able to attract and retain good talent. margin trading. √ 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. √ Stock Exchanges They facilitate stock transactions.An Insights on Investor Behaviour Appointed by the government. The net worth of owners increase and companies can mop up more capital for expansions. It also results in additional revenue in the form of higher transaction and service charges due to the increase in turnover. √ Mutual Funds 7 .Stocks To Riches -. and keep their shareholders happy. etc. √ Companies Rising markets lead to higher stock prices. During boom periods. etc. the regulator also like booming stock markets. √ Banks Their business increases with soaring stock markets as opportunities open up in lending against stocks. depository and custodial business. listing fees.
He is the king-maker who uses his knowledge to win over investors. He knows the system. Day traders become very active as they are rewarded with easy gains. he understands the psychology of the participants. 2. They are also able to come out with different kinds of funds to satisfy every requirement.An Insights on Investor Behaviour Higher Stock price means increased net asset values. and he has the ability to exploit that for his own benefit.STOCK 8 . √ Media The media plays a pivotal role in spreading information. √ Investors The lure of quick money draws investors in a bull market. and higher asset management fees.3 Understand the Term . which translates into increased advertisement revenue.Stocks To Riches -. Rising markets attract more investors which mean more money under management. An increase in investors means increased viewers/readers. brokers and company management. √ Operators He is the smartest and shrewdest of all. He is aware that the Bull Run psychology creates the Bull Run.
stock prices rise and fall with supply and demand. Stock is simply a portion of a company. stock is the capital raised by an organisation through the issuance and distribution of shares. however mass sales will also drive a price in the negative direction. Usually. Value. An IPO is underwritten by an investment banker that decides what the stock is worth and when it is best to issue it.Stocks To Riches -.An Insights on Investor Behaviour In financial markets. When a company issues stock for the first time. Usually stock is issued to raise money for a variety of reasons: expansion. The price will rise when everyone wants the stock and is buying it. By owning stock. Professional analysts and investment bankers who issue buy/sell/hold ratings also affect the price. 2. Prices will drop when a particular industry takes a fall. Nonetheless. or when there is too much debt. Volatility is when a stock price goes up or down.4 Classifying Stocks: Income. when the company management is failing. Stocks are bought and sold on stock exchanges. such as the BSE & NSE. when the economy has a general downturn. A person or organization which holds shares of stocks is called a shareholder. to pay off debt and acquiring other companies. developing new products. it is called an initial public offering or IPO. there are other reasons for stock prices to fluctuate. & Growth 9 . The aggregate value of a company’s issued shares is its market capitalization. you are a shareholder.
It takes a lot of research to find a company whose price is a bargain compared to its value. 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. income stocks can fall just as quickly as other stocks. which include share of corporations that give money back to shareholders in the form of dividends (some people call these stocks dividend stocks). stocks that pay a regular dividend are less volatile. In addition. Just because you own stock in a so-called conservative company doesn’t mean you will be protected if the stock market falls. which is fine with the conservative investors who tend to buy income stocks.Stocks To Riches -. or value. Growth Stocks 10 . so you have to report the money you receive to the IRS. usually older individuals who are near retirement. of course. even if not as quickly as other stocks. Some investors. is determining what a company is really worth—what investors call its intrinsic value.g. Some low-priced stocks that seem like bargains are low-priced for a reason. such as insurance companies and banks that are likely to increase in price in the future. The trick..An Insights on Investor Behaviour Income Stocks The first category of stocks is income stocks. dividends are considered taxable income. They may not rise or fall as quickly as other stocks. There are also a number of disadvantages of buying income stocks. Investors who are attracted to value stocks have a number of fundamental tools (e. Value stocks are often those of old-fashioned companies. First. Value Stocks Value stocks are stocks of profitable companies that are selling at a reasonable price compared with their true worth. P/E ratios) that they use to find these bargain stocks. Another advantage of stocks that pay dividends is that the dividends reduce the loss if the stock price goes down. if the company doesn’t raise its dividend each year and many don’t—inflation can cut into your profits. Second. Finally.
For example. Most of the time. Penny Stocks Just as their name suggests.5 a share). They are often in high-tech industries. you made a 100 percent profit. as the corporation wants to use every cent it earns to improve or grow the business.50. no earnings.0. you could put your order in at Rs 0. and a couple of days later the stock could fall to Rs. although this is not easy. Even with their low price. That is the beauty of penny stocks.Stocks To Riches -. This is because growth investors believe that the corporation will earn money in the future and are willing to take the risk. penny stocks are so cheap for a reason. This is ideal for short-term traders but unnerving for many investors. growth stocks won’t pay a dividend. they can make sudden price moves in either direction.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.1000 you can buy 2000 shares of an Rs 0. A number of traders specialize in these stocks. If the stock ever makes it to a rupee. The advantage of trading penny stocks is that the share price is so low that almost everyone can afford to buy shares. They are also called pink sheet stocks because at one time the names and prices of these stocks were printed on pink paper.75 a share. That reason could be poor management. but whatever it is. the trading volume on penny stocks is exceptionally low.50 penny stock. On the other hand. 2. After all. there usually aren’t enough buyers to make the stock go higher. It happens all the time. 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. with only Rs. or too much debt. The price of growth stocks can be very high even if the company’s earnings aren’t spectacular.5 What Makes Stocks Go Up or Down 11 . Because growth stocks are so volatile.
then the stock you own should go up in price. you should pay attention to anything that may affect your stocks. 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. Quite simply.An Insights on Investor Behaviour When you invest in the market. whether we would win the war on terrorism. you can shift your money into more profitable investments. or a recession will cause havoc with the stock market. gold. it is uncertainty. If there is anything the market hates.6 You Buy Stocks for Only One Reason: To Make Money The stock market is all about making money. and whether the United States was going to war.Stocks To Riches -. As an investor or trader. if you buy stock in a company that is doing well and making profits. or real estate. a war. It doesn’t always work out that way. of course. 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. Any one of these events can send the market lower as investors seek protection in cash. you should be rewarded with a higher stock price. you must be aware of outside events. END OF CHAPTER II “Never Love or Marry your Stock. If you buy stocks in companies that do well. Sometimes it helps to step back and see the bigger economic picture. One of the reasons the most recent bear market lasted so long was that no one knew when the recession would end. that you’ll make money. 2. It’s that simple. Even the stocks of good companies can sometimes go down. Just have a Short Term Affair” CHAPTER III 12 INVESTORS . Some pros believe that having a thorough understanding of the investment environment is more important than picking the right stock. There is no guarantee.
or simply lack any basic understanding about investing.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 brokerage transactions 7. The control over the terms and conditions of the agreements 9. the control over entity. need more control. This is where many investors lack control. The control over yourself 2.1 The Ten Investor Controls 1. and characteristics) 8. The control over access to information 10. redistribution of wealth. The control over taxes 5. However. The control over the management of the investment 4.” Many people find investing risky because they are not in control of one or more of these ten investor controls. philanthropy. 13 . The control over the ETC (entity. timing. The control over income/expense asset/liability ratios 3. 3. The control over giving it back. The control over when you buy and when you sell 6. and characteristics. investor may gain some insights on how he can gain greater control as an investor—especially control number 7.Stocks To Riches -. timing.
you should turn your money over to competent financial advisors who can assist you with your investment decisions. Here. √ Investor 1. Through their education. If you choose not to invest your time in your financial education. A long-term investor who has chosen to invest for security and comfort may very well qualify as an accredited investor. we define qualified investor as a person who has money as well as some knowledge about investing. he said qualified investors would include most professional stock traders. As it relates to the stock market. The control over income/expense asset/liability ratios 5. you will have access to investments that most people do not. however. If you can qualify as an accredited investor. This investor would be considered an “outside” investor as opposed to an “inside” investor.2 Types of Investors The Accredited Investor The accredited investor is someone with high income or high net worth. The Qualified Investor The qualified investor understands how to analyze publicly traded stock. Generally. To be successful in choosing your investments. you still need financial education.An Insights on Investor Behaviour 3. qualified investors include stock traders and analysts. A qualified investor is usually an accredited investor who has also invested in financial education. for example. they have learned and understand the difference between fundamental investing and technical investing. The control over when you buy and when you sell 14 The Investor Controls Possessed by the Qualified . The control over yourself 2.Stocks To Riches -.
From the sophisticated investor on. The control over the E-T-C (entity.Stocks To Riches -. √ Investor 1. They know that on one side of the coin. and securities laws to maximize both earnings and to protect the underlying capital. these investors know that there are two sides of the coin. 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. some investors can invest on their own. The control over brokerage transactions 6.An Insights on Investor Behaviour The Sophisticated Investor The sophisticated investor typically has all “three Es. corporate. The control over when you buy and when you sell 5.” In addition. It is a world where you definitely do not want to do things on your own. your goal should be to become a sophisticated investor. the sophisticated investor understands the world of investing. If you want to become a successful investor but do not wish to build your own business to do so. an investor must enter with their team. The control over taxes 4. He or she utilizes the tax. timing. On the black and white side of the coin. characteristic) The Investor Controls Possessed by the Sophisticated 15 . The control over yourself 2. The control over income/expense and asset/liability ratios 3. On the gray side of the coin.
Sometimes people refer to these options as "investment vehicles. This includes putting money into stocks. there is a limit to how many hours a day we can work. Essentially. The point is that it doesn't matter which method you choose for investing your money. And that's exactly what most of us do. you can also be earning money elsewhere.Stocks To Riches -. which we'll discuss in a later section of this tutorial. not being in control is risky. That way. bonds.1 What Is Investing? The act of committing money or capital to an endeavor with the expectation of obtaining an additional income or profit. decide to work overtime or look for a higher-paying job.An Insights on Investor Behaviour END OF CHAPTER III CHAPTER IV INVESTING Investing is not risky. the goal is always to put your money to 16 . It's actually pretty simple: investing means putting your money to work for you. Quite simply. mutual funds. There's one big problem with this: if you want more money." which is just another way of saying "a way to invest. or even mowing your lawn. Growing up. 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. it's a different way to think about how to make money.to work. or starting your own business. There are many different ways you can go about making an investment." Each of these vehicles has positives and negatives. However. making your money work for you maximizes your earning potential whether or not you receive a raise. sleeping. while you are putting in hours for your employer.your money . most of us were taught that you can earn an income only by getting a job and working. so instead. reading the paper or socializing with friends. or real estate (among many other things). you have to work more hours. you need to send an extension of yourself .” 4.
understands the behaviour of the stock markets. But the sentiment changed.3 Why Investing so Difficult The most difficult part of investing. Take for instance the black Monday in May 2004. he or she performs thorough analysis and commits capital only when there is a reasonable expectation of profit. A "real" investor does not simply throw his or her money at any random investment. it's the most important concept for you to understand. there still is risk. The BJP being voted out of power was a big change and normally we do not like changes. Market fluctuations are based on the varied opinions expressed by its participants. Hence there was gloom all around and people dumped stocks as though there was no future. may come from the way some people use investment vehicles. 4. 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. The market lost around 700 points when the elections brought the Congress to power. The herd mentality was at work and the markets crashed as each one wanted to get out faster than his neighbour. Part of the confusion between investing and gambling. It’s the crowd behaviour that dominates the decision-making and is responsible for the sudden changes in the sentiments. 4. which in turn are subject to change commensurate with the changing sentiments of people.Stocks To Riches -. Yes.An Insights on Investor Behaviour work so it earns you an additional profit. For example.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. True investing doesn't happen without some action on your part. but investing is more than simply hoping Lady Luck is on your side. Even though this is a simple idea. and there are no guarantees. What precipitated this huge fall? Had anything gone drastically wrong with the performance of the companies whose stock prices crashed? Definitely not. If you were emotionally strong and you have ended making a huge 17 . however.
But this seems easy only in hindsight. Its application not only helps you control your emotions but also helps you to understand other’s emotions and benefit from their mistakes. At the point of time to go against crowd is the most difficult but the most sensible thing to do. You reap what you sow but the crop is also subjected to changing seasons. as it does not conform to the law of nature. rain. over the long run we are assured of optimum returns. Stock market investments also work that way. to do this requires patience and we have to go through the ups and downs but it is important to stay the course. Invest you must but before that you must bear in mind the law of the farm. 4. Getting carried away by the greed of quick returns ultimately destroys wealth. Without risk there is no return. Understanding behavioral science is the key to success in the financial markets.Stocks To Riches -.4 The Law of the Farm Stock Market investing is all about managing the rewards associated with the risks undertaken. winter and spring before it turns into a full-blown tree. If we invest in the right stocks with the right business model and fundamentals. However. There are no short cuts.An Insights on Investor Behaviour fortune. 18 . The seed has to endure summer. Many of us forget that nature and society are one.
Stocks To Riches -.An Insights on Investor Behaviour 19 .
This path is pursued by those who have a profound understanding of investing. As long-term investors. 20 . This method is all about the cash flow approach. They are therefore. news. It is the most difficult path as it requires a keen mind of study the different concepts of investing – how different businesses work. John Templeton. they are willing to wait for them. They can be out of the market for months. They are not perturbed by events. very careful about allocating resources. Here the name of the game is patience. one must have the money to invest.Stocks To Riches -. but that is only because of our inability to grasp their point of view.An Insights on Investor Behaviour 4. Charlie Munger. Such investors are always on the lookout for good opportunities and bargain prices. and a few others have taken the intellectually difficult path of beating the markets. They never buy on impulse.5 Three Ways of Investing” There are three ways by which an investor can invest to achieve superior results. A good knowledge of the field of liberal arts is basic to the development of various investment concepts. can see future trends clearly. A good grasp of the various fields of management is required to understand organisations and their ability to capitalize on various business opportunities. They know that patience is a virtue and therefore take long-term positions. rumours and gossip that create short-term volatilities. They strongly believe that opportunities are always there but that when the biggest of them come. One is Intellectually Difficult. they are in no hurry to invest. and how economic policies and market forces affect the business environment. and can comprehend business and the environment. They have a strong belief in their abilities and. 1. even years. since their goal is investing long-term for cash flows as against capital gains. the second is Physically Difficult and the third is Emotionally Difficult Path. We admire them but usually in retrospect. we may see them as being misguided. Initially. 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. They keep in touch with a number of brokers as they believe it will increase their efficiency in the stock markets. This is a wrong notion. The reason they are intellectually capable is because they work hard and make the effort to reach that stage. 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. Their talk revolves round finding the next best investment opportunity to make money. examining different viewpoints on business. We all want to be such investors but we cannot. etc. They do not know what their children are doing as they don’t have time for them.An Insights on Investor Behaviour They have the patience to wait till the right moment. They choose work over the family. Their intellectual capability is derived from their hard work and their strong belief in the long-term approach to investments. That is the reason they are able to exercise such restraint. Intellectual investors as they do not churn their portfolios regularly. Moreover. They are always busy with the breakfast meetings. They come early to the office and stay late.Stocks To Riches -. They carry with them all the newspapers to read whenever time permits. The Physically Difficult Path Most people are deeply involved in the physically difficult way of beating the markets. They are overloaded with information. They continuously monitor stock price movements. They constantly explore opportunities by talking with managements. more luncheon meetings and even more dinner meetings. They visit companies and plants and talk with the management. trying to understand economic policies and its effect on business environment. they use common sense in their judgements and are not swayed by rumours. Brokers usually do not like such investors as they do not churn their portfolios regularly. as we believe that we are not all as intellectually blessed as they are. They carry home huge reports to read before the next day. 21 . 2. Intellectual investors are also emotionally strong.
22 . Market gossip excites them and they make decisions based on rumours. This is how most of them behave. Life is simple. monsoon forecasts. the call went to the answering machine.Stocks To Riches -. My experience in the stock market dealing with fund managers has been really amusing. After a couple of rings. they are busy on their mobile phones. change in a minister’s portfolio. But they don’t realise that others are also doing the same. We make it complicated. News regarding political developments. The current volatility in the markets is the result of too many people trying to invest by this method. inflation figures. with all the fund managers and the day traders treading the same path. 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. They sincerely believe that keeping themselves busy this way makes them look important and increases their ability to pick up the winners. and GDP growth figures play an important role in their lives. 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. In every way they expend tremendous physical energy and effort to beat the market by outmanoeuvring the competition. Show the world they are busy. They tend to time the markets on such news. The day traders also take the physically difficult path of investing. Once I was at the office of a fund manager and we were chatting informally. They spend the entire day collecting information and make decisions based on that information.An Insights on Investor Behaviour When they are on the move. The telephone rang but he did not answer it. So.
When your friends or your broker tell you about a great investment opportunity and they say it is a great time to buy. When your neighbours tell of how the stock markets have made them rich in the last couple of months.An Insights on Investor Behaviour 3. 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. In that case we could opt for what is called the emotionally difficult path. When your neighbours exit the stock markets. be wary of such news. Patience also helps you to control transaction costs. 23 . stay calm and unconcerned. Patience focuses an investor’s attention on the goal of compounding money over a long period. This how you do it. It can be magic even when the rate is modest. 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. The Emotionally Difficult Path Most of us may find the intellectually and the physically difficult path too daunting. But you need to believe in yourself and the investment policy to which you are committed. When newspapers report a bear phase and tell you to liquidate portfolio. When you broker tells you to sell as he sees bad times ahead do not listen to his advice and sell. When analysts on TV tell you that the market is going to crash and the stock prices will nose dive. don’t buy. The stress is on the cash flow approach.Stocks To Riches -. this path is very straightforward. don’t sell. The emotionally difficult path like the intellectually difficult pay lays stress on the virtue of patience. Simply work out a longterm investment policy that is right for you and be committed to it. Actually. When you banker offers credit facility against your shares to buy more shares. don’t follow them. It often pays to go against popular opinion. don’t be tempted. Emotional discipline is the most difficult. It is not easy to control your emotions and go against the herd. When the newspapers report big investment opportunities. don’t sell.
if an investor decides to invest only in steel stocks. keeping track of such trends is no easy task. there are 2 types of risks . the performance of stocks from other sectors would make up for the losses suffered in that sector. Now. 24 . an attack on an important crude pipeline. It is to reduce risk. Now. so that in case of a downturn in any one sector. such as a strike by factory workers for Hero Honda.Stocks To Riches -. geopolitical risks and government policies.6 Investing: Diversification or concentration? The basic logic for diversifying one's portfolio is. thus. We have to learn to think with our emotions rather than have our emotions do the thinking. changes in political leadership. 4. there is a case to invest in stocks across sectors. "Do not put all your eggs in one basket. Let us understand the basic rationale for diversification. Systemic risk is that which impacts all sectors and companies. On the other hand. and even the most seasoned of industry veterans have got it wrong occasionally. Thus. For example. Our emotions directly affect our decisions on investments and expenditure. he or she is putting himself/herself at risk at times when the steel cycle starts to turn down. Examples of such risks include events such as 9/11. and.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. unsystemic risk is a risk that is specific to a particular company. Understanding our own anomalies as also that of others will help us become better investors. cannot be diversified. The emotionally difficult path requires an understanding of how our emotions guide our decision-making especially when we deal with money. or a fire at Bombay High for ONGC." This theory has a solid foundation behind it. All these costs could be avoided if one has patience.systemic and unsystemic.
an investor must have the ability to spot trends in his or her sector of interest. their business models. taking a call on which stock to invest in to outperform the benchmark index is a none-too-easy task for a retail investor. Therefore. Now. a major purpose of diversification is 'optimising' returns (as opposed to maximizing returns. who might not have the time to study the stocks. an investor can (still) get higher returns. by not diversifying the stock portfolio. For example.and against! On the other hand. as mentioned above. rather concentrating it towards a few stocks.. Of course. END OF CHAPTER IV Investing is risking and should be approached with care!!! 25 . such a strategy would more likely than not involve a higher degree of risk. diversification of a stock portfolio serves the purpose of reducing the unsystemic risk of that portfolio. and time it accordingly..Stocks To Riches -. which might involve a higher level of risk). in order to execute such a focused investment strategy.they are never mutually exclusive and always co-exist. As a result.An Insights on Investor Behaviour Therefore. management teams and future prospects. . an investor decides to tilt his or her stock portfolio towards software stocks. One must understand that returns can never be de-linked from risk . while the software sector undoubtedly has strong growth prospects.
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.
An Insights on Investor Behaviour 5. and find out who is running the company. Investor should ask himself if these backgrounds make the people suitable for directing the company in its industry. Among other things. COO and CIO (chief information officer) are. Valuing a company involves not only crunching numbers and predicting cash flows but also looking at the general. when and why? √ Who? Do some research. If the CEO of a newly-formed mining company previously worked in the industry. where. A management team consisting of people who come from completely unrelated industries should raise questions. √ 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. you should know who its CEO. Then you can move onto the next question. investors can simply ask the standard five Ws: who. The people at the top ultimately make the strategic decisions and therefore serve as a crucial factor determining the fate of the company.2 Qualitative Analysis Fundamental analysis has a very wide scope. more subjective qualities of a company. what. specifically. CFO. 30 . their educational and employment backgrounds. To assess the strength of management. √ Management The backbone of any successful company is strong management.Stocks To Riches -. Here investor will look at how the analysis of qualitative factors is used for picking a stock.
was CEO of General Electric for over 20 years. If a company is doing poorly.An Insights on Investor Behaviour √ What and When? What is the management philosophy? In other words. for example. If investor sees a company continually changing managers. √ Why? A final factor to investigate is why these people have become managers. such as self-appointment after inheriting the company? 31 . 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. and if it works for the company. Look at the manager's employment history. valuing policy and established logic above all in the decision-making process. which is a nice way of saying "a change in management due to poor results". it may be a sign to invest elsewhere. the shareholders and the board of directors wouldn't have kept him around. in what style do these people intend to manage the company? Some managers are more personable. one of the first actions taken is management restructuring.Stocks To Riches -. Once investor knows the style of the managers. given its size and the nature of its business. Jack Welch. Investor can discern the style of management by looking at its past actions or by reading the annual reports MD&A section. find out when this team took over the company. and try to see if these reasons are clear. His long tenure is a good indication that he was a successful and profitable manager. Other management philosophies are more rigid and less adaptable. promoting an open. otherwise. Investor should ask himself if he agrees with this philosophy. or has s/he acquired the position through questionable means. transparent and flexible way of running the business.
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. A mediocre company in a great industry can provide a solid return. Take for example the most popular brand name in India: Reliance.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). It's just a matter of asking.Stocks To Riches -. "What is the company's business model?" √ Industry/Competition Aside from having a general understanding of what a company does. √ Brand Name A valuable brand reflects years of product development and marketing. investor should analyze the characteristics of its industry. 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. Having a portfolio of brands diversifies risk because the good performance of one brand can compensate for the underperformers. Of course. such as its growth potential. while a mediocre company in a poor industry will likely take a bite out of your portfolio. 32 . discerning a company's stage of growth will involve approximation. if the demand for the industry is growing. the question would be. How does this company make money? In fancy MBA parlance.
to a value investor profits are made by investing in quality companies. dividends. its high quality. These factors are not inherent to the company. not by trading. value investors pay no mind to the external factors affecting a company. Because their method is about determining the worth of the underlying asset.3 Value Investing Value investing is one of the best known stock-picking methods.Stocks To Riches -. Not Junk! Value investing doesn't mean just buying any stock that declines and therefore seems "cheap" in price.that are selling at a bargain price. The concept is actually very simple: find companies trading below their inherent worth. given their quality. Benjamin Graham and David Dodd. The value investor looks for stocks with strong fundamentals including earnings. book value. √ Value. and cash flow . and therefore are not seen to have any effect on the value of the business in the long run. laid out what many consider to be the framework for value investing.An Insights on Investor Behaviour 5. Value investors have to do their homework and be confident that they are picking a company that is cheap given 33 . such as market volatility or day-to-day price fluctuations. finance professors at Columbia University. 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 . 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. √ Buying a Business. In the 1930s.
Say you're planning a pyrotechnics show. You have concluded with a high degree of certainty that it's perfectly safe to stand 100 feet from the center of the explosions. when technology companies were flourishing.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. on the other hand. growth investing techniques yielded unprecedented returns for investors. they look for stocks that. Value investors are strictly concerned with the here and now. with much less emphasis on its present price. at this moment. Consider a real-life example of a margin of safety. which will include flames and explosions. √ Value versus Growth The best way to define growth investing is to contrast it to value investing. a technique which is simple yet very effective.Stocks To Riches -. are trading for less than their apparent worth. Unlike value investors.4 Growth Investing In the late 1990s. focus on the future potential of a company. 34 . there's nothing boring about outperforming the S&P by 13% over a 40-year span! 5. s/he should realize that this strategy comes with substantial risks and is not for everyone. growth investors buy companies that are trading higher than their current intrinsic worth . you implement a margin of safety by setting up barriers 125 feet from the explosions. it relies on a strict screening process. But to be absolutely sure no one gets hurt. But before any investor jumps onto the growth investing bandwagon. Value investing is not as sexy as some other styles of investing. But just remember.but this is done with the belief that the companies' intrinsic worth will grow and therefore exceed their current valuations. Growth investors.
The application of any one guideline or criterion may therefore change from company to company and from industry to industry.as a framework for their analysis. √ No Automatic Formula Growth investors are concerned with a company's future growth potential. the investor must consider the company in relation to its past performance and its industry's performance. 5.5 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. Typically a growth investor looks for investments in rapidly expanding industries especially those related to new technology.Stocks To Riches -. Growth investors use certain methods . √ What Is GARP? 35 .or sets of guidelines or criteria . Profits are realized through capital gains and not dividends as nearly all growth companies reinvest their earnings and do not pay a dividend.An Insights on Investor Behaviour As the name suggests. then you're ready to learn about a newer. but these methods must be applied with a company's particular situation in mind. Growth investors are therefore primarily concerned with young companies. Here we take a look at growth at a reasonable price. Every method of picking growth stocks (or any other type of stock) requires some individual interpretation and judgment. but there is no absolute formula for evaluating this potential. More specifically. growth stocks are companies that grow substantially faster than others. or GARP. The theory is that growth in earnings and/or revenues will directly translate into an increase in the stock price. hybrid system of stock selection.
36 . However. selecting stocks that have neither purely value nor purely growth characteristics.Stocks To Riches -. The criteria which GARPers look for in a company fall right in between those sought by the value and growth investors. this is not the case: because each of their stock picks must meet a set of strict criteria. Critics of GARP claim it is a wishy-washy. GARP doesn't deem just any stock a worthy investment. 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. some misconceptions about the style persist.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. GARPers identify stocks on an individual basis. Like most respectable methodologies. Again. Another misconception is that GARP investors simply hold a portfolio with equal amounts of both value and growth stocks. but a combination of the two. it aims to identify companies that display very specific characteristics. fence-sitting method that fails to establish meaningful standards for distinguishing good stock picks.
6 Income Investing Income investing. When investors think of steady income they commonly think of fixed-income securities such as bonds. Thus. which have reached a certain size and are no longer able to sustain higher levels of growth. For example. This measures the actual return that a dividend gives the owner of the stock. The more important gauge is the dividend yield. Dividend Yield Income investing is not simply about investing in companies with the highest dividends (in dollar figures). have historically paid a fairly decent dividend. Utility companies. a company with a share price of Rs. However.Stocks To Riches -. √ Who Pays Dividends? Income investors usually end up focusing on older. 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). dividends are more prominent in certain industries.100 and a dividend of 37 . more established firms.An Insights on Investor Behaviour 5. mature firms tend to pay out retained earnings as dividends as a way to provide a return to their shareholders. stocks can also provide a steady income by paying a solid dividend. for example. Here we look at the strategy that focuses on finding these kinds of stocks. which aims to pick companies that provide a steady stream of income. and this trend should continue in the future. is perhaps one of the most straightforward stockpicking strategies. calculated by dividing the annual dividend per share by share price.
and selling common stock. higher dividends will result in lower retained earnings.6 per share has a 6% dividend yield. The average dividend yield for companies in the S&P 500 is 2-3%. The best thing about this strategy is that there's evidence that it works: there are countless examples of companies that. Not Fixed Income Something to remember is that dividends do not equal lower risk. 38 .An Insights on Investor Behaviour Rs. met CANSLIM criteria before increasing enormously in price. Problems arise when the income that would have been better re-invested into the company goes to high dividends instead.7 CANSLIM CANSLIM is a philosophy of screening. What makes CANSLIM different is its attention to tangibles such as earnings. Dividends Are Not Everything You should never invest solely on the basis of dividends. Because they are paid out of a company's net income.Stocks To Riches -. Stock Picking. it is described in his highly recommended book "How to Make Money in Stocks". although the risk can be minimized by picking solid companies. over the last half of the 20th century. the co-founder of Investor's Business Daily. as well as intangibles like a company's overall strength and ideas. purchasing. Developed by William O'Neil. but this acronym actually stands for a very successful investment strategy. In this section we explore each of the seven components of the CANSLIM system. Keep in mind that high dividends don't automatically indicate a good company. 5. The risk associated with any equity security still applies to those with high dividend yields. or 6% return from dividends. The name may suggest some boring government agency.
which is often necessary for a company to become successful. or a new high in stock price. S = Supply and Demand The S in CANSLIM stands for supply and demand. see Types of EPS. For example. distinguishing between market leaders and market laggards is of key importance. there are always those that lead. (If you're unfamiliar with EPS.Stocks To Riches -. 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. Whether it is a new management team. which refers to the laws that govern all market activities. a new product. The system indicates that a company should have shown good annual growth (annual EPS) in each of the last five years. providing great gains to shareholders. In each industry.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.) √ A = Annual Earnings CANSLIM also acknowledges the importance of annual earnings growth. a new market. and those that lag 39 . √ N = New O’Neil’s third criterion for a good company is that it has recently undergone a change. O’Neil found that 95% of the companies he studied had experienced something new. √ L = Leader or Laggard In this part of CANSLIM analysis.
Volumes CANSLIM maintains that the best way to keep track of market conditions is to watch the daily volumes and movements of the markets. CANSLIM is great because it provides solid guidelines. fundamental. Basically. Against the Daily Prices and 40 . keeping subjectivity to a minimum. providing returns that are mediocre at best. The idea is to separate the contenders from the pretenders. they may end up investing a trend and thus compromise gains or even lose significantly. growth. M = Market Direction The final CANSLIM criterion is market direction.An Insights on Investor Behaviour behind. CANSLIM suggests that a stock worth investing in has at least three to 10 institutional owners. it incorporates tactics from virtually all major investment strategies. all of the thousands of institutional money managers have passed over the company. Best of all.Stocks To Riches -. which are designed to help investors/traders discern trends. When picking stocks. and even a little technical analysis. Although O’Neil is not a market timer. This component of CANSLIM may require the use of some technical analysis tools. this criterion is based on the idea that if a company has no institutional sponsorship. it is important to recognize what kind of a market you are in. Think of it as a combination of value. I = Institutional Sponsorship CANSLIM recognizes the importance of companies having some institutional sponsorship. whether it is a bear or a bull. he argues that if investors don’t understand market direction.
Stocks To Riches -. Technical analysts are usually very active in their trades. Technical analysts. depending on what direction the data is saying the price will move. Whereas a value investor must exercise a lot of patience and wait for the market to correct its undervaluation of a company. he or she wastes little time deciding whether to exit his or her position. Which is the basis of every method. technical analysts look at the past charts of prices and different indicators to make inferences about the future movement of a stock's price. prices and volumes. using stop-loss orders to mitigate losses. If a stock does not perform the way a technician thought it would. Sometimes also known as chartists. the technician must possess a great deal of trading agility and know how to get in and out of positions with speed.An Insights on Investor Behaviour 5. They literally have hundreds of indicators and chart patterns to use for picking stocks. whether up or down. Definitely not. Is Technical Analysis a Long-Term Strategy? The answer to the question above is no. it is important to note that no one indicator or chart pattern is infallible or absolute. A technical analyst may go short or long on a stock. Picking Stocks with Technical Analysis Technicians have a very full toolbox. or technicians. select stocks by analyzing statistics generated by past market activity. holding positions for short periods in order to capitalize on fluctuations in price. the 41 .8 Technical Analysis Technical analysis is the polar opposite of fundamental analysis. However.
42 . as reflected by its fundamentals. √ 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.Stocks To Riches -. look for solid companies that pay a high but sustainable dividend yield. 5. look for stocks selling at a price that is lower than the estimated worth of the company. Growth investors are concerned with the future. buying companies that may be trading higher than their intrinsic worth but show the potential to grow and one day exceed their current valuations. concerned with the present. √ Some qualitative factors affecting the value of a company are its management. it is worth all of its future profits added together. or its intrinsic value.An Insights on Investor Behaviour technician must interpret indicators and patterns. whose main objective is to find the worth of a company. In other words. √ Income investors.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. √ Value investors. seeking a steady stream of income from their stocks. √ In quantitative analysis. industry and brand name. a company is worth the sum of its discounted cash flows. and this process is more subjective than formulaic. business model.
supply and demand. the polar opposite of fundamental analysis. END OF CHAPTER V “Be fearful when others are greedy. but instead looks at past market activity to determine future price movements. annual earnings.Stocks To Riches -. is not concerned with a stock's intrinsic value. new changes. institutional sponsorship. and market direction. and leadership in industry. √ Technical analysis. Be greedy when others fear” 43 .An Insights on Investor Behaviour √ CANSLIM analyzes these factors of companies: current earnings.
An Insights on Investor Behaviour 44 .Stocks To Riches -.
supply/demand. it is a combination of both science and art. many people stick to ‘stock’ and forget the word ‘investment’.An Insights on Investor Behaviour CHAPTER VI BEHAVIOURAL FINANCE 6. ratios is science. But in a nutshell. 45 . market sentiments and trends. Stocks or equity is one of the asset classes like savings instruments. so it is a science”. ‘what is your objective of stock investment?’ who showed interest in knowing the stock market. It is relative to the duration that you’ve held the stock and relative to the risk you have taken. commodities and real estate for investment. At the macro level. At a micro level. balance-sheet. numbers. funds. 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. 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. Now turning focus back to stocks. Quick came the reply. “It involves ratios. it does not matter how much you invest. ‘I want to make money as soon as possible’.Stocks To Riches -. When a common person builds interest in stock markets. Firstly. 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. to understand the global scenarios.1Conversation with STOCK INESTOR If u ask a simple question to a stock investor. and cash flow. details of the company finance. So the most important thing before entering is a proper homework and build confidence. calculations. “Picking the right time to sell and buy is an art”.
and investor was expecting more’.2Emotions Change Paradigms This is a true story of a person who ran a coaching class with one of his colleagues. That person was worried. 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.Stocks To Riches -. They repented their stand and prayed for his early recovery so that he could come back to teach. He informed the students of this calamity.000 will also yield the same 5 per cent for Rs10. 46 . The students were very happy. decisions that enrich us emotionally may impoverish us financially. They visited him at the hospital and took him flowers. as now his partner would be out of action for quite some time. This news shocked that person. Behavioural finance is the study of how emotions and cognitive errors can cause disasters in our financial affairs. After a couple of weeks the colleague fell ill and was absent for some time. Indeed. One day that person learned that the colleague had brain tumour and needed an operation. His colleague was his partner and he could not be removed. They wanted him removed or else they would discontinue the classes. The students were stunned and this shock changed their attitude. investor invested. So never measure the return in absolute terms but in Percentages. Frequently emotions prompt us to make decisions that may not be in our rational financial interest. The allegation was that he was very short-tempered and arrogant. They thought that they had been successful in removing him.An Insights on Investor Behaviour The next common comment is ‘Investor got only Rs 50 return for the Rs1000. They started off well and within a couple of months they were full to capacity. After six months a few students complained to person about his colleague’s rude behaviour. 6. 000. Hatred and resentment gave way to empathy and love. If a stock yields a return of 5% for Rs 1. To start with one should understand that rate of return is not relative the amount you invest. Moreover he was a brilliant professional and an able tutor.
Stocks To Riches -. So many people walk this road and the markets being efficient someone would have definitely picked it up. Behavioural finance raises a couple of important issues for investors. Further. 5 coin on the road. We do it mechanically. It also assumes that humans are rational beings and will act to maximise their gains. 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. Here’s another example for how irrational we can be. Yet. 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. However behavioural economists believe that the markets are inefficient and human beings are not rational beings. in economic theory we are rational beings always intent on maximising our economic status. unaware that we are behaving irrationally. This shows that the markets are not as efficient as they seem to be. It assumes that the markets are efficient and no one can take advantage of its movements. We even give tips when the service is substandard. If you and I were walking down a busy street in Colaba and you said saw a Rs. I would say it’s impossible. Consider this example. This is a common mistake we make without realizing its pure economic implications. The acronym TIPS stands for: To Insure Prompt Service. Yet. If tips ensure good service we should be tipping before the service starts. we give tips at the end of the meal.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. The first is whether or not it is possible to systematically exploit 47 . Tipping is more a custom. But in reality we do come across such instances.An Insights on Investor Behaviour 6.
An Insights on Investor Behaviour Irrational market behaviour when it occurs. The second issue is how to avoid making sub-optimal decisions as an investor. √ Investor: Hold on stocks that are crashing. The goal of behavioural finance strategy is to invest in or disinvest from these securities before most investors recognise their error. Psychology can play a strategic role in the financial markets. Sell Stocks that are rising. 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. Ridiculously overvalue and undervalue stocks. The goal is to close the gap between how we actually make decisions and how we should make decisions. These mistakes cause under priced or overpriced securities.Stocks To Riches -. because others are selling. Buy when we have to sell and sell when we Buy because others are buying and sell In the stock markets. should be buying. and to benefit from the subsequent jump or fall in prices once they do. 48 . They seek to identify market conditions in which investors are likely to overreact or under react to new information. our stocks fall. a fact that is being increasingly recognised. promising stocks unless there is an absolutely ‘assured’ profit. Students and proponents of behavioural finance create investment strategies that capitalize on irrational investor behaviour. Behavioural finance explains why in a rally just before the price declines.
4 Understanding Investor Behavior When it comes to money and investing. Oddly enough. or simply regret. Investor is not always as rational as they think they are .which is why there's a whole field of study that explains investor’s-strange behavior. investors become emotionally affected by the price at which they purchased the stock. Regret theory can also hold true for investors who find a stock they had considered buying but did not went up in value. rationalizing their decision with "everyone else is doing it". 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 . Let us look Where an investor. as well as the embarrassment of reporting a loss. theory deals with the emotional reaction people experience after realizing they've made an error in judgment. it's time to sell. Faced with the prospect of selling a stock.and a vicious cycle ensues where avoiding regret leads to more regret.Stocks To Riches -. don't we? What investors should really ask them when contemplating selling a stock is. they avoid selling it as a way to avoid the regret of having made a bad investment. So. many people feel much less 49 . Some investors avoid the possibility of feeling this regret by following the conventional wisdom and buying only stocks that everyone else is buying.An Insights on Investor Behaviour 6. √ Regret Theory Fear-of-regret. We all hate to be wrong. "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". otherwise. fits in? Insight into the theory and findings of behavioral finance.
than about losing on an unknown or unpopular stock. Would you pay Rs 20 to purchase another? Only 40 % of respondents would buy another. opinions and events. people get accustomed to healthy. same amount of money. They create mental compartments for the gains they once had. for example. and the difference between these compartments sometimes impacts our behavior more than the events themselves. 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. you aim to catch a show at the local theater. People tend to place too much credence in recent market views. causing them to wait for the return of that gainful period. gains. √ Anchoring In the absence of better or new information.Stocks To Riches -. and mistakenly extrapolate recent trends that differ from historical. When you get there you realize you've lost a Rs 20 bill. Now.An Insights on Investor Behaviour embarrassed about losing money on a popular stock that half the world owns like Reliance and Infosys . Pretty silly. that in both scenarios you're out Rs 40: different scenarios. When you arrive at the door. 50 . √ Mental Accounting Humans have a tendency to place particular events into mental compartments. albeit paper. During an economic boom and bull market. 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. however. When the market correction deflates investor's net worth. let's say you paid for the Rs 20 ticket in advance. Say. Notice. and tickets are Rs 20 each. long-term averages and probabilities. different mental compartments. you realize your ticket is at home. investors often assume that the market price is the correct price. they're more hesitant to sell at the smaller profit margin.
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. Conversely. Over-/Under-Reacting Investors get optimistic when the market goes up. circa year 2000)?! Extreme cases of over. 51 . investment decisions are often influenced by price anchors. placing too much importance on recent events while ignoring historical data. √ Overconfidence People generally rate themselves as being above average in their abilities. assuming it will continue to do so. A consequence of anchoring. is an over. Many investors believe they can consistently time the market. Overconfidence results in excess trades. But in reality there's an overwhelming amount of evidence that proves otherwise.or under-reaction to market events which results in prices falling too much on bad news and rise too much on good news. This makes the more distant returns of the past irrelevant in investors' decisions.An Insights on Investor Behaviour In bull markets.Stocks To Riches -.or under-reaction to market events may lead to market panics and crashes. investor greed moves stocks beyond their intrinsic value. prices deemed significant because of their closeness to recent prices. investors become extremely pessimistic amid downturns. with trading costs denting profits. They also overestimate the precision of their knowledge and their knowledge relative to others. At the peak of optimism.
it often results in quirky. In fact. investors can be their own worst enemies.An Insights on Investor Behaviour Bird’s Eye Behavioral finance certainly reflects some of the attitudes embedded in the investment system. That may be true for an instant. irrational behavior. But. not to mention a dent in your wealth. Trying to outguess the market doesn't pay off over the long term.opportunities to make money. 52 . producing inefficient markets and mispriced securities .Stocks To Riches -. 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. Behaviorists will argue that investors often behave irrationally. Questions remain over whether these behavioral finance theories can be used to manage your money effectively and economically. That said.
An Insights on Investor Behaviour END OF CHAPTER VI “Gaps between perception and realty are where Investment opportunities are born” 53 .Stocks To Riches -.
The reasons investor hold onto losing stocks is primarily psychological. They can put a stop loss order at 10 percent below the purchase price when they buy the stock. they often don’t listen until it’s too late. investor need a plan before they buy their first stock. Here. sell.An Insights on Investor Behaviour CHAPTER VII 7. To keep your losses small. so they sell the stock. It is only after losing most of their money that they finally admit that they made mistakes.1 Why Investors Lose Money INVESTOR LOSE MONEY Unfortunately. no matter how many times people try to stop Investor from losing money in the market. Actually. the biggest mistake investor can make is not recognizing himself that he had made one.Stocks To Riches -. Remember this: Do not invest in the stock market in order to lose money. There is nothing wrong with or unusual about making mistakes. some investor holds onto their losing stocks too long. They lost. The most obvious clue that something is going wrong with his investments is that losing money. The main point is that investor should take action when their stock is losing money. or they can make a mental note. A loss of more than 10 percent on an investment is a signal of a problem. Failure to get out of losing positions early is probably the number one reason why so many investing and trading accounts are destroyed. 54 . 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. 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.
An old but true saying is. “There are no geniuses in a bull market. Many people lost not only their gains but their original investment as well. the market takes away). When investing in the market with substantial money at stake. some people made tons of money in the stock market. you are left with the lingering feeling that if you had held it a little longer. and one that especially afflicts those who have tasted success in the market.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. but in fact they were just being carried by the strength of a bull market. 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. Some are still in denial about the fact that many of their favorite stocks will never return to even. allowing your ego to get in the way of your investing is a dangerous sign. 55 . many people are flooded with emotions that compel them to make the wrong decisions.” The point is that people thought they were geniuses. A common problem. becoming too emotional about your investments is a clue that you could lose money.Stocks To Riches -. you’d have made more money. For these people. If you sell a stock for a gain. it would have been less painful to have never made money in the market at all than to have won and lost it all. In contrast. Although some self-confidence is necessary if you are going to invest in the market. 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. then sat back and watched helplessly while all their profits disappeared (what the market gives. In fact. is overconfidence. Making money should be as boring as waiting in line at the supermarket.
which although legal. They were convinced that the good times would last forever. many investors got so greedy that they couldn’t think straight. Jonathon Lebed. (Many made their millions through stock options. The SEC allowed him to keep half his profits. You want stocks in companies that are so good that they will be profitable for years.” √ 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.Stocks To Riches -. • Many mutual funds were going up by over 100 percent a year. • Stock prices in companies that had no earnings were doubling and tripling each day. no one stock should make up more than 10 percent of your portfolio.An Insights on Investor Behaviour Before the bull market’s abrupt end.) Although diversification limits your upside gains. then buy stocks in conservative companies with low P/Es (less than 10) that pump up their returns with quarterly dividends.” “People are hopeful when they should be afraid and are afraid when they should be hopeful. (In general.) • Thousands of people were quitting their jobs to become day traders. “Hope is a dangerous thing. made a million rupees pumping and dumping penny stocks. • The CEOs of dozens of companies were paid hundreds of millions of rupees in salary and compensation. • Stock analysts and CEOs were treated like rock stars. did not seem fair to shareholders who lost money. 56 . If you feel that you must bet all your money on only one or two stocks. it also protects you in case one of your investments does badly. The signs of greed were everywhere: • A 15-year-old boy. even though their companies were losing money.
57 . Although the pros are right in claiming that you need discipline if you are to be successful in the market. especially if you are losing money. 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). √ 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. This has always worked for successful investors and mutual fund managers. a plan. you also need to balance this with a healthy dose of flexibility. but you must be realistic enough to realize that you could be wrong. and a set of rules. If you are disciplined. 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. In the name of discipline. Because they had made money the wrong way. your 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. and your rules. Why? They didn’t know how it felt to lose money. you stick to your strategy. plan. 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. many investors went down with the sinking ship. you have a strategy. and no matter what you are feeling. You have to be flexible enough to change your strategy.Stocks To Riches -. Discipline is essential. and rules. many of them had no idea what to do next. When the easy money stopped and the market plunged. they were destined to give it all back.
If this sounds too good to be true. In fact. These people often become cheerleaders for a stock.An Insights on Investor Behaviour If you lose more than 10 percent in the market. it is. economists misjudged the economy. In the market. 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. (“Everyone wanted to be a player but we ended up being played. Analysts lied. everything doesn’t always work out in the end. √ 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. trying to convince you to buy it.”) The best advice you should received on the market was also the simplest: “Keep your ears shut” 58 . Instead of burying your head in the sand. Because it’s hard to say no to easy money (especially when the tip comes from a trusted source). CEOs were overly optimistic. one of the easiest ways to lose money in the market is by listening to tips. Accept the loss and make sure you don’t make the same mistake again. there is a simpler way to find stocks to buy—stock tips. take the time to understand your mistakes. there are a few things you can do.Stocks To Riches -. and accounting firms fudged the numbers to make losing companies look like winners. The beauty of tips is that investors can make money without doing any work. At the same time. greedy and lazy investors must take responsibility for buying stocks based on tips. especially if they come from well-meaning but uninformed relatives or acquaintances. 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. there are some steps you can take to limit your risks.
The biggest mistake many investors make is thinking that their stocks won’t go down. If you study the lives of some of the greatest traders and investors in the recent past.” as one author put it. a market crash. Although the crowds can win. 59 . You have to figure it out for yourself. no one rings a bell to announce the end. the bear market will end. Mistake #9: √ Investor’s Aren’t Prepared for the Worst Before investor get into the market. Although you should always hope for the best. deflation. Even if you don’t expect a financial disaster. it is excruciatingly difficult to think differently from everyone else. As mentioned earlier. the signal that a bull market is ending is that it seems as though everyone is in the market.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. They are not prepared for an extended bear market. a signal of a bear market’s end is that people are too afraid to invest in the market. not fear. When almost everyone is avoiding the stock market. or an unanticipated event that will ruin the market. you will find that they often made their fortunes by doing the opposite of what the crowd was doing. you find many periods and events in history that attest to herd mentality—or the “madness of crowds. create a “crash proof” plan based on logic and common sense. That means buying when other people are selling and selling when other people are buying. Conversely.Stocks To Riches -. you must be prepared for the worst. Keep in mind that perception about the market change very rapidly. Unfortunately. Unfortunately. If you study the psychology of group behavior. and it seems like perhaps the worst possible time to invest. they should be prepared. they don’t win for long. not scared. a recession.
You have to make a decision based on the best information you have at the time.An Insights on Investor Behaviour Mistake #10: √ Investor’s Miss Out or Mismanage Money Managing money is a difficult skill for most people. you’re destined to have financial problems. A little bit of fear keeps you on your toes. but it’s one of the most important skills to have. it’s not easy to find investments where you don’t lose money. It’s the fear of missing out on higher profits that prevents people from selling before it’s too late. not on emotion. Obviously. but too much fear can cause you to miss out on profitable investments or trades. Obviously. That is why it’s essential that you do your own research when a financial opportunity comes your way. fear results from a lack of information.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. It’s the fear of loss that prevents many people from buying at the bottom. In the end. If you think about it long enough. but that shouldn’t stop you from trying. 60 . Usually. Just as harmful as mismanaging money is missing out on moneymaking opportunities. you’ll realize that this makes a lot of sense. This gives you an opportunity to make an informed decision based on the facts. Many times you’ll be wrong. 7. if you can’t manage money. you aren’t privy to all the information that you need in order to be 100 percent right. Unfortunately. it’s not how much you make but how much you keep that matters.Stocks To Riches -. Do you want to know the secret to making money in the stock market or with any investment? Don’t lose money.
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. "I am more concerned about the return of my money than the return on my money". just because a holding or portfolio is high risk it is not necessarily capable of generating high returns.An Insights on Investor Behaviour Investing in a vacuum is never a good idea. They are judged solely by their performance and are therefore influenced to take more inherent risk in order to beat indexes and peers. This sounds ultra simplistic. 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. Goals such as these leave too much ambiguity and room for error. or in other words the higher the rate of return the higher the risk you assume. Earning a high level of return requires taking more risk. risk tolerance. It is never wise to invest solely for the sake of "doing well" or "I want to retire comfortably". Your portfolio should reflect your goals (to retire at 55 with a specific income). The professionals also do not have the luxury of holding on (or buying more of) when a specific security starts to tank. In some cases something is considered "high risk" because it is unlikely to generate a moderate or high return. Think of it this way. and wait it out.Stocks To Riches -. The level of return you seek is tied to a level of risk. but taking more risk does not always equate to a higher return. However. you are on a journey. 61 . You should have no such worries over performance measurement but can simply sit back. In fact as Mark Twain once remarked. focused on the long-term. Set and establish goals for your future and determine how those goals are influenced by the results of your investing.
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. Many investors I have spoken with over time wonder about how long it takes to double their money. Watch what you watch and read. sound selection of asset classes mixed together will establish the framework of your portfolio performance over the long run. The rule of 72 is one of those rules of thumb for quick and basic calculation. This is typically presented in a statement that they desire their money to double every 3 or 4 years. The Rule of 72. Turn off the talking heads on TV and put down the latest investment periodical. 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 movements generated by the advice of those in the television and print media are not always the best for the investor. END OF CHAPTER VII An investor should act as though he had a lifetime decision card with just twenty punches on it. if you assume a 12% rate of return and divide 72 by 12 then your money would double in 6 years.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. asset allocation determines over 91% of the total portfolio performance according to an Ibbotson study. News only sells when it gets our attention and unfortunately that hardly ever equates to good news.Stocks To Riches -. A good. For example. 62 . This will be the approximate amount of time it takes for the money to double at the specified rate of return. Take the rate of return and divide it into 72.
However. Speculate without the right knowledge and skill. the seller still retains the residual risk of the chance that the stock he sold may go up. The attraction of quick money and the advent of the futures market have lured them to margin trading. 63 . risk tolerance and future needs for capital. Satyam. The most important part of an investment strategy is that it aligns with the individual's goals and is closely followed by the investor. and risk guidelines. if people: Do not understand the difference between investing and speculating. The greatest problem today is that most investors are acquiring speculative habits believing that they are investing. 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. speculating can go wrong. The tempting chance of a huge gain is the grease that lubricates the machinery of innovation. buy and sell guidelines.1 A Good Strategy There is nothing wrong in speculation as such. On the contrary it is beneficial in two ways. Speculate beyond the capacity to take a loss (that is called margin trading). Secondly. and in earlier times companies like Reliance. the risk is exchanged every time the stock is sold and bought.An Insights on Investor Behaviour CHAPTER VIII INVESTMENT STRATEGIES An investor's plan of attack to guide their investment decisions based on individual goals. without speculation untested new companies like Infosys. but it is never eliminated. would never have been able to raise the necessary capital for expansion. When the buyer buys a stock he takes the primary risk that the stock will go down. However. 8. The components of most investment strategies include asset allocation. Firstly.Stocks To Riches -.
A stock can decline significantly in the short run and yet give a decent longterm return. Short-term investing (speculation) can also be very rewarding if you are able to time the markets and take advantage of short-term volatility. Keep in mind that you aren’t limited to only one strategy. you can still lose money. take the time to do more research. No matter what strategy you use. This could be bad news especially when they are dealing with their life savings. this has become a full-time occupation due to the advent of the Internet and online trading. 2. no matter how brilliant and ingenious the strategy. If a particular strategy seems to make sense to you. 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. 64 . Some investors and traders use a variety of strategies.2 MONEY-MAKING STRATEGIES A strategy is a plan that helps you determine what stocks to buy Or sell.Stocks To Riches -.An Insights on Investor Behaviour For a number of people. whereas others are comfortable using only one. it’s best to keep an open mind before choosing a strategy. If you are new to the stock market. 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. 8. Not all strategies work during all market conditions. A strategy is only as good as the person using it. here are a few things you should remember: 1. In other words.
and RELIANCE in the early days made huge sums of money on paper without having to pay much attention to the market.Stocks To Riches -. in retrospect. Investors who bought companies like Infosys. The other advantage of buy and hold is that because you are not constantly buying and selling stocks. 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.An Insights on Investor Behaviour 3. Perhaps the only time buy-and-hold investors sell is if something fundamentally changes in a company. Buy and hold is the easiest investment strategy to use. Don’t become so devoted to a strategy that you are blind to the fact that you are losing money. They don’t sell because of what is happening to the market. it worked extremely well during the bull market. √ 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). you’ll realize a profit. there are no magic answers to finding success in the stock market. you are paying very little in brokers’ commissions. and they intend to hold their reasonably priced stocks as long as possible. the only way to find out what ultimately works on Dalal Street is through trial and error. 65 . You have to take the time to find the strategy or strategies that fit your personality and lifestyle. the economy. or the stock price. and. TCS. Money is the scorecard that determines whether your strategy is working. They are focused only on the business. For most people. Unfortunately.
In the 2000s. Momentum investors tend to use technical analysis to look for stocks that will make sudden and dramatic moves in a short period. People who used this strategy in the past made tons of money as the shares they bought kept going higher. especially if it believes the decline is only temporary. The idea is that because the market always goes up over time (or generally has in the past).Stocks To Riches -. you will always be able to find a bigger fool who is willing to buy it from you. when a stock goes down in price. it’s not as easy as it was a few years ago. the shares bought at a lower price will eventually be worth more. people buy more shares. although exciting and potentially profitable. Many momentum stocks can explode in either direction. They don’t care too much about the price they paid as long as the stock goes higher.) Momentum investing. 66 .An Insights on Investor Behaviour √ Buy on the Dip: An Offshoot of Buy and Hold In this strategy. it is definitely not as easy as it looks. is a difficult strategy. it seemed as if no matter which stock you bought— especially if was an Internet stock—the stock would go higher. (And it’s unlikely that we’ll see that kind of market environment again for many years to come. Although it is still possible to find momentum stocks. Although it’s possible to catch some of these stocks on the upside.” which means that no matter how high the stock price is. In the go-go 2000s. Some critics call momentum investing the “greater fool theory. often costing lot of money. a surprise announcement or positive rumor could send stocks up 20 or 30 points in one day. They buy stocks at a high price but plan to sell them at an even higher price. Momentum investing works best during bull markets when there is a lot of liquidity. √ Momentum Investing: Buy High and Sell Higher Momentum investors are growth investors who look for stocks that are ready to make explosive moves upward.
In such a scenario it is but natural for the euphoria to pass on to the primary market. 8. there is greater need to exert caution and pick the best IPO investments. Practically all such issues have been hugely oversubscribed.An Insights on Investor Behaviour √ Day Trading: Buying and Selling in Minutes Unlike investors. these issues have generated huge interest amongst the investors and raised thousands of crores. 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. Performance. We have more and more companies coming out with IPO’s or additional offers. Therefore. minutes.Stocks To Riches -. day traders buy and sell within seconds. it becomes necessary for the investors to become cautious and be more selective about their investments in IPO’s. This trend. 67 . 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. who may wait years before selling. however. Prospects and Price. Usually. Day trading is an extreme trading strategy that involves constantly moving into and out of stocks. or hours. The four critical factors which need to studied in an offer document when making an investment decision are Promoter. before making an IPO investment. And predictably enough. Four critical factors to be studied in an IPO offer document. day traders sell all their stocks and move to cash by the end of each day.3 Simple Investment Strategy: Invest in IPO’s With more and more companies coming out with tempting IPO or additional offers. professional day traders try to anticipate where a stock will go in the near future and trade accordingly. Using technical analysis. And most of them have given huge listing gains to the investors.
Stocks To Riches -. 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 . his track record. Read the risk factors very carefully especially those pertaining to the promoter/management. Thirdly.An Insights on Investor Behaviour √ Check promoter standing This by far is the most important factor in any investment decision. profit. A good promoter or management team is important for any business success. Ensure that there are no dubious transactions. the performance of the other companies promoted by him. Secondly. especially over long periods. the experience he has in the industry. without any justifiable reasons? Also look at the performance of the group companies and the intercompany transaction within the group. Look for any window dressing. See whether the company is a defaulter to the banks/FIs and the reason thereof. Check for any serious litigation against the promoter or the company. look at the promoter’s background. they would be constantly looking at new business opportunities. a good management will take all necessary steps to ensure profitable performance. While businesses may have their ups and downs. Look at the loans given to group companies. Therefore. we are reasonably certain that the company money will not be deliberately misused or siphoned off to the detriment of the shareholders. Therefore. Are the numbers in line with the similar companies in the industry? Is there any sudden improvement in the numbers just before the issue. would mean poor performance on the stock exchange. EPS etc. investor complaints etc. Poor numbers say the sales. thereby ensuring regular growth in the company. √ Study company performance The share price is the reflection of the operational performance of the company.
An issue which are overvalued. thereby defeating your purpose of investing. should remain the cornerstone of an investment style” CHAPTER IX 69 RATIOS . Therefore. it means the existing shareholders are selling a part of their stake in the Company. Again look for fair valued or undervalued scrip. a high price is likely to reduce the prospects of appreciation at the exchange. If the purpose of the issue is to list the company on the stock exchange and the 4 Ps are positive.Stocks To Riches -. Such issues tend to quote below issue price over a period of time and it may be prudent to enter then. the Company will not benefit from an offer for sale. than at the IPO stage. Therefore. For follow-on issues the price is more or less known. Buy value nor price. which will add to the bottomline of the company? If its’ an offer-for-sale. there may not be much listing gain or loss. The amounts raised from the issue will not go to the Company. Check the objects. 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. END OF CHAPTER VIII “Lethargy. Compare this with the issue price to see if it is undervalued or overvalued. 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. bordering on sloth. 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. then one can consider investing.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. Even if the above 3 Ps were favourable.
EPS serves as an indicator of a company's profitability. and thus depend upon the expectations of buyers and sellers. data sources sometimes simplify the calculation by using the number of shares outstanding at the end of the period. Calculated as: EPS In the EPS calculation. because the number of shares outstanding can change over time. New product lines. it is more accurate to use a weightedaverage number of shares outstanding over the reporting term. 70 . Prospects for companies of this type. Calculate Ratios. However.EPS The portion of a company's profit allocated to each outstanding share of common stock. Among these are: The company's future and recent performance.2 Earnings Per Share .1 Determining share prices Share prices in a publicly traded company are determined by market supply and demand. 9. Diluted EPS expands on the basic EPS by including the shares of convertibles or warrants outstanding in the outstanding shares number. the "market sector" Prevailing moods & fashions.Stocks To Riches -.An Insights on Investor Behaviour 9.
To have faith in a comparison of P/E ratios. relative to what you can expect to earn from it. the less you have to pay for the stock. 71 . between countries. you should be comparing comparable stocks. The lower the P/E. The main reason to calculate P/Es is for investors to compare the value of stocks.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. A valuation ratio of a company's current share price compared to its per-share earnings. and between time periods are dangerous.3 Price/Earnings Ratio . one stock with another. The higher the P/E the more over-valued the stock is.An Insights on Investor Behaviour 9. If one stock has a P/E twice that of another stock.Stocks To Riches -. it is probably a less attractive investment. But comparisons between industries. Calculated as: P/E Also sometimes known as "price multiple".
4 Return on Equity . Either the stock is overvalued or the company's earnings have increased since the last earnings figure was published. 72 . The ROE is useful for comparing the profitability of a company to that of other firms in the same industry.Stocks To Riches -.ROE Measuring the Financial Health of a Company A measure of a corporation's profitability. 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. 21-28 28+ N/A A company with no earnings has an undefined P/E ratio. Calculated as: ROE Essentially.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. ROE reveals how much profit a company generates with the money shareholders have invested in it. 9. 14-20 For many companies a P/E ratio in this range may be considered fair value. Also known as Return on Net worth (RONW).
It is calculated by dividing the current closing price of the stock by the latest quarter's book value per share. Calculated as: A lower P/B ratio could mean that the stock is undervalued. To calculate ROI. it could also mean that something is fundamentally wrong with the company.An Insights on Investor Behaviour 9. However.6 Price-To-Book Ratio .Stocks To Riches -. 73 . if an investment does not have have a positive ROI. the benefit (return) of an investment is divided by the cost of the investment.5 Return on Investment . or if there are other opportunities with a higher ROI. the result is expressed as a percentage or a ratio. Also known as the "price-equity ratio". That is. be aware this varies by industry. then the investment should be not be undertaken.P/B Ratio A ratio used to compare a stock's market value to its book value. As with most ratios. Calculated as: Return on investment is a very popular metric because of its versatility and simplicity.ROI A performance measure used to evaluate the efficiency of an investment or to compare the efficiency of a number of different investments. 9.
Stocks To Riches -. the shareholders. The company decides on the total payment and this is divided by the number of shares.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. 9. By law such payments can only be made out of current earnings or out of reserves (earnings retained from previous years). Publicly traded companies often make periodic quarterly or yearly cash payments to their owners.7 Dividend Yield Ratio It is calculated to know what % of cash is earned on investment in particular scrip. 9. they are entitled to their share of the profits. This is because the total amount a shareholder gets is reflected by their shareholdings in the company.8 Dividend Per Share Since the shareholders are the owners of the business. and is usually expressed as an amount per share. This is paid out as a dividend. The resulting dividend is an amount of cash per share. in direct proportion to the number of shares held. and so is worked out as:DIVIDEN PER SHARE = Dividends paid Total number of shares issued 74 . The dividend per share shows how much the company has paid out on each individual share. The dividend yield is the dividend paid in the last accounting year divided by the current share price. Calculated as: Dividend yield ratio = DPS / MPS.
Calculated as: Profit Margin = Net Income/Revenue This ratio is not useful for companies losing money. since they have no profit. A low profit margin can indicate pricing strategy and/or the impact competition has on margins.9 Profit Margin Indicates what portion of sales contributes to the income of a company.An Insights on Investor Behaviour 9.Stocks To Riches -. END OF CHAPTER IX SMART PEOPLE INVESTS SMARTLY KNOWLEDGABLE PEOPLE INVESTS FOOLISHLY 75 .
5) Pay little attention to the P/E ratio.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. 1) Use the Stop Loss order. 6) Don't try to "time the market". 4) Stop worrying about the 1/8th. 8) Price is irrelevant. 2) Sell the losers and let the winners ride! 3) Never invest on tips. 7) Waiting for the market to correct. however. eight pieces of solid advice that will help you come out on top in the long run. These tips are by no means the only way to make money in the market. 76 . They are.1 √ FUNDAS OF INVESTING Tips for the Successful Long-Term Investor Many investing websites have hot stock picks and tips .most of which never pan out? Problem is stock picks aren't what makes you a successful investor.Stocks To Riches -.
• 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. you can objectively analyze stocks. Ingredient #4: Don't Lose Sight of the Big Picture • Understand how the bigger picture affects a company before you invest in it. cash flow and general financial health. • Focus on factors such as profit margins.Stocks To Riches -. 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.Invest in Companies (At The Right Price) • It’s all about the fundamentals. • Look for companies with wide economic moats.An Insights on Investor Behaviour 10. be sure there is still a built-in margin of safety. Ingredient #6: 77 . • Don’t forget about price! Ingredient #2: Focus on the Important Factors • Once you filter out the noise in the stock market.2 The 7 Ingredients to Market-Beating Stocks: Ingredient #1: Don’t “Pick Stocks” .
contract notes). 7) If your broker can't help you to resolve your problem. 3) Ensure that you have money before you buy. write to the appropriate authorities. acknowledgment slips. Do’s & Don’ts for Investors Do’s 1) Always deal with the intermediaries registered with SEBI. 6) IF facing a problem act promptly. 4) Ensure that you are holding securities before you sell. 2) Always keep copies of all investment documentation (e. Talk to broker and find a solution. 5) Give clear and unambiguous instructions to your broker/agent. Don'ts 78 . then talk to the stock exchange where transacted. it’s probably too late. Ingredient #7: Remain Confidently Contrarian • When everyone is talking about something. Explain your problem clearly and in brief.g.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.Stocks To Riches -. 8) If the problem is still not resolved.
13) 14) 15) 16) Don’t transact based on rumors generally called ‘tips’. in Don’t fall prey to promises of unrealistic returns. 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.Stocks To Riches -. 10) 11) 12) Don’t forgot taking due documents of transactions. 79 .An Insights on Investor Behaviour 9) Don’t deal with unregistered brokers/sub-brokers. intermediaries. Don’t get misled from by companies agencies showing as the approvals/registrations Government good faith even from people whom you know. investment. approvals could be for certain other purposes and not for the securities you are buying. investments through post-dated cheques.
Stocks To Riches -. You may like to take more risk. 55 or over b.An Insights on Investor Behaviour The Risk Capacity Game Answer these questions to find out if you should even think of direct stock picking. Only yourself 4. This quiz will throw up an answer that will roughly tell you if you have the risk-taking ability. Secure c. Under 35 2. Over the next ten years your annual family income is likely to: • • • a. You are financially responsible for: • • • a. Yourself and three or more people b. but you may not have the profile to do so. Risky b. How old are you: • • • a. Grow at slightly above inflation rate c. Between 36 and 55 c. Very secure 80 . Yourself and one more person c. if you get a low score on this test. 1. Grow at more than 15 per cent a year 3. Tick the one most applicable to you. Your income source is: • • • a. Go down substantially b.
are: • • • a. You won't retire for at least another 10 years c. How far away are your major financial goals? • • • a. 2 to 7 years c. Equal to six months salary or less c. You are in debt (excluding the home loan) b.Stocks To Riches -. Equal to two years salary or more 7. including retirement plans.An Insights on Investor Behaviour 5. don't own any real estate b. 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 . You are retired b. Your own home on loan c. More than 8-10 years 6. Your savings. Less than one year or retired b. On rent. You live in: • • • a. Your own home that is fully paid for 8. How many years until you expect to retire? • • • a.
Medium risk capacity. 20-24 -.High risk capacity.An Insights on Investor Behaviour Final Scores: 8-13 -. Every investor . Stay away from direct stock market investing. All equity exposure should come through mutual funds. 14-19 -.wants to maximize his profit. Happy stock picking! END OF CHAPTER X “The human proclivity . You certainly have the ability to go white water rafting.it gets feared of losses and Gets induced to greed’s. This adventure sport is not for you.Very low risk capacity.Stocks To Riches -. And minimize losses to least. Build a core portfolio with funds and then selectively use direct stocks to take more risk. Use the five tools we discuss to stay dry.” 82 . You could look at allocating a small part of your equity asset allocation to direct stocks.
83 . 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. An equity research stalwart. Mr. Mr. His firm belief in “Value Investing” forms the core of MOSL investment philosophy. 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 *.Stocks To Riches -. along with co-author Mr. Raamdeo Agrawal is the co-promoter of Motilal Oswal Securities Ltd (MOSL) since 1987. Ram K Piparia. Agrawal is an Associate of Institute of Chartered Accountant of India. he is respected by all in the research and broking industry of his valuable insights on issues related to equity research. In 1986. Agrawal authored the book Corporate Numbers Game.An Insights on Investor Behaviour CHAPTER XI INVESTMENT Guru’s Mr.
84 . When I began my travails with the stock market. I believe that one’s investment philosophy evolves as one learns and grows through such learning. you needed some capital. there was a strong desire to make big money. The idea was to start as a stockbroker. I began to think that I knew a lot about the stock market – much more than most of the guys on the street. to be honest. I must have read over 500 balance sheets in the following three-four years. However. But I did not know how to go about thing so. I used to sleep reading them in my apartment. Broking is a great business I first began investing in 1980 on behalf of my brother who had about a lakh of rupees. Even to make a modest beginning. There is nobody who can talk about a perfect philosophy of investing. I don’t think I have learnt even one percent of what there is to be learnt. Now.Stocks To Riches -. 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. earn brokerage income and then invest the surpluses in the stock market. 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. I started reading balance sheets in 1980. The entire process was very exciting.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. I had a good grip on numbers and I wrote a book called The Numbers Game.
I used to think that if a company was big. it is likely to go up substantially. and focus on return on net worth. This book was my first introduction to his views. but the problem is that the whole market knows about such companies. I think. 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. Buffett was. “Don’t focus on EPS. I came across a book on Warren Buffett.” As a chartered accountant. I complied the letters right from 1977 and went through all of them in 3-4 months. Follow a focused approach to investing 85 . 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’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. it got a high discounting.An Insights on Investor Behaviour Then I came across Warren Buffett’s principles Then there was the first breakthrough – a ray of knowledge. Companies that earn a 30-35 percent ROE are no doubt great. Though I had a little feel for this sort of thing – the return on my money – I had never focused much on that. famous much before that. Focus on Return on Net Worth I also happened to change on some of his letters and I found them extremely interesting. I had a rough idea of what it takes to make money. In one of his letters he said.Stocks To Riches -. The biggest opportunities can be found in a company that currently has low ROE but because of some inherent strength. The Warren Buffett Way. I had never really tired to figure out what drove P/E. But it was then that I realised that the real foundation on which good investment is based is the return on net worth. The Money Masters and some other book had interviewed him but I was not aware of that.
All the stocks in your portfolio will never remain at the peak. You actually make money by sitting rather than by thinking. you could be caught on the wrong foot. In fact. You need to have patience. There will be some stocks that are undervalued and some stocks that are fairly valued. such instances often give you a good investment opportunity.Stocks To Riches -. If the customs duty on raw material increases or if the import duty on finished pens falls. you have to be constantly watching. things are not stable. Focus on generating positive returns 86 . Say for instance you hold shares of a company that manufactures pens. RAAMDEO AGRAWAL: Yes. You have to allow a good company to run its own course before your investment begins to pay off. Good businesses with sound management generally have a long life and their falling out of favour is normally a temporary phenomenon. If you do not keep a constant vigil on the businesses you have invested in. the economy as a whole is changing. The whole environment is dynamic and as circumstances change. Even in the larger economies. It takes time for a young tree to flower and bear fruit. the prospects of the stocks you hold also change.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. it could have an adverse impact on the company’s profitability. In India. Always be vigilant CIO: You say buy and hold but don’t buy and neglect.
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. Initially I used to think that we should double our money in two years. I am not saying that I consider only those companies that have market caps of at least Rs 5. In such a scenario. 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. I am basically concerned with picking very high quality companies for my portfolio. No. If all my 20-22 stocks were 87 . After one year. I consider buying a stock with the intention to sell it within a year as speculation.An Insights on Investor Behaviour CIO: But right now we are witnessing tremendous volatility in the market. Pick high quality companies I generally invest in big companies. If I genuinely feel I have found a stock that will double in three years. 000 crores. So. 000 crores or Rs 10. which I don’t want to indulge in. Not that six months or three months is a short period but it doesn’t give me that tax break. I have no hesitation in picking it up. My basic philosophy has been very simple. that’s not the issue.Stocks To Riches -. The issue is that if it is not already large cap. I somehow don’t value very small cap companies as much as the large cap ones. unless a particular small cap company is really uniquely placed and has interesting ideas. the company should have the potential to become large cap. anything with a holding period of less than a year is not of great interest to me. But now I am comfortable if we double our money in three years. So long as I am confident of the quality of the businesses that I have invested in. market volatility is never an issue.
however. low gearing are some of the………… RAAMDEO AGRAWAL: It is possible that in a particular year a company might show extremely attractive financials. it is very unlikely that the management is not 88 . I would have made a good fortune had I stuck to my positions. However. I did try once or twice and when I look back. I have never encountered such a position. So I’m not particularly concerned about market volatility so long as my portfolio is colorful. 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. Follow a strategy that suits temperament CIO: Have you ever made money going short on any shares? RAAMDEO AGRAWAL: No. I would be deeply concerned. But I don’t have the temperament to sit with a short position. going short could be a much better way of making money. I am assuming that the laws are conductive to short selling. Of course. If a company has been able to achieve high ROE and ROCE for the last five-six years in a sustainable fashion.Stocks To Riches -. I realise that those were very good decisions. I have never made money by going short. 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. Profit & loss statements and balance sheet numbers can be suitably doctored to show a high return on equity. Risk arising out of market volatility cannot be eliminated unless you go into cash.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. If you have the right temperament. However. it is not possible to keep doing so in a sustained manner.
Stocks To Riches -. Typically. by the same logic. one would say. I am not a good enough artist. low gearing and a growing stream of profit is always associated with some unique business philosophy that has been guiding the company.An Insights on Investor Behaviour credible. A sustained high ROE. if your predictions about its performance go wrong. Then you need to sell the steel companies you had bought on the premise that prices would rise. Say you thought that steel prices are going to be up but global recession sets in and they actually fall. then it becomes difficult to take a contrary stand and sell the stock. It is not easy to follow a disciplined approach to investing. If you make a mistake. Not so much for the profit it has made for you. “Let me wait for the stock to go up to at least Rs 100. you should get out when it is overvalued. Normally. 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. you fall in love with a stock when it gets overvalued. But if the stock had fallen to Rs 88. you should consider exiting. one would comfortably get out. 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. 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. 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.” But the stock might never again see a price 89 . but because there is so much of consensus that it is such a great stock. I have also been guilty of breaking my own rules in the recent times.
“Rule 1: Never lose money. you could still get desirable returns on your portfolio. wisdom is in getting rid of the stock at any price once you realize that your story has gone wrong. CIO: You had recently talked about a slightly different or a new valuation tool. As long as I am sufficiently prudent in deciding my purchase price. Could you discuss what this payback ratio is and how it works? RAAMDEO AGRAWAL: Yes. The current P/E should reflect the figure growth scenario for a company. So. I strongly believe in Buffett’s following two principles.” As somebody once said. So long as we make good money we are not particularly concerned about the pace at which we do so. “I walk very slowly but I never walk backwards. We never borrow – neither for our business not for our portfolio. I always love to keep that margin of safety when I buy a stock because I can never count on making a good sale. Besides. It has been my experience that the successful ones normally yield disproportionately high returns.” we had talked about the payback ratio or the purchase price recovery ratio. as part of our study on “Wealth Creation. which you call the payback ratio. But we find that one can’t 90 .” Even a slow and painful progress over time leads us forward. even a mediocre sale gives me a good return on investment or at least helps me to conserve my capital.An Insights on Investor Behaviour of Rs 100.Stocks To Riches -. 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. which more than make up or the losses resulting from the failures.” “Rule 2: Never forget rule one.
which is not true. In 1995. This may not be a sufficient condition. 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. There are companies that grow at 25 percent but even then they do not make money. does it mean that the company can grow at 5 percent? I don’t think it is so. 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. But had you bought it then.Stocks To Riches -.An Insights on Investor Behaviour really figure out clearly how much growth is assumed. the stocks that we had found to be suitably price based on PEG calculations then. This is because G has fallen. It assumes a static condition for G going forward. So we said let’s take a more relevant measure. So. 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. However. the P/E per se is not a very good indicator of growth. companies that are not growing at 25 percent 91 . appear expensive now. 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 would have paid a price of Rs 380 crores for Infosys and in the next five years it would have earned Rs 500 crores. Infosys’ payback ratio in 1995 was less than one. you’d have made a good investment. It could recover more than what it took to buy it in 1995 in the next five years. The rewards of identifying such companies at the right time can be truly great. I think if you bought a company at a price that is less than the present value of its future cash flows. The problem with PEG is that it takes into account the last two or three years that we include. So. 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. If the P/E is 5.
it went up from 8 to over 250 for IT companies. Thus. I don’t mean that it is my starting point. If 92 . the condition that a company should be growing at 25 percent is a good starting point. Valuations would come after I am satisfied with the business and its management. I will always prefer investing in established large cap companies with good management.An Insights on Investor Behaviour definitely don’t make money. If you are saying that 25 percent should be the earnings growth rate. 25 percent should be the ROE then you PEG ratio should be 1/2. Hero Honda had done better than many of the software companies on several parameters – whether it was free cash flow or earnings growth rate. is there a rule of thumb? If an investor is looking for a multibagger. Valuation should come last in your evaluation process CIO: So. it is unlikely that you will not make money. 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. But there had been no euphoria about the auto company. if you pay 11-12 times current earnings of this kind of company and if your projections are right. That sequence is very important. When I say I expect my investments to double in three years. 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. we saw that while Hero Honda’s P/E fell from 35 to 8 during the period. Unless I believe that a company’s earnings will double in the next five years.Stocks To Riches -. Five years back. How much money you finally make will depend on the euphoria that the company generates. So. what payback ratio should he look at? If he is looking for a steady 20-25 percent kind of return. That is my last point. I do not consider an investment in it. So.
There are just about 100-150 listed companies that are really worth even looking at. So I hate to invest in company which is not listed.An Insights on Investor Behaviour you start with the valuation first. I’m not have trading volumes of one or two 93 . you could land yourself in serious trouble. I have let go of a number of good opportunities in the past because the stocks concerned were not listed. 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.000 listed companies. 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. In fact.Stocks To Riches -. I just for keep stocks my that tension levels low. CIO: How important is liquidity in your investment decision making? RAAMDEO AGRAWAL: I give liquidity a lot of importance. CIO: Given that there are 10.
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. 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. It is. There is constant monitoring with the help of the respective squadron leaders. Hence the stock that I replaced my earlier investment with also depreciated almost as much as the one that I sold. even if you were investing in some other sector. Particularly the risk associated with that business. When the IT sector peaked. 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. In such circumstances. you may not be very much better off. top-down investing also has its own relevance. I did reduce holdings in some IT stocks but I went back searching for alternative stocks within the sector. a continuous process. but in terms of risk management. you are actually not reducing your risk. 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.Stocks To Riches -. I spend lot of time doing that. how frequently do you update yourself? RAAMDEO AGRAWAL: In fact. It’s good you asked me that because I need to put it in perspective. nevertheless. it might be wise to go into cash. 94 .An Insights on Investor Behaviour CIO: Having invested in a stock. I have my own research department and I kind of eat what I cook most of the time – 99 percent of the time. When you feel that a business has peaked out because of some bubble factor.
When greed is pervasive. it is time to move out. There is no problem about it but if it is actually swollen or extraordinary torrential. instead of trying to get half a percent more on his old-age provisions.An Insights on Investor Behaviour CIO: Are you suggesting than an RAAMDEO AGRAWAL: No. starts speculating in highly volatile stocks. the seasoned investor must start contemplating an exit. Actually. it is better sit on cash. When people who do not know anything about the markets and who are not normally interested in them begin to invest passionately. 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. In such times. During such times you’d see that the pensioner. It is like asking should you go to the river for taking a bath. small investors typically enter the market at the wrong time. Trading volumes witness a massive increase and the market index shows no signs of falling. 95 . When you see that greed is pervasive. you’d fare better if you remained out of the market. Situations like the 1992 boom or the recent tech boom are akin to the extraordinarily torrential river. I firmly believe that you should remain 100 percent invested both in good and bad times. move out CIO: Unfortunately.Stocks To Riches -. I am not suggesting that. investor can actually time the market as well? But if you don’t see a suitable investment opportunity. you’d better avoid going there.
I am listening to all these people.” When I buy a stock. I strongly feel that you must have only one guru. However. I am conservative and I look for value. So. As I told you earlier. I have particularly benefited from the concept of ‘margin of safety. I think I don’t have the capability to become a super doctor after meeting 10 doctors. focusing on value and the like.Stocks To Riches -.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. 96 . I like more of growth investing than looking for some kind of dead value. I find it difficult to absorb things like asset stripping in special situations. But I am talkative and I like reading. the ones that stand out particularly are Graham. I look at it as buying a part of the company in question and not just as buying a share. Fisher and Buffett. margin of safety. Fisher talks more about growth companies and is closer to technology. I have been most influenced by Buffett and partly by Fisher. I think I have been most fortunate to read Warren Buffett. Although I have books on investing by several authors. Buffett has covered most of what Graham propounds – conservatism. I consciously avoid getting deeper into investment techniques that I feel I do not have the temperament to follow.
of course and now. an empire-builder Background: A follower of Benjamin Graham. but their business should have solid economics behind it.Ace stock picker. 97 .An Insights on Investor Behaviour Warren Buffet -. Turn off the Stock Market. then a textile firm.Stocks To Riches -. Buffet used a modified valueinvesting approach after he made a mistake by buying Berkshire Hathaway. They should ask questions about the earnings growth and consistency in margins return on equity and whether they retain earnings for future growth. The Buffett Way Step 1. Investment philosophy: Investors should bet on companies that not only fit the Value Investing criteria.
If you plan on owning shares in an 98 . Buy a Business. turn off the market. Of course. give it your money by investing in index funds. There is nothing scientific about valuing a business and then paying a price that is below this business value. particularly when shares of outstanding businesses are available at irrationally low prices. this behaviour creates opportunities. Adopting a new and different investment strategy will naturally evoke some uneasiness. Step One: Turn off the Stock Market Remember that the stock market is manic-depressive. But just as you would not take direction from an advisor who exhibited manic-depressive tendencies. Step 4.” Whenever people try something new. neither should you allow the market to dictate your actions. Don’t worry about the Economy. If you can master this first step.” the first step is the most challenging. there is initial apprehension. 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. Buffett does not have a stock quote machine in his office.Stocks To Riches -. Manage a Portfolio of Businesses. There are no computer programs to learn or two-inch thick investment banking manuals to decipher.An Insights on Investor Behaviour Step 2. The Warren Buffett Way is deceptively simple. “It is just not necessary to do extraordinary things to get extraordinary results. Sometimes it is wildly excited about future prospects and at other times it is unreasonably depressed. “What we do is not beyond anybody else’s competence. Step 3. the rest of the way is easy. The stock market is not a preceptor. If you believe that the stock market is smarter than you are. and he seems to get by just fine without it. it exists merely to assist you with the mechanics of buying or selling shares of stock.” says Buffett. not a stock. In “The Warren Buffett Way.
if you select stocks that will benefit by a particular economic environment. Why. Brown to validate our well being. Pretty soon you will be convinced that your investment health has survived and that your companies are still operational. Second. what happens in the market on a day-to-day basis is inconsequential. then. you inevitably invite turnover and 99 . “says Buffett. whether interest rates or moving up or down.An Insights on Investor Behaviour outstanding business for a number of years.Stocks To Riches -. “We don’t need a daily quote on our 100 percent position in See’s or H. First. If you don’t believe so. If after two days you companies are well. “After we buy a stock. and then for a whole week. 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. don’t check the newspaper. Often investors begin with an economic assumption and then go about selecting stocks that fit nearly within this grand design. Buffett considers this thinking foolish. or whether there is inflation or disinflation. despite your inattention to their stock quotes. give yourself a test. consequently. no one has economic predictive powers any more than they have stock market predictive powers. If you find yourself discussing and debating whether the economy is poised for growth or tilting toward a recession. You will be surprised that your portfolio weathers nicely without you constantly looking at the market. Try not to look at the market for forty-eight hours. Buffett dedicates no time or energy analysing the economy. don’t listen to a stock market summary. should we need a quote on our 7 percent interest in Coke?” The same holds true for individual investors. we would not be disturbed if markets closed for a year or two. Except for his preconceived notions that the economy inherently has an inflation bias. so too do they worry needlessly about the economy. STOP! Give yourself a break.H. Don’t look at a machine. don’t read a market dairy. try turning off the markets for three days.
Of course. initially causing a great deal of confusion. 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. macroeconomic forces may affect returns on the margin. what are you going to think about? Probably many questions will run through your mind. it cannot be changed and. 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. If you can understand this economic process. let us also pretend that once you have made your decision. Step Three: Buy a Business. Business Tenet: Does the business have a consistent operating history? Step Four: Manage a Portfolio of Businesses 100 . furthermore. To make it interesting. Ultimately. But if Buffett were given the same test. and produces profits. but overall. Too often individuals invest in stocks without a due as to how a company generate sales.An Insights on Investor Behaviour speculation.Stocks To Riches -. Not a Stock Let’s pretend that you have to make a very important decision. your portfolio is continuously adjusted to benefit in the next economic scenario. Tomorrow you will be given an opportunity to pick one business in which to invest. the wealth generated from this business ownership will support you in your retirement. Whether you correctly predict the economy or not. Buffett prefers to buy a business that has the opportunity to profit regardless of the economy. Now. incurs expenses. you have to hold the investment for ten years. you have the ability to intelligently proceed further in your investigation. Buffett’s businesses are able to profit nicely despite vagaries in the economy.
Multiply the earnings per share by the number of shares you own to calculate the total earnings power of your companies. “Buffett says. If these “know-nothing” investors want to own common stocks. the competition of your portfolio will change.Stocks To Riches -. or fifty stocks in your portfolio to achieve adequate diversification. Buffett points out. “Paradoxically. able to understand business economics and to find five to an sensibly-priced companies that possess important long-term competitive advantages. the index investor will actually outperform the majority of investment professionals.” he notes. conventional diversification makes no sense to you. they should own a large number of equities and space out their purchases over time. “if you are a know-something investor.” In fact. forty. “when dumb money acknowledges its limitations. There is no law that says you must include every major industry within your portfolio. thirty. it ceases to be dumb. The goal of the business owner. just as Buffett does. 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. Because you are no longer measuring your success solely by price change or comparing annual price change to a common stock benchmark. will produce the highest level of look-through earnings. “On the other hand. There is nothing shameful about becoming an “index investor. you have the liberty to select the best businesses available. “Buffett asks you to consider: Investors can measure the economic progress of their business portfolio by calculating their look-through earnings.An Insights on Investor Behaviour Now that you are a business owner as opposed to a renter of stocks. If a businesses. The “know-nothing” investors should use an index and dollar cost average purchases. 101 . in ten years. Buffett explains. other words. nor do you have to include twenty. is to create a portfolio of companies that.
“that owns a subsidiary with superb long-term economics is not likely to sell that equity regardless of price.Stocks To Riches -.” A CEO wanting to increase the value of his business will not sell the company’s “crown jewel. not price changes. “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 . now becomes the highest priority in your portfolio. corporate management understand this when they focus on their won business operation. First.An Insights on Investor Behaviour Because growth of look-through earnings. many things begin to change.” Yet this seems CEO will impulsively sell stocks in his personal portfolio with more logic than “you can’t go broke taking a profit. you are less likely to sell your best businesses just because you have profit. Ironically.” Buffett explains.
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.
On the other hand. “It’s been a pleasure sharing my knowledge with you. more knowledgeable. You’re completely on your own. however. If you are going to invest in the market. I wish all of you the best of luck and hope that all your financial dreams come true. you must fight them with knowledge (a very effective shark repellant). If you are willing to take the time to learn what works on Dalal Street. Always be on the lookout for profitable money-making opportunities while remaining cautious. you can survive and prosper as a twenty-first-century investor. at least you have a better understanding of how the stock market works. It is as serious as raising children or working at a fulltime job. Remember that making money in the stock market is serious business. When in doubt. In the end. don’t do it. the government won’t help you. and more flexible than investors in the past.” 106 . you must take responsibility for your own investments. Now that you are aware of the risks as well as the rewards. You have no one to blame but yourself when you do.An Insights on Investor Behaviour Conclusion Before you attempt to buy your first stock. if you decide that stocks are not for you. 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.Stocks To Riches -. nor will your broker. Don’t stop until you have created a successful portfolio. you have choice. be aware that you are entering a battlefield populated by sharks that want your money. you have to be faster. you are destined to lose money. To win. If you lose money. This misinformation that should help you no matter what you decide to do in the future.
investopedia. NEWSPAPERS Economic times 107 . Investing Secrets. How to build wealth like Warren Buffet.com www.com BOOKS India’s Money Monarch.investmentu. The Warren Buffet Way.bse.com www.An Insights on Investor Behaviour BIBLIOGRAPHY WEBSITES www.Stocks To Riches -.esnips.com www.
An Insights on Investor Behaviour 108 .Stocks To Riches -.
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