Spotlight

Until last year I maintained two demat accounts. It wasn’t intentional, but because of laziness, I had been procrastinating the task of consolidating all my holdings into a single account. So, when I called the old broker to reveal that I am closing the account and moving all my stocks to a different demat account, he wasn’t pleased. Grudgingly he gave me the form to be filled and made one last attempt to hold me back. But I had already made up my mind.

Of course, the relationship manager at the new brokerage house was very happy to know that I was going to use his services exclusively for buying and selling stocks. So, when he offered to come to my house and collect the documents, I felt I was troubling him unnecessarily for an administrative work. But he insisted for a personal meeting. Next day when he showed up at my doorstep it was evident that collecting the documents was just an excuse.

His real intention was to sell me one of his “star performing” investment products. Knowingly or unknowingly he was deploying a powerful weapon of persuasion on me. Reciprocity. Because he took the trouble to come all the way to my house, I was more likely to say yes to his sales pitch to reciprocate the favour.

Even after knowing his intentions, it took great efforts to decline his request. Although he left without making a sale, he did succeed in leaving a lump of guilt in my heart for not returning his favour. From that day, I swore to myself – when it comes to dealing with relationship managers and brokers, use The Hollywood Principle.

The Hollywood studios and the agents get thousands of calls from amateur artists and this is what most agents tell the new Hollywood aspirants – “Don’t call us, we’ll call you.” This is a response most people get after auditioning for a role in a Hollywood movie. And not just in Hollywood, “Don’t call us…” is a stereotypical request from a hiring organisation to a potential candidate, suggesting that the candidate will not be hired.

In investing, that’s the attitude you need to have with your broker. You need to tell him – “Don’t call me, I’ll call you when I need you.” Your broker may have the best of intentions but there is a serious misalignment between the fundamental incentives of a brokerage firm and what’s best for a small investor. I don’t need to remind you that a broker makes money only when his clients transact. If your stock goes up by 10x in few years, the only way your broker can make money is by convincing you to sell your 10-bagger stock.

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The act of looking stupid is one of the most difficult tasks of being an investor in stock market. And this is especially when you see ‘smart’ people all around you, people who seem to be making no mistakes and doing nothing wrong.

It was exactly nine years ago (how time flies!), when the Indian capital market was gearing up for its biggest IPO ever. Reliance Power, which was set to raise Rs 11,000 crore, received bids worth Rs 750,000 crore as the offer was oversubscribed by 73 times. Everyone and his brother-in-law who subscribed to the IPO looked smarter, even as my family members whom I had asked to avoid the issue by far, seemed disturbed on my recommendation.

So I looked stupid even as there were stories floating all around how people borrowed money and sold their properties to apply to this IPO that was sure to succeed. In fact, we were the only research house in India that had asked its clients to avoid the IPO and we had received a lot of brickbats for the same.

I, being the power analyst and the guy who wrote the IPO analysis report on the company, did a DCF valuation of the stock discounting free cash flows for the next 25 years (the general norm for DCF is 10 years)! My ideas was to lengthen the DCF calculation period by as much as possible and then see how the stock really stacked up.

The result of my DCF valuation then was, hold your breath, Rs 60 per share. In other words, my intrinsic value estimate for Reliance Power’s stock, after assuming the rosiest of picture for the business, came to Rs 60. The stock was offered in the IPO at around Rs 450.

If you had read my report then, you could have gauged the level of ‘stupidity’ I had shown by valuing the stock almost 85% lower than the IPO offer price.

“An overconfident, stupid jerk!” one of my analyst friends introduced me to his friend while telling him my mis-adventures in valuing the Reliance Power stock then.

Well the rest, as they say, is history. Even after adjusting for the bonus issue Reliance Power offered its shareholders immediately after the IPO, the stock is down almost 85% from its peak of 2008.

[Read more…] about Spotlight: Investing and the Act of Looking Stupid

A lot of us suffer from the temptation of buying stocks or mutual funds as soon as we have some cash in the bank. Beware! It could be a symptom of a contagious disease called Rhinophobia.

“All of the humanity’s problems stem from man’s inability to sit quietly in a room alone.” ~ Blaise Pascal

“There is an itch to do things, particularly when you haven’t done anything in a while.” ~ Warren Buffett

“Dude! These bank guys have suddenly started giving me too much attention,” my friend told me. He recently had a cash windfall when his startup was acquired by one of India’s leading e-commerce company.

“Of course they would. You are a rich client for them now,” I told him.

“Earlier I had to run from pillar to post to get even the basic account details updated. But now they are after me like anything. Quite a few people from different departments in the bank have approached me and offered their advice for investing my money,” he complained.

“It’s better to stay away from these advisors. They’re the agents of Rhinophobia,” I warned.

“Rhinophobia? Never heard of it before. Sounds like a disease,” he looked at me with furrowed brow.

“It’s an investor’s disease meaning the dread of ever having any cash. These so called expert advisors will convince you that having un-invested cash in the bank is the biggest sin an investor can make,” I explained.

“Sounds interesting. You should write about it in your Value Investing Almanack,” he suggested. I haven’t been in touch with him since some time so I don’t really know if he heeded to my warning about staying away from his bank’s advisors. However, I took his advice seriously. So here I am sharing my thoughts on Rhinophobia.

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Apart from observation and deduction, if there’s an important skill that an investor or analyst must bring to the table while making investment decisions, it is ‘imagination’. It is, after all, imagination that helps us make relevant connections that are not entirely obvious, between data or information about a business that may appear disparate at first.

Logic will get you from A to B. Imagination will take you everywhere. ~ Albert Einstein

First comes thought; then organization of that thought, into ideas and plans; then transformation of those plans into reality. The beginning, as you will observe, is in your imagination. ~ Napoleon Hill

Having a five-year-old means that I’m always attuned to what’s new in kids’ entertainment – whether it’s books, movies, or YouTube videos. So, while browsing through the video library on my laptop some days back, I came across this video that was created to celebrate the 150th anniversary of Lewis Carrol’s children’s classic, Alice’s Adventures in Wonderland.

The emphasis in this video was on the use of imagination. The first scene presented Alice and her entire family having a Her family endeavour to convince her otherwise, pointing to possible mundane things that can become magical in their opening song: the rabbits in the field, the father’s pack of cards, or a caterpillar (of course prefiguring some of the best-known scenes in the book). And sure enough, the white rabbit appears, prompting Alice to follow him down the rabbit hole.
[Read more…] about Spotlight: If You Can’t Imagine, You Mustn’t Invest in the Stock Market

If you have chosen to invest money in stock market, accept the fact that there will be times of uncertainty with no clear visibility into near future. Since you can’t predict what tomorrow will bring, you must be prepared for whatever it does. If you can’t stomach that, perhaps you shouldn’t be in the stock market at all.

There’s no question about the fact that it’s harder to see the future than the present. But the quest for certainty and longing to know the future is an old human endeavour. For centuries, people have been misled by looking for certainties where none existed.

Uncertainty creates acute mental discomfort and there are evolutionary reasons behind it. Before agricultural revolution, homo sapiens lived as hunter-gatherers. In the absence of steady food supply and the constant threat of wild animals, evolution hardwired human brain to resolve uncertainties about its environment. Agricultural revolution resolved the uncertainties about food and danger but opened up new avenues like diseases, famine, and natural calamities. The way the human race has dealt with these problems was to seek answers from authority figures.

Until 500 years back, before the scientific revolution started unfolding the layers that were hiding the secrets of nature, this thirst for certainty was quenched by religion and collective myths. Religion and its CEOs (priests, pope, godmen etc.), who claimed to have a direct connection with God, offered all answers to all the important problems. So, this tendency to equate knowledge with certainty is an old habit. As technology advanced, it gave birth to methods and tools where it became possible to remove a certain class of randomness from human life, like having more control over deadly diseases and adequate supply of food. Today, modern technologies, from mathematical stock prediction methods to medical imaging machines, have made us more confident about many unpredictable things.

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