A thought or two on equity investing in India (Part 2)

A thought or two on equity investing in India (Part 2)

Disclaimer: Equity investing has risks involved. Your investment capital may go to zero. Investment is strictly at your discretion. Author of this article is not responsible for any monetary gains/losses you may incur. The author is NOT SEBI registered.

Three simple questions to answer before you invest in direct equity. What to buy? When to buy and When to sell. If you are able to arrive at fair answer for these, you will do pretty good in investing. Problem? There's a huge amount of noise involved between you and a fairly reasonable answer for these 3 questions.

Consider a scenario. You want to buy a new TV. You go to a nice shop in a nearby mall only to see a huge variety in models, screen size and offers. One looks more appealing than the other and to add to the complexity, the salesperson talks about discounts on various models. All you need is just one TV and now you feel like you need to spend an hour to choose the best possible TV at your budget. Very similar thing may happen in your investing world. There are 100s of listed companies, business news channels and newspapers pour countless stock suggestions. To add to the mix, every Tom, Dick and Harry seems to have an opinion on the next big thing!

One talks about "technical" charts (I can only wonder what is so technical about imagining a shape out of stock price move- Give a bunch of people enough alcohol and you are sure to get 100s of patterns and price predictions). One "expert" gives a buy recommendation with a 30% up move and another predicts opposite direction. One tells you to buy when others are fearful and another tells you "not to catch a falling knife". Whom to follow and whom to ignore?

When a flock of sheep blindly walks in a single direction (probably towards a meat shop), advantage is for the one who dares to look up for once. You might be laughed at for not following the herd, but in the investing world, wonders can happen if you have the stomach to not "go with the flow". 

What probably matters the most in investing is to have an independent thinking. So are all the expert talks and suggestions worthless? Not really. Reading good books and watching lot of investing discussions for me is like a professional chef taking a walk on a busy spice and vegetable market. The chef might simply walk around, watch what people buy and sell, what new products are available only to get inspired. Only to get ideas. He/she samples a few, buys a few, goes home and experiments with them to see if they can bring a new taste/dimension to the food. 

India has a bunch of really good fund managers. You watch their interviews and understand that each one has a unique investing methodology. While you may see some commonality, more often than not, they have a very unique method for what to buy, when to buy and when to sell. Surprisingly, all of them seem to make decent money, a good number of them beating the index too!

Three things are of great importance to me when I first look at a stock- to decide if it's a good buy at its current price. current P/E ratio, historic ROCE and the EPS growth over the past 10 years. What is a P/E ratio? Let's take a very simple scenario to explain this. Let's say, a company has just 1 share and you own it by paying 100 rupees. Say, this company earns a profit of 10 rupees in the current year. You divide the share price by its earnings and you get the P/E ratio of 10 (100/10= 10). Another way of understanding this is, for the investment of 100 rupees, in the current year, you got 10 rupees. So if the earnings remain the same every year, you breakeven on the 10th year (10 rupees per year * 10 years = 100 rupees). Anything that you earn after the 10th year is profit for you. All else being equal, a stock with lower P/E should be more attractive- but the catch is, quite often, all else is not equal. But P/E ratio can definitely be a good ingredient in your cooking adventure!

ROCE: Return on Capital Employed simply indicates how much return the company has earned relative to the money it has deployed in a year, for its business. All else being equal, a stock with higher ROCE should be of more interest to you. One more useful ingredient for your cooking adventure!

EPS: Earnings per share indicates how many rupees of earnings per each share the company earned. All else being equal, a company with higher EPS is preferred. Check and see how the EPS has grown (or decreased) in your company year on year for 10 years. Third ingredient is ready!

There are a few more ingredients to use, but I guess I will cover them in my next blog. 

As a homework, open screener.in (a wonderful website that lists all these and more information!), enter name of an Indian company in the search option, look for these 3 values. Try and compare these 3 values between companies of the same industry. While you don't need to do investing decision right away with these, just by looking at these 3, you have decided to not follow the herd! The very important thing to do to win this investing marathon is to walk in the right direction- surprisingly, many fail to do this. You don't need to fall in love with these 3 right away! If it gets too boring in between, get a beer, enjoy sex with your significant other or watch a nice movie! You have all the time in the world to master the investing world. Compounding of knowledge takes time just like the nice bottle of beer that you have in your hand. But the fruits are sweeter when you wait for it all day long!

Happy investing!