‘Only when the tide goes out do you discover who’s been swimming naked ‘– Warren Buffett.

It’s now clear to the entire world, that we as a country have been swimming naked. If you look at the last 50 years of our history, the 2003-2008 period looks more like an aberration or accident. We benefited from a wave of liquidity and enthusiasm for the BRIC countries (including India) and as a result were able to grow in excess of 8%, inspite of not having the institutional structure (such as a responsive bureaucracy) to support it.

Now the tide (liquidity and enthusiasm) has gone out and the visible symptom of years of mis-management is the crash of the rupee. I am extremely pessimistic about the macro picture and the ability of our political system to fix it.

….and yet my finger is itching to press the buy button !!!

No, I am not blind to the risks and as depressed about the country as any other Indian. Let me explain my reasoning behind this apparently contradictory stance.

What are the options?

Let’s define the problem – The main outcome of the currency crash and other macro problems on the common investor is a further rise in inflation. We are likely to see double digit inflation for some more time. This is likely to destroy the real value of our capital if we do not find means of protecting or growing it.

So if you have some capital (equity, real estate, cash  or FD) with you, what are the options for it ?

IF you decide to hold cash or some form of an FD (which seems to be the safest bet), you have to keep in mind that the real return (after deducting the 10%+ inflation) is likely to be negative. For reference – do a search on East Asian crisis of the 90s and other such events in the past. You will realize that any form of fixed income investment did far worse than other alternatives.

The second option is real estate. I have been pessimistic about real estate for a long time and with low gross yields of 2-3%, think it is overvalued. However if one has the skill to find some undervalued property and can hold on to an illiquid investment for some time, then this could be a possible option. At the same time, if you are thinking of using a loan  to finance it – forget about it. If the currency rate continues to depreciate, we may see a further rise in interest rates (which has already started) and the loan which you are planning (or already have), may become even more expensive.

The next option is gold. This seems to be a good option as it is likely to hold value in real terms as the currency continues to depreciate. I think there is some truth in it – though I don’t think I understand how to value gold and hence I am not likely to go for it. In addition, gold at best is a defensive option (will protect principal, but unlikely to grow it in real terms over the long term)

I know that readers of this blog already know where I am going with this logic – equities. But before I get there, let me digress a bit.

I think the number one asset to invest at any point of time is you. If you invest (money and time) in developing your skills and become really good at whatever you do, then macro factors are unlikely to impact your earnings in the long run. If you are a talented, the market will pay you for what you are worth (and more of it in a depreciated currency).

The last option, which seems to be the most risky is equities. The reason it appears to be risky is due to the vividness of the risk. If you own a stock and inflation rises, the impact is visible immediately. On the other hand, options such as cash or real estate seem to be safe as we do not get a quote on it daily. However that is just a false sense of safety as the real value is eroding silently. A fixed deposit or debt instrument in the last five years has lost value due to inflation and so has real estate (if it has not appreciated by more than 12% per annum).

The case for equities

One can easily point out that equities are no better as the index has dropped in the last five years and hence the loss is even higher in real terms. That is true if you have been invested in the index for the last few years. At the same time, there are several companies such cera sanitaryware or crisil which have done quite well during the same period.

The key point is this – if you are an investor who can evaluate stocks (as quite a few readers of this blog are), then a carefully selected portfolio of above average companies (defined by high return on capital and good management) has done quite well in the last five years in spite of the extreme macro environment.

Let’s look at the same point mathematically – If you are able to buy a company, which is earning around 20% return on capital (and can do so for the next 3-4 years), one is likely to double his money in this period (unless the economy implodes completely) if the valuation remains the same. Finding such a company is not easy, but if the market keeps dropping, one is likely to find good companies at attractive prices

There are some caveats to the above suggestion –

You have some amount of skill in finding good companies. Investing blindly worked only from 2003-2008.

You have the patience and courage to hold onto stocks when the market is collapsing and everyone around you is heading for the exits

You don’t need the money in the next five years. If you are retired or need money in the near term, please don’t think of putting it in the stock market.

My plans

I keep a wish list of stocks – these are companies which I would like to buy, but the price was never attractive in the past. One such company was crisil, which I bought in 2008 and have held on to it since then. There are a few other companies such as ITC , Marico (and more) in the list which I am watching. If the market keeps dropping, my wish may come true.

In summary, if you want to protect your capital from the impact of inflation, you need to find investments which have the capability to generate a 20%+ return on capital and are priced reasonably. If you look at the history of various asset classes across countries and time periods, equities come closest to it.


I was planning to continue on the previous post – ‘Failure to sell’ , but decided to write on a different topic as I have been receiving quite a few emails – full of despair and frustration.

A lot of young investors, who came of age in the early 2000s, entered the workforce when the economy was booming. If you passed out from a half decent college, you could get a decent job with a good starting salary.

As the economy was growing at 8%+, it was common for employees to be given 15% salary hikes (people quit in disgust if the raise was less than that) and the high performers got promoted every other year.  In addition, flush with cash, some of the same people invested in the stock market or real estate and saw their net worth double in a few years.

You did not have to work too hard to do well

We are not entitled to be rich

I am going to ruffle a few feathers, but let me still say it – We had a dream run from 2003-2008 and now it is over. The days of 20% salary hikes and 30% stock returns are gone (at least for now) for the masses.

If you are really good at your job or in investing, you may get above average raises or returns, but that is not going to be the norm for everyone

If you entered the workforce in 80s or 90s, you may have seen tough times yourself (or maybe your family did). The reason why the current slowdown feels horrible is because our expectations are high now. Don’t get me wrong – I am equally angry with the government for running the economy to the ground.

Keep grinding away

I  faced a similar market from 2000-2003, when the market dropped by around 50% over a three year period. At the market bottom in April 2003, capital goods companies like BHEL, Blue star were selling at 5 times earnings. The current market darlings like Asian paints (15 times PE), Marico (around 5-7 times PE) and other consumption stocks were selling a very low PEs too.

At the risk of getting philosophical, I can think of the following things to do this time around

Assess your risk tolerance:  If you have trouble sleeping in the night after seeing your portfolio drop by 10-15% ,  you should reduce your level of equity holdings.  My thumb rule – will I be able to sleep well if my portfolio dropped by 40%+ ?

Clean out the trash: Now is a good time to clear up junk from the portfolio. A bear market and 40% loss on weaker ideas concentrates your mind. One should evaluate each position closely, sell the weaker ones and redeploy the cash in the better ideas.

Have faith:  There is no data or logical argument which can make you hold on to your stocks or add money to it. You need to trust that the markets will recover in time and so will your portfolio.

It is easy for people to say that they want to think independently and stand apart from the crowd. Now that that we have a blood on the streets and no end in sight, you will know whether you can truly do that.

At the risk of looking foolish, I plan to keep adding to my positions.

Edit : I have a day job to support my family. I will not starve even if my portfolio goes to 0. I would not do the same thing if I was living off my savings.


Bear markets are a good time to reflect !

In a bull market, any pick – good or bad, goes up and everyone feels like a genius. However at times like now, where any kind of mistake is brutally punished, it is easier to uncover flaws in one’s investing process.

So, I have been thinking about my investing process and have realized that one part of my process is exceedingly weak.

Why should one worry about the process ? If you are interested in understanding it in more detail – read this note on ‘process versus outcome’. In a nut shell, if you get the investing process right, the outcome (investment returns) will take care of itself.  It is the equivalent of getting your batting technique right, if you want to be a good batsmen and get high scores consistently.

Over applying buy and hold
As most of you are aware, I am heavily influenced by warren buffett and his investment philosophy. My introduction to investing was through his ‘shareholder letters’ and as a result, I have taken his teachings to the heart.

One of the key tenets of buffett’s philosophy is buy and hold, where one looks for companies with sustainable competitive advantage and buys them  at a reasonable price. Once you make the purchase, buffett advises the investor to hold for long periods of time (provided the business maintains its competitive position)

The above is a very sensible approach and would work for majority of the investors. At the same time, the key point in the ‘Buy and hold’ philosophy is to buy a high quality company where the intrinsic value is growing and let time do its magic (via compounding).

The unsaid bit is that it is often dangerous to apply this approach to other type of companies such as cyclical or deep value plays. I have done that in the past, leading to poor results

A differentiated approach
It has become slowly dawned on me (I am slow learner J), that one needs a more nuanced approach to sell, depending on the nature of the investment. In the rest of this post and the next, I will try to  categorize the various types and look at the sell approach one needs to adopt for each of them – This is ofcourse a work in progress and by no means any kind of rule set for me.

Cyclicals – As the name suggest, this group includes companies which are heavily impacted by  the state of the  economy. This group would include metals, cement, auto and capital goods  type of companies.  The defining feature of these companies is the high profit levels at the top of the economic cycle and the steep drop in the same(leading to losses sometimes) when the economy goes into the reverse.

Such companies look cheap when the economy is doing well and expensive when things are bad, such as now.  If you were to buy and hold such companies over the course of the entire economic cycle (from bottom to top to bottom), the overall returns would be very average. The key in such type of investments is to be able to buy when the company is at or near the bottom of the cycle (difficult to identify usually) and sell as the business recovers – without waiting for the cycle to top.

There is a perfect example for this type of an investment – Ashok Leyland.

I wrote about the company here in 2008 and kept buying it as the stock crashed during the lehman crisis. My average cost basis was around 11 / share (post split).  I was out of the stock by mid 2010. You can see the price action below


The timing was perfect and as much I would like to think that it was my brilliance, it is usually due to plain dumb luck. The commercial vehicle business turned in 2010 and has been going downhill since then. The stock price has followed suit


If I had held the stock from 2008-2013, I would have made around 12% per annum , which is not bad but nothing to crow about too.

So the key point with cyclicals is this – Buy and hold does not work (usually) and timing is critical for above average returns

To be continued ……………

Stocks discussed in this post are for educational purpose only and not recommendations to buy or sell. Please contact a certified investment adviser for your investment decisions. Please read disclaimer towards the end of blog.