Suddenly off late, I have started to receive frequent calls from my friends asking for equity investment tips. And me being the boring conservative guy that I am, “Dude, start off with an SIP in X,Y & Z equity mutual funds” goes my response. And most often the response is “Can you suggest me some stocks instead. Mutual Funds are boring!!”.
While I have no issues with my friends going ahead with stocks, unfortunately most of them are first time investors who are looking to shift from their Bank FDs or Real Estate investments. The recent strong returns of the stock market, new found interest amongst their peers about stock markets, bad show in real estate & gold and the extremely low returns from FDs maybe some of the reasons for this sudden interest.
This post is a summation of my thoughts on what first time investors need to realise before they start investing stocks.
Arnold & Stock Investing
Assume you suddenly realize that you have gained pounds over the years, thanks to your sedentary life style. Now you have decided to become fit. What will be your approach?
You see the above picture of Arnold and you’re like…
Wow..I have to develop a six pack like Arnold!!
But unfortunately, it also means the route to this is not easy
Err.. In fact, the reality is that while most of us want a body like Arnold, we acknowledge and realize that it involves significant amount of discipline, hard work and a six pack is definitely not for the majority of us.
Rather we would set reasonable targets such as to lose a few kilos of weight, become more active again etc. So the initial focus would ideally be to start exercising regularly, improving diet and getting good sleep.
However when it comes to investing in stocks, we seem to take a different path altogether.
In stock markets, the below table is the equivalent of seeing Arnold’s six pack and wanting to replicate it. We get enamored by the “make quick returns” thought process.
Source: As on 31-Dec-2016, MOSL Wealth Creation Study 2016
While there is no denying that you can definitely become a great equity investor, we need to respect the fact that just like in any other field, the route to being a great investor while maybe simple is definitely not easy.
Unfortunately, the discipline, hard work and patience which goes behind successful equity investing is not as vivid and visible as the inspiring Arnold workout video which we saw above. Most often it remains hidden and extremely subtle. And therein lies the problem.
All of us want to be Arnold’s of equity investing without really understanding the effort that needs to go into it.
Recognizing what it takes to be in stock markets
This is what we see and get interested in stocks..
But this is exactly the reality of what it takes to get these returns..
Note: Stocks don’t go up and make new highs every single day. This means most of the time you’re going to see a price which is lower than its previous highest price and you’re most likely to be in a state of “Oh shit I should have sold it earlier” . The drawdown chart is basically used to represent this and plots the percentage fall of the stock price on each and every day compared to its previous highest price
The 62x return is made of several testing moments.
The highest fall that you would have experienced from the previous peak price is 73% during this 10 year period!!
Each and every fall tempts you with the option to “Sell now and Buy later”. But unfortunately this is easier said than done. It is extremely difficult (almost impossible in my opinion) to move in and out at the right time consistently over long periods.
As the great investor Howard Marks puts it ,
“The biggest investing errors come not from factors that are informational or analytical, but from those that are psychological.”
Hence “staying put through testing times and withstanding the volatility” is the first quality that any stock market investor needs to develop and learn over a period of time
But hang on..Before you go all out and decide to stay put no matter how volatile the prices of your stock is, please take a look at the below chart
Imagine being a long term investor in DLF. At one point in time it was the superstar of the 2007 bull run. The stock is 1/4th its original price in the last 10 years.
The highest fall that you would have experienced from the previous peak price is a whopping 93% during this 10 year period.
So while the ability to hold on for the long term is the primary quality that you require, identifying the right stocks is also as important.
In essence, it means you need to get two things right when it comes to investing in stocks
- Identify the right stocks – strong fundamentals, profitability and long term sustainable growth
- Ability to stay invested for the long term – Staying put despite the extreme short term price fluctuation
This is also neatly summarized by MOSL investment team as
Parting Thoughts
Investing in stocks as seen above is definitely not easy and requires a lot of discipline, patience and research. So in effect if you are someone who does not have the time nor the interest to analyse and research stocks, how do you start equity investing and still ensure you still make reasonable returns from equities.
One of the best ways to start, is in an equity mutual fund where you have experienced fund managers and analyst teams working together to provide you a well diversified portfolio of fundamentally strong stocks.
But again there are 300+ equity mutual funds. How do we decide which one is right for us.
Hang on. We shall explore the world of equity mutual funds in the coming weeks.
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Thanks for reading. And happy investing as always 🙂
The Eighty Twenty Investor 