The 'Ten Blunders' to avoid when markets are touching all-time highs

The euphoria is unpalpable, The anchors at the top TV channels have already printed T-Shirts of “Nifty - 21000”. The Nasdaq is about to finally breach (or atleast it was just a few days ago) its life high in a few days and there has never been a better time to believe that “This time it’s different”

I have been in markets since 1993 and like most 50 yr olds have seen a few booms, busts, scams and a few financial crisis. As a fund manager – when sometimes my clients ask me - markets are at all-time highs and making new highs everyday why are you not investing our money and simply holding on to cash.

I give all my clients 2 choices – Take Your money Back – Or be patient. But I ain’t changing my philosophy because of the pressure of capital deployment.

Even though I am always fully invested (personally), in markets (Levered to 120%) I am still almost always fearful, as Socrates keeps knocking within me subconsciously with his words – “Fools are always confident and the wise are always in doubt”

Perhaps I am a mad raging bull in a bear clothing. The bull in me keeps me hopeful and the bear allows me to be patient, cognizant of risks and to be non-greedy when everyone around me is convinced that this time its different. Perhaps that’s why our portfolios have been least volatile and have beaten markets with least amount of palpitations for our clients over a long term.

But the 10 lessons that I have learnt over the years and tried to imbibe in my investing style are as follows.

1. Be bullish not foolish

If the world is progressing and must keep moving ahead (with inventions, technology, opportunities, AI et al) markets will always go up over a long period of time. That allows us and encourages us to be a perma-bull ala Rakesh Jhunjhunwala. Sensex at 60,000 seemed like an impossibility some 10 years ago. Today its 66000. So being a bull almost always helps in the long run.

But in the short run becoming a muppet in the hands of commentators is the worst punishment one can allow oneself to be inflicted with. The narratives that emerge at the seeming peak of the markets are always almost misleading and suicidal.

Lesson

When a stock, an idea or a sector is being pushed feverishly – AVOID.

2. Breakout Stocks

Finfluencers are running paid courses on breakout stock strategy and thousands of gullible retail investors fall for this trap.

In the long run everything is driven by fundamentals without an exception (or else Yes Bank wouldn’t have become a No Bank and Suzlon would still be a blue chip) but in the short run, everything is driven by operators and insiders. How else do most shares start to perform or go down just before a major corporate announcement. Examples are galore not only in Indian markets but US as well.

Stocks break out not because the companies have become fundamentally adroit. They break out because too much money and fear is chasing too little items available. And that can make any s*** break out. Sub 1000 Crore companies that suddenly get new narratives built around them, coupled with incessant peddling of ‘the new promise in the lala land’ on social media and sometimes on business channels always prove to be  a trap and wealth destroyers. Its surprising that almost all breakouts happen only when markets are peaking.

If Infy or ICICI or the likes of it break out, its great and merits attention but when stocks break out because of positive news (in most cases planted) while promoters are happily offloading their stake, not only should you be fearful, but you should also contemplate sitting out of the markets for a while. As Buffet famously quotes “Only when the tide goes out do you discover who is swimming naked”.

Lesson

If you are a superman and can get on a bullet train (thats running towards an abyss) and get off it - just in time, breakout investment strategy is ok. Else you will almost always get scorched.

3. Beating the estimates

When rivers start flowing above the danger mark, the powers that be, worry little about the river or the impending danger. They just raise the danger sign by a few feet so that the river remains below the danger mark. Such is the story of the estimates by analysts. All estimates are always beaten because estimates are not based on the FCF or Earnings Yield. But based on a collective intelligence of sub optimal and mostly clueless analysts who are experts in guesswork.

And sometimes estimates get beaten because of a low base effect, one off income etc etc. For this one needs to delve deep into the financial statements. But beating the estimates is one of the most specious narratives to misguide the DIY and the gullible investor.

Imagine Nykaa listed at a peak valuation of some 1,16,000 Cr (Nearly 15 Billion USD) and analysts hailed it as a profitable company going into IPO while the Nayars privatized their profits and socialized the losses. Its present EPS is some 7 ‘paise’ while its trading at 70% below its listing price and still discounted more than 2200 times.

Over the long term there are just 3 things that matter for a strong stock performance that has any likelihood of creating wealth for shareholders. Valuation, Free Cash and Management intent.

Lesson

Stick to the basic principles of investment that have been in existence for decades. Analysts and their estimates can be great entertainment not the bedrock of sound investment strategies.

4. Feeling good about bad data

Bad data is bad and good is good. However markets have started interpreting this inversely. Can you imagine that if the US jobs and inflation data is good, markets react negatively and vice versa. Eventually the reality will catch up and markets will realize that job losses aren’t good in the long run as data leads the reality by a few months and yet in the short run bad data almost always pleases the market till it doesn’t.

Lesson

If data is correct then trust the data and not the convenient interpretation of it. (eg. Bad data will lead to interest rate cuts and party of excesses will continue). Eventually something that’s good for the economy will manifest itself into goodness and something that’s bad will manifest itself accordingly in not so distant future.

5. Discounting the distant future in the present valuations

Decision of a Capital Expenditure by a company, or establishment of a new factory or a newly acquired business contract spread over multiple years almost always takes the stock price to tizzy heights. And human mind is wired to feel bullish on news that has not produced a single cent yet and no one really knows when it will – These traps are best avoided as euphoria almost always fizzles out. Does anyone remember the infra theme of 2006-2008? Most of those companies aren’t even listed anymore. The present defense theme is no different. Be cautious when buying into future stories.

Lesson

If a company is good it will keep creating consistent shareholder wealth. And any prudent investor will make money in that company’s lifecycle. (Buffet invested so late in Apple’s lifecycle – And How - he didn’t miss any bus or opportunity). Don’t invest just on the promise of a rosy future. Wait for your time.  

6. The FOMO factor

History is replete with examples – and I have experienced it personally. If one really is in love with a stock and wants to create a position, the irresistibility upon hearing TV commentators and news flow is intense. But almost always every single stock that you want to buy today will almost always be available a bit cheaper few weeks or months down the line - Even if it’s the HDFC’s or the Bajaj’s of the world. All one needs is a bit of patience to wait and build a stronger conviction while the target or lower price is achieved. If FOMO could be quantified, its directly proportional to the level of indices. Most bitcoin retail aficionados invested between 50000 – 68000 USD. If Bitcoin is really a store of value why aren’t they doubling down at 20000 USD?

Lesson

Investments made in a state of FOMO are never sound investments. Date your stock, understand it better, observe it for a few Qtrs and then say Yes. You will never go wrong.

7. Recency Bias

Anyone who has vivid memories of 2000 and 2009 and remembers Pentafour Software, DSQ, HFCL, Global Tele and JP Associates, would resonate well with the perils of recency bias. When most of these shares fell from (approx.) Rs. 3000 levels by 20%, people rushed to sell their family silver and real estate to capture the opportunity of owning these blue chips of those times. Well eventually all of these companies got delisted and JP is now at an unfathomable level of Rs 8.

The point to remember is that a stock at Rs 1000 can well become a penny stock and the adage “how much more can it fall” is stupidity.

Lesson

Not only should you never catch a falling knife, don’t invest in story stocks. Companies that peddle stories and not profits will always destroy their shareholders’ wealth.

8. Herd Mentality

Speciality chemicals was as crowded a trade, 18 months ago as Banking is now. Finfluencers were allowed to blatantly push narratives on TV Channels and the entire sector has destroyed a considerable wealth over the last 2 years. Indian Banks are trading at reasonably rich valuations while the CEO s of the same banks are subtly raising red flags on growth and margins yet the BAAP (Buy at any price) brigade is relentless – and while banking sector is the bedrock of economic growth of any country – valuations do matter.

Lesson

When everyone is chasing the same theme – it almost always spells trouble. DotCom in 2000’s, Housing in 2008’s had the same fate. AI is the new darling theme. Lets see what happens to AI and chip companies a few qtrs down the line.

9. Cutting the flowers and watering the weeds

Peter Lynch famously quipped the above adage. I know more than a dozen people who are in love with Yes Bank and Vodafone rather than ICICI Bank and Bharti. A large number of DIY investors feel that the chances of a penny stock doubling are far higher than a respectable and a fairly priced stock. The ‘averaging on the way down’ brigade of Yes Bank, Unitech and JP Associates will continue to sell their winners while collecting mountains of trash.

Eventually such investors get ejected out of the markets forever.

Lesson

The performance of a company gets reflected in numbers and numbers get reflected in the Balance Sheet and the BS gets reflected in the stock price. Stocks are where they are for a reason. A red black on a roulette table offers a better probability of winning than holding onto The Yes’s and Vodafone’s of the world in the hope of they springing a magic.

10. Falling in love with stocks, promoters or commentary

I recently heard a well known fund manager mention in a podcast how he was in awe of Mr. Gosh and Bandhan bank. This adulation towards a particular management clouded his ability to see the turning fortunes for the worse at the bank and eventually he had to exit the investment at a big loss to his investors.

It is easy to fall in love with stocks/sectors which have given good returns in the past. But this should not blind one’s rational thinking towards changing times. One key TV commentator keeps peddling the idea that the next HDFC bank is the HDFC bank itself, while the stock underperformed Nifty by a huge margin in the last 2.5 years and ICICI snatched the mantle of growth and consistency in the Indian Banking space.

Positive Management Commentary is another trap that most investors love to fall into. Bias clouds their judgements and the performance as well. And most investors get sated by just commentary. Which promoter will ever say that his future is bleak or give a negative commentary?

Lesson

Don’t cling onto stocks where data or price isn’t supporting or where the business model could itself face a headwind. If at all - cling onto relationships, great friendships and emotions – not stocks and commentary.

11. Checking the price and not value

We all aspire to upgrade our standard of living (Car, House, Holiday destinations, etc) and happily pay a premium for superior quality and size. But some of the most prudent investors and sometimes fund-managers as well, take refuge of substandard – low priced stocks (penny stocks) in the hope of dramatic turnaround or a story that’s likely to unfold in some distant future. The propensity to indulge in this investment strategy is directly proportional to the index levels.

Lesson

If there is 1% chance that your investment behavior is vaguely similar to gambling, you are most likely to get into trouble. The probability of landing a multibagger amidst an ocean of crappy stocks is like finding a unicorn in a herd of donkeys.

If one could just avoid stupidities in ones investment journey over decades, there is no force that can stop you from compounding your wealth at an appreciable rate. And compounding – the eighth wonder – is everything isn’t it?

Follow Manu on Twitter

Investors are Dancing - But no music can be heard

Is a Financial Tsunami Building up?

Just as the stock price of Tesla kisses $2000 (and by the time i finish writing this piece, it might be $2200) and Apple is way past the 2Tr$ Marcap, I receive a text message from an enthusiastic friend of mine who first started investing a few months ago (March 2020) after being forced to work from home and shared his stellar success at his new-go at the markets. He shared his desire to be a professional fund manager and started exploring ways to get a SEBI license to be a RIA (Investment Advisor) or a Portfolio Manager.

Being an investor since 1992 when I made my first investment and having managed funds for family and friends all life and now as a professional Fund Manager since the last few years, and having seen euphoria and fear again and again, I can say with some degree of confidence that this time it isn’t different and something is about to give way.

Covid has been the most unfathomable disruption, the likes of which hasn’t been seen by anyone alive today. The concept of Black Swan stands redefined which – till now – was an unexpected and improbable event and people would often relate to it by comparing it with a Tsunami or an accident or a sudden unexpected failure of an enterprise with global ramifications.

No one had ever imagined that within days, the global borders would be closed, airlines across the planet would be grounded (95% still remain grounded as I write this), and all levers of the global economy (travel, trade, manufacturing, shipping) would come to a grinding halt. ‘Sudden Stop’ in global economy was an academic expression that became a reality almost instantly.

Some 30 million Americans lost their jobs (more than 3 times than the previous highest), markets crashed by about 40% in 3-4 trading sessions, China got blamed for its alleged Chinese Virus, oil hit (-) 37 $ while the global leaders remained clueless and the only policy response was a complete lockdown of nations as leaders grappled with the  enormity of the situation.

Hundreds of millions of people have lost their jobs and millions of small businesses have shut down forever and the economic contraction has been so secular that some of the most high flying businessmen and executives have resigned themselves to the new normal only yearning for their basic needs to be met for their families and themselves.

While some countries have shared the real data and the extent of severe and unprecedented economic contraction, most have conveniently chosen not to release the same either to avoid embarrassment or to avoid panic. But imagine, for a second, that everything (revenue, earnings, profit, salaries, rentals, commoditiesetc etc etc) gets deflated by 40-70% - what effect it is likely to have on the global economy.

If the savings rate from income varies from 1% to 25% in different parts of the globe (it is believed that more than 70% Americans have less than $500 in savings and the max savings rate is about 25% in China and India), it is safe to assume that every person on a monthly salary / entrepreneur is already digging into life investments and assets to keep afloat as the inflow (after salary cuts or loss of income) is far lesser than the outflow. Majority of my friends and acquaintances have either stopped their SIPs or redeemed their Mutual Funds. I read that last 2 months have been the worst for the MF industry because of incessant redemptions and negligible inflows.

And Yet…

The Indian and global stock markets have shown immense resilience making these an easy ATM to churn out daily profits for Robinhooders.

Human memory is short and 10 years is a long time to lose and gain confidence all over again and the stars (Corporations and Executives) of yesteryears fade away while the new ones emerge on the evolutionary principles of Creation - Preservation and Destruction

It is believed statistically that 95% of market participants and fund managers have less than 12 years of experience which implies that only 5% have seen the crash of 1987, 2000, 2008 and a few other mentionable flutters in between. And human mind is generally tuned to be optimistic as hope and evolution trains the mind to expect a better future always in every which way. Little credence is given to people who invoke caution and sometimes border pessimism as a result of lifelong experiences and perhaps that’s the reason the world is deriding WarrenBuffett for having lost a decade by underperforming and not investing in Tesla and Amazon and all the 30 yr olds have seemingly outperformed by simply investing in Tesla or Kodak or Overstock kind of shares.

Parameters such as performance Ratios, Profits, Real cash in the hands of shareholders have lost every mentionable significance and price earnings of 200/300 or even 1000 in case of Tesla seems like 'THE' new normal.

And while the bears have been irreparably scathed in this recent melt-up, it would be prudent to remember that over long periods of time, either the price catches up with the fundamentals of a stock or the fundamentals catch up with the price,  but just to put the things in perspective (and I know nothing about Tesla and am not a Tesla basher sitting here in India – but it’s a good example) if Tesla was to maintain its present earnings, it would take about 1000 years to fully recover ones investment through Tesla s present earnings. Anyone who buys a Tesla stock now is valuing it at approx. a million dollars for every car sold.

Markets are a beautiful place that allow immense wealth to be created and accumulated for people who have patience and discipline but history is replete with examples of more than 70% of investors of all times to have permanently lost capital by chasing garbage (aka penny stocks) that seems to provide short term euphoria.

Lets talk of a few Indian stocks and themes or should I say wealth destroyers.

Between 2003 and 2008 Infra and Housing was a great story and a mere ‘infratech’ (use of tech and infra) in a company s name would get it rerated. Unitech, IVRCL, HCC, NCC, Sintex, DLF, …………… have destroyed almost 99% of shareholder wealth and most of these names have got delisted leading to permanent destruction of wealth. During hay days these were stocks that were the market darlings

Then came the era of banking and finance. Between 2009 and 2018 NBFC s and Banks had a dream run before the euphoria and invincibility of the sector was popped by the ILFS, Yes and DHFL type of fiascos and recently while a top outgoing CEO dumped his entire shareholding and ESOPS of 26 years in a jiffy (perhaps to pay for the expenses of grocery, maids and electricity bills during tough times amidst the pandemic), the gullible public and minority shareholders will be the last to keep holding the hot potatoes and the music would stop suddenly.

And Now

We have the API and the pharma theme on an assumption that all the medicine factories on this planet will stop production and all pharma orders will come rushing to Indian companies and the world population might start eating medicines instead of fruits and vegetables all produced by Indian pharma companies.

The same story gets repeated again and again. While the robinhooders are gloating in the wealth created by some new age, recently discovered pharma companies doubling in the value in less then 2-3 months, the end is always painful when the music or the party stops. And by the way graphite was the pharma of today or pharma/API was the graphite of those times.

The 5% people who have been around, all of them understand this, having gone thru cycles, but the 95% neither have the wherewithal or the research to truly fathom the depth or the lack of it in the present euphoria.

Every crop must be harvested at a specific and optimum time, lest it should rot. Same goes for ones stocks, corporations, businesses. Buying or creating is natural to ones instinct of evolution, letting go / harvesting is an art which very few understand or develop. And most end up in a feeling of regret esp small and minority retail investors who fall in love with their stocks, cannot sell and take the profits home.

The trouble is that most fund managers are obliged to be eternally optimistic (ignoring the risks) else they would face redemption thereby leading to lesser fees for the fund-house. Very few investors realize that cash in itself is a strategy and a position worth considering and to be in from time to time.

As Howard Marks says “To be a disciplined investor you have to be willing to stand by and watch other people make money on things that you passed on”.

Irony of the markets is well evidenced, rather strongly in just this one case in point :- PVR Cinemas

PVR used to be a perfectly fine and a successful popcorn and coke reseller till the pandemic struck and just 11 days of disruption in March saw its profit fall thru the floor. The future is bleak with zero sale in first 2 quarters and any of the movie buffs whom I have spoken to in Delhi, Bangalore and Bombay (where PVR has max screens) are not going back to a cinema hall as people have found a new freedom on OTT platforms and using affordable projectors at home and replicating a cinema hall effect without risking oneself to the virus-exposure. 

Producers are preferring - selling to and releasing movies through OTT platforms as that reduces their risk to zero. And yet retail investors are finding virtue in this company that has zero sales, bleak future, debt ridden and trading at 300 times its trailing earnings and no visibility of the future earnings. Some PVR stock lovers say – all will be well in a few years, we are looking at 2030.

CNBC has single headedly taken it upon itself to create a euphoric environment shrouded by global liquidity and has allowed all dubious promoters to talk up their stocks only on the base of 'positive commentary' as if the alchemist in them can turn just commentary into profits, cash and dividends.

On the other had a company like ITC that produces more cash and profits than all the other 6-7 top FMCG companies, is debt free, is trading at abysmally low valuations (15 times trailing earnings) and yet the robinhooders find it less appealing.

This dichotomy will self correct sooner rather than later and will come with its own collateral damage which most new entrants in the markets aren't ready to handle.

Harvest Your crop, take profits off the table, let some notional profits be lost along the way but evaluate the risk and reward that any company, valuation, story, potential – offers.

If this fine art of valuation equilibrium can be discovered, small investors would do themselves a great service of increasing their longevity in the markets and protecting their capital.

Enjoy the party, stay close to the door, so when the stampede starts, You can safely escape without being trampled.

My twitter handle @manurishiguptha

www.manurishiguptha.com

www.mrgcapital.in

'Skin in the Game' Reform: A Game Changer in the MF and Wealth Management World to Save the Retail Investor

Indian benchmark indices are at a lifetime high and hundreds of stocks that have been the market darlings are at their yearly and some 2-yearly lows. This fall has been precipitated in a matter of last -mere 5 months.

Obviously most of the fund managers (mutual funds, private wealth, PMS schemes) are finding corners to hide where they can find respite and concoct some solid theories and reasons for wealth destruction last seen only in 2008-2009 – after all these were the very same guys on CNBC, just very recently, who were chuffed at their stellar performance and recommending shares ala Vakrangee Manpasand and PC – forgetting that it’s a unusual proxigean spring tide. And as we have all heard before --  that all s*^@# rises in a high tide.

Some fund managers like Porinju (having faced perhaps the maximum erosion in their recommended portfolios) have been graceful enough to publicly accept the same and have learnt their lessons. I have great respect for people who have a clear intent and are quick to concede defeat when defeated and are quick to self-deprecate and crack a joke on themselves. Hats off Porinju. Your recent confessions hold you in good stead with small yet well informed investors like me.

Some relatively bigger names in money management business who have destroyed a much larger share of the savers wealth are finding ways to repackage some established theories  of legends such as Benjamin Graham (BG) and Buffett (WB) to avoid backlash and scrutiny. Some are repeating BG’s theories of quotational losses and appearing in full page interviews.

The public opinion is rife as to why the regulator of markets (SEBI) has introduced a volley of measures to simplify the mutual fund industry by reclassification of schemes and defining the size of companies on basis of market cap of companies and % of funds invested in a category of companies.

What’s wrong in it. Actually nothing.

Mutual funds and fund managers had created an ocean of incomprehensible financial products where schemes were being launched such as special situations, arbitrage, emerging companies, vultures picks, future stars etc etc. Just the names of the new schemes were being used and repackaged to amass fortunes (read expense ratios and bonuses).

Basically, all of this is a demonstration of the fund manager's alleged belief and necessity at that point of time to launch  new schemes using publicly available information based on specious research.

And the market regulator tried to streamline this so that the gullible investor, reposing trust in the mutual fund – basically the fund manager, sees some method in madness.

Indian markets are most volatile for the following reasons. The size of speculation is 29 times the real market capitalization. For the record some of the most sound and advanced and mature markets such as the USA, Germany and the UK have just 3-5 times the size of derivatives markets in comparison to the  cash market.

So I am in absolute awe of the regulator that all the recent froth in the market was removed judiciously by introducing mechanisms such as ASM and increasing the margin money requirements in the F&O trades. And it surprises me that investors are acting and reacting adversely because SEBI has introduced measures that will allow overheated and irrational markets to cool off and that will reduce the sheer gambling in the garb of investing.

I know of 2 middle class retired uncles who leave home every day with 10k of their pension money, leverage and take positions worth 8-10 times, get wiped out with just a 5-7% volatility in the prices and come hope sheepishly only to restart the next day to recover their losses. Derivatives are definitely weapons of financial destruction as they have no underlying asset/value and are merely an arbitrage between one person’s fear and another’s greed

I am shocked when people ask me questions – do you play markets. PLAY? I ask – is it a sport?

Statistically speaking, If you simply play an odd even on a roulette in a casino you have a better chance of making money than investing in the markets.

So, in this maze of multiple schemes, thousands of options, there is just one reform that SEBI needs to implement that could be a game changer in the interest of a common small investor.

That reform should be called the ‘Skin In The Game’ reform.

I have a 10-point recommendation for the entire MF and PMS industry where creative marketing and false promises disclaimed by reams of fine print are called out.

• No advisor who gives advice on TV or print should be allowed to give a disclaimer.
• Irrespective of the size of the AUM, every fund should have a max cap of expense ratio not as a % of size but as a pure number. Why should a fund with AUM of 2 billion dollars or more charge over 3-3.5% in fees that amounts to close to 60 million dollars. After all incremental effort required to manage a larger or a much larger fund is just the salaries of a few more research analysts.
• Distribution fees offered by the fund houses should be reduced to less that 30-40 basis points and distributors mustn’t be offered perpetual commission on the funds brought in.
• All fund houses must be forced to have a similar fee structure for distribution and fund management fees (expense ratio) to disincentivise mis-selling.
• Why should an investor pay 3% for the first 7% ROI when Indian treasuries or Bank deposits are guaranteeing the same with zero risk. Fund houses and managers should get no or negligible fees and salaries respectively for generating returns up to the yields on Govt Bonds.
• The fund manager should swear under judicial oath that they and their close relatives as defined by the regulator for the purpose of gifting wealth would only invest in the fund managed by self and except for real estate and liquidity as desired by any individual, all investments in financial instruments will only be that fund that’s managed by the family member.

Some advocates of democracy might start jumping and call this preposterous. But how else do we curb counter actions by people acting in concert against the interest of small saver.

Yes, it’s a tough proposal but then if a fund manager wants to earn hefty bonuses, he must figure   this out and have a complete skin in the game.

• Fund managers only get a fractional % of their salaries if they return up to or less than the return offered by Govt treasuries.
• Infinite bonuses make fund managers take risks and positions that neither the gullible and ill-informed investor nor the regulator approves. Every fund manager must have a cap of a maximum performance bonus irrespective of a stellar return or a flash in the pan performance in any particular year.
• Is there any exit load on bank deposits? NO. Why should fund houses charge any exit load. An investor wont exit if the fund is performing and if the fund isn’t, and an investor wants to book losses and exit, why should the fund house be allowed to screw the investor twice over. Exit fees should be scrapped.

And lastly the law around this should be so robust and penalties so humongous that no one can pull off a Houdini on investors.

Rajat Gupta – the poster boy of Indian diaspora was pulled up badly and almost destroyed by the US law for one small mistake of his. The readers of this blog all know in their heart of hearts that almost every promoter and every insider of a listed company in India indulges and misuses the insider info for personal benefits. Would anyone accept that ever anywhere else in developed economies? And would Indian law be robust enough, ever, to instil the fear of God??

Only God knows……...

manu also writes in The Huffington Post