If you are looking to invest in stocks, what exactly should be your broad focus area? Obviously, you need to look for good investment ideas and you need to do your thorough research before investing in these stocks. But there is a bigger psychological and mental game that you need to play before investing in stocks and shares starting from how to open a Demat Account. While it is hard to put down a guide for investing, one can surely crystallize some key ideas that can serve as a detailed guide to investing! Successful investing involves 3 key steps viz. identifying a Good Story, Staying with the good stories for a long time and exiting losers quickly. It is when you can master these 3 steps that you can actually become a successful investor. Here we capture a set of equity rules that should serve as your guide to investing…
1. Have a long-term investment strategy and commit yourself to it…
Successful investment strategies are about themes that hold you in good stead the long run. As an investor you goal is to primarily combine the best of growth and value. Growth companies give you the virtuous cycle of positive price movement, P/E re-rating and profit growth to match. Essentially, your long-term investment strategy in equities should be predicated on two factors. Firstly, adopt a value approach to buy into future leaders at low valuations. Secondly, growth should be your sustainable strategy. It is not value or growth but it has to be value + growth.
2. There is a business behind every stock; make an effort to understand that…
This has been one of the basic premises of Warren Buffett in formulating his investment strategy. When the market corrects, not every stock becomes a good buy. You have to focus on stocks where the price has diverged substantially from the value of the stock. But for that you need to understand the company thoroughly. What is the business model; what are immediate threats; has the company created a moat, what are the entry barriers; is the company overleveraged, these are all questions you need to address. Essentially, you take a 360 degree view on the stock.
3. Don’t wait on your losing positions for too long…
You invest and at times with the best of research you can go wrong. That is where investment strategy comes in handy. You should know when to cut your losses and think with your feet. A good strategy implies not to average positions in the hope that the stock will bounce back. It is all about conviction. The best of investors can only get 70% of their calls right. For the remaining 30% duds in your portfolio, you need to ensure that it does not unnecessarily eat up your resources, time and bandwidth leading to an opportunity lost in the process.
4. When you get your calls profitable, stay as long as possible…
During your investment journey you will find many losers, some winners and just a handful of ultra-winners. Had you bought Eicher in 2009 at Rs.200 and sold it at Rs.1000 after 3 years you would have still made a lot of money. But then you would have lost out on the humongous appreciation that you would have got had you held on. Focus on your conviction and don’t be driven by the percentage returns that you have earned. An investment of Rs.1 lakh in Havells in1996 is worth Rs.35 crore today. When you are profitable on a conviction call try and persist as long as you can.
5. The best of investors diversify their risk and so should you…
Successful investors may tell you that most of their money was made in just a few stocks. That is absolutely true! But to survive long enough in the markets to make money you need to ensure that your risk is properly managed. That is where diversification comes in. Too much concentration can destroy your equity portfolio and hence your risk needs to be constantly monitored. Every investor diversifies. Warren Buffett did not create a portfolio of 5 stocks. He created a portfolio of many stocks and gradually filtered them down to 25 very important stocks.
6. Avoid unwarranted aggression in the market and keep an eye on costs…
Your journey of how to become a successful investor begins with managing your costs. Costs have a variety of implications. There are transaction costs, there are regulatory costs, there is cost of missed opportunities and there is the taxation cost. It is not like costs matter only to traders but they matter to investors too. Also, you must eschew the propensity to try and recover profits by being too aggressive. You will only end up losing both ways.
7. Finally, always focus on margin of safety…
Every equity investment is a risk. It does not matter whether you are buying into a mid-cap stock, small stock or a large-cap stock. There is an essential element of risk in it. As an investor you get many opportunities to make decent money and a handful of opportunities to make big money. It is these big opportunities that will really position you as a successful investor and these will only come when you focus on margin of safety. The margin for safety is not about stocks being underpriced but about being substantially underpriced. That means the returns could be infinitely larger than the risk that you are taking on. That is what a smart trade-off is all about.
Some of these ideas are really helpful in guiding you through your investment journey. Of course, you still need to do your homework, be fleet-footed and pray to god that you also turn lucky with your stocks.