One of favorite quotes is:
“Traditionally, the investor has been the man with patience and the courage of his convictions who would buy when the harried or disheartened speculator was selling. If the investor is now to hold back until the market itself encourages him, how will he distinguish himself from the speculator, and wherein will he deserve any better than ordinary speculator’s fate?” – Benjamin Graham
Even 80 years ago, when this quote was published, market timing received as much importance as it does today. An investor is supposed to be a person who studies securities in pursuit of acquiring and holding good businesses at the right prices. If one is interested in anticipating and profiting from market fluctuations, that person is not an investor but a speculator.
Some people call themselves “short term investors”. That phrase is an oxymoron, just like ‘exact estimate’ or ‘act naturally’ (or ‘happily married’ … haha). An investor can surely take advantage of the market fluctuations but that is based on the attractive price levels determined through proper analytical framework. As it is most commonly advised, be greedy when people are fearful. To implement this, one needs to be have knowledge about the business one is buying as well as the temperament to stand against the crowd.
Buying when the market tumbles
"Opportunities come infrequently. When it rains gold, put out the bucket, not the thimble." - Warren Buffett
In the last three decades, markets have given several opportunities to invest. Sharp corrections have occurred for various reasons: Political events, Financial troubles, Epidemics. Despite these falls, the long equity returns have outperformed other investments and inflation. Corrections or bear markets give opportunity to increase exposure to good companies. Sure, sharp corrections come with crisis and fear. But as the old adage goes, ‘Never let a good crisis go waste’. When people are fearful, their actions become based on emotions rather than reason. People become extremely risk averse, they panic, and they sell their holdings to a point where the prices incorporate the risks completely. Panic even incorporates low probability risks. The most profitable opportunities come during such downturns. The seeds of wealth are sown during downturns and fruits of the efforts are harvested during good times.
Shareholders, who are looking at short term results, exit good businesses which are in short term trouble. An investor equipped with patience and conviction can use these times to accumulate future winners and put a good amount of capital to work.
Lately, there is a rise in the money managed passively or through quant models. They sell indiscriminately when they suffer redemptions, or their models trigger a sell. One also finds a large number of leveraged players in equity markets. They become forced sellers if there is a margin call which goes unfunded. An intelligent investor is prepared to take advantage of this overreaction.
You won’t catch the exact top or the bottom
Extreme market movements are result of herd behavior. The crowd oscillates like a pendulum between manic highs and depressive lows. It is difficult to fundamentally measure the exact top and bottom of the market. Investors have to accept and accommodate the risk that markets can go lower even after they reach attractive levels. An intelligent investor needs to be an intelligent risk taker.
One cannot ask for absolute certainty in the financial markets, one has to deal with probabilities. History has shown that after a sharp fall like the current one, the odds of making good returns on new investments become favorable. Taking a contrarian stance doesn’t always feel comfortable. But markets have shown that what is comfortable is rarely quite profitable. Even if you make the right investments, the market may not reward you immediately. Being right doesn’t mean the stocks you buy will move up the next day. To increase the odds of catching the best prices, one has to a) increase the portfolio evaluation time b) stagger the investment through the fall. Increasing portfolio evaluation time is about having a long-term horizon but without short term reviews. Frequent portfolio evaluations lead to myopic loss aversion, a psychological barrier to investing. Staggering the investment will provide for any mistakes in evaluation and provide psychological comfort to the investor.
Love the bad times
Good times teach only bad lessons: that investing is easy, that you know the secrets and that you don’t need to worry about risk. The most valuable lessons are learnt in tough times – Howard Marks
In 2008, I wrote an email to my team with the title “I love the bad times”. The central idea of the email was that there are many characteristics of a market crash that work well for the investors. Companies with substandard fundamentals enjoy good valuations during bull markets in what can be called a ‘dash to trash’ rally. These companies go back to their deserved valuations during a crash. Frothy valuations and creative valuation techniques gets exposed. A stock market fall benefits investors who work on a good investment process. In a falling market, there is enough time to evaluate companies thoroughly rather than rush to buy. Why would an investor not welcome this kind of an opportunity every few years? Investing is about investing in good stocks at these times and holding them till they remain good companies.
A need for optimism and patience
Being a good investor requires a dash of optimism too. Even while investing in good businesses, one needs to be positive about the future and believe in a better tomorrow. There are many businesses in India that have a strong business model, a good management team, limited capital requirement, healthy cashflows and a huge runway to grow profitably. As a basket these businesses will be worth much more in future and will create huge wealth.
Markets are not efficient, and people react with greed and fear. These conditions are raw material, or opportunity that an investor can use for successful investing. To realize the returns of a good analytical framework and good temperament, the investor will need patience. Patience is the critical difference between an investor and a speculator.
“There is a need for patience if big profits are to be made from investment. It is often easier to tell what will happen to the price of the stock than how much time will elapse before it happens.”
- Philip Fisher
Nimesh Chandan is Head – Investments, Equities at Canara Robeco MF.
The views expressed in this article are solely of the author and do not necessarily reflect the views of Cafemutual.
