Wednesday, July 2, 2014

One Stock Can Change Your Life

Today, India’s benchmark Nifty index has closed above 7700 for the first time, and it has brought back the focus on how to benefit from this unprecedented rally in stocks.

Ever since it became clear that BJP-NDA will get a clear majority on their own, Indian markets have been on fire. Thousands of stocks that had been languishing since the early 2008 peak, quickly sprang back to life.

Many of them are still far away from their lifetime highs, but many others have gone ahead and surpassed their all-time highs.

And with them they brought back the eternal value of publicly listed companies in creating wealth for their public shareholders.

One stock can change your life. For the good.

Though one stock can change your life also for the bad, it rarely happens, unless with those investors who bet excessively on a single stock during their lifetime.

Instead, those who get massively hurt in the stock market, to a point of no return, are more likely to be struck by a large portfolio, and more importantly by doing leveraged and/or time-bound investments or trades.

But having said that a stock is enough to change one’s life, it is by no means easy to identify such a stock. In fact, the effort is so tough - akin to finding the proverbial needle in a haystack - that most give up.

Why is it so? Aren’t the good stocks readily visible? Sure, frontline stocks like the blue-chips in consumables, IT, pharma, or banking are readily visible, but the question is that whether you had entered them young.

Because, returns from mature frontline stocks can be steady and risk-free, but they can’t be life-changing anymore. They were profoundly life-changing for many, who entered them young, but they are unlikely to be wonderful multibaggers anymore.

Most retail investors fail to understand the unbelievable compounding mechanics of multibaggers when entered young.

Suppose you enter a stock when it is available for Rs. 50. You buy 2000 of them by investing Rs. 1,00,000. And it goes nowhere for many years. It may go even below your price sometimes. And you start lamenting that stocks are useless.

But then comes along a bull market. And your Rs. 50 stock starts moving up from wherever it was when the bull market hit it - Rs. 20 or Rs. 70. If the company continues reasonable performance and the bull market lasts, there will be no looking back.

But still you may miss to understand the compounding dynamics, in the initial stages. Even if the stock reaches Rs. 150 within 5 to 7 years of your investment, you may continue to grumble. Because, it is difficult to imagine that the future would continue to be as rosy, or more importantly, to imagine what would be the emerging dynamics.

So, here it is for you. If your stock continues to rise and starts trading around Rs. 500, what happens? If you think that what then happens is only that your 1 lakh becomes 10 lakh, you are missing the big picture.

What really happens is that it becomes very easy for your 10X multibagger to become a 11X multibagger. In other words, it becomes increasingly easy for your investment that has reached Rs. 10 lakh to become Rs. 11 lakh, and then more easier for it to reach Rs. 12 lakh and so on and on.

Unbelievable? Here is the workout. For your Rs. 50 stock to move up to Rs. 100, a 100% appreciation is needed, which may take years altogether. But for your Rs. 500 stock to move up to Rs. 550, it needs just a 10% up-move, which can happen within a couple of days in a bull market. But within that 10% move, your investment has moved up from Rs. 10 lakh to Rs. 11 lakh! In other words, an amount equal to your initial investment of Rs. 1 lakh will get added by a 10% rise.

Now, imagine the next orbit. After 10 or 15 or 20 years, what if your Rs. 50 stock is trading at Rs. 5000 a piece? Your Rs. 1 lakh initial investment has, of course, reached to be Rs. 1 crore, but the bigger story is that for your 100X investment to reach 101X, it would take only a 1% up move, which can happen within a day or an hour in a bull market. Imagine your initial investment getting added by one more time, with each 1% rise!

Is it a very farfetched scenario? Of course not. Even the Indian market has hundreds of such stocks - wonders that have scaled from 50 to 300 times or more in their lifetimes.

Entrepreneurs ranging from Bill Gates to Narayana Murthy and investors ranging from Warren Buffett to Rakesh Jhunjhunwala made their billions this way. This is also how SD Shibulal came to own 700 apartments in various American cities!    

But how to identify such stocks? As someone joked, the best way is, of course, to start a company, make it successful, and take it public like Gates, Murthy, or Shibulal did.

But for others, the retail investors, the task is less daunting, as Jhunjhunwala, Shivanand Mankekar, Ashish Dhawan, and hundreds like them proved.

You just have to do meticulous homework. There are no less than two dozen parameters to look for. Small equity, non-dilution of equity, high promoter stake, low institutional stake, high standards in corporate governance, high growth rates etc are some vital statistics to look for.

But there are certain summary stats too that take into account most if not all of these parameters. Return on Equity and Dividend Yield are two such summary stats. It is rare for a small-cap or mid-cap with high RoE as well as high and regular Dividend Yield, to not turn into a multibagger eventually.

But all said and done, it also requires a bull market to make the stocks start moving, and bull markets can’t be started by companies, but only by a strong government and political leadership. That is what Modi has done. Now it is up to the companies and retail investors to make the best use of it, as long as Modi continues on his governance promise.

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