The Hindu Business Line : Why past bubbles do not serve as a guide

Investors do their research on companies; but do companies similarly study their investors? Thus, wonders Parag Parikh in Value Investing and Behavioral Finance: Insights into Indian stock market realities ( www.tatamcgrawhill.com).

Considering the ‘havoc’ investors can play with stock prices ‘by buying and selling on the slightest market noise,’ it is important that corporations understand the profile of investors, he argues.

The author divides investors into four categories, viz. organisation-watchers, strategy-followers, financial-addicts, and management-watchers. The first group becomes active when there are organisational changes, such as an exodus of senior management, mergers and acquisitions, or regulatory inquiry.

Strategy-followers study the changes in the company’s business model, track innovations and market entries such as a consumer goods company ‘adopting an aggressive marketing strategy earmarking a huge resource outlay to capture market share’.

Entering a new line of business in a bull market would have favourable response, while in a bear market, investors may not be very excited, the author says.

He blames the third category of investors, that is, financial-addicts, for the volatility in the markets, especially when the quarterly results are disclosed. “However, the silver lining for long-term investors is that such an erratic and short-term view by a majority of investors offers great buying opportunities.”

Management-watchers, comprising the fourth category of investors, consider management quality as an important parameter. Some of the points this group mulls over are: Track record of performance, vision of management, integrity and honesty, contribution to society, succession plans, ability to retain talent, fairness in dealings, timely payment to suppliers, and the level of personal wealth vis-À-vis company’s health.

At the retail level, again, Parikh divides investors into three types, based on trading velocity. The high-velocity retail investors come in the form of day-traders, but their entry/ exit in a stock is so fast that they do not affect the stock prices unless the stock happens to be illiquid, he explains.

The most important group, therefore, is that of medium-velocity investors, Parikh identifies. These people hold stocks for a few months to a year, he says.

Value to investors

The book has inputs of value to investors. For instance, in a chapter titled ‘bubble trap,’ the author presents many reasons why past bubbles do not serve as a guide even to those who remember that history has its lessons. Foremost reason is the demographic change, with a new generation making its way to stock markets, with no institutional memory.

And, talking of memory, seven years can be too long a period in public memory, frets Parikh. The fact that we saw loss-aversion in 2001, 2002, and 2003 demonstrates that the losses were fresh in investors’ minds, he recounts. Watch out when you hear the refrain, ‘this time it is different,’ the author warns. Irrespective of different times and circumstances prevailing, certain universal principles do not change, he emphasises. “A company has to make a profit to reward its shareholders, to earn returns one has to buy at the right price, valuations matter the most, there are no shortcuts, and you cannot sow today and reap tomorrow.”

It is a myth, according to Parikh, to calculate returns based on speculative activity in stocks. Buying and selling stocks has become a fashion especially with the advent of online trading, he chides.

Biggest sins

The biggest sins of investors can be greed and envy, he declares. “The lure to make a fast fortune drains them of any rationality and common sense.” The antidote is to begin by understanding one’s emotional and psychological weaknesses. “Thereafter, understanding the irrational behaviour of others and benefiting from their mistakes is the second step. And the third step is to have the courage and conviction to stand away from the crowd.”

Helpful tips to handhold a contrarian practise value investing, and ultimately survive to reap the financial rewards, even as whole herds get entrapped.

BookPeek.

blogspot.com

More Stories on : Books | Stock Markets | Say Cheek

Article E-Mail :: Comment :: Syndication :: Printer Friendly Page

Stories in this Section
Exploring India

WGC hopes for profitable Akshaya Tritiya

Why past bubbles do not serve as a guide