NOT ALL STOCKS ARE GOING TO BE PERMANENT UNDER PERFORMER

The long term return from index investing is around 12-14% which is the long term CAGR of the Nifty since inception. What this means is that if you buy all the components of the Nifty and hold it for about 15 years plus, you should get a return of 12-15%. This does not require any other skill other than being able to hold on to the stocks thru that long period. Many people seek to do this by design but for most others, it happens by accident.

Now, this is as far as the stock portfolio is concerned. But much of our money is also invested into gold and jewellery, a flat or two, sometimes a commercial unit or perhaps a piece of land, several FDs, some amount of cash, some insurance, some MF investments etc. If you take the sum total of all your investments and then measure the returns on the total, you may be quite dismayed by the results. FDs and bonds and insurance etc. are instruments which are totally unexciting. They just give you a small sense of thrill that you have a decent amount of money put away for that rainy day. Real estate is another investment that is more feel good than giving some real returns. And when it comes to gold and jewellery, well, that is for your wife to flaunt- when was it ever meant to give you returns??

But understand that your returns on your money are the net return on all of these investments taken collectively. Since we don’t pay them sufficient attention we end up having average or below average returns on our money. Usually this borders around 7-8%. This kind of returns is fine for only one category of people- those that have very large sums of money. These are usually people who have very high cash flows and enough passive wealth to take care of their expenses and hence all their active wealth accumulation gets invested in instruments that carry the least risk. Such investors are not bothered about large returns but more about the safety of their money. So they are perfectly content to keep it in low yielding, low volatility, and low risk instruments. They are typically the ones that are investors in real estate projects with builders and developers, they are the investors into pre-leased properties, they are the ones that park money into debt mutual funds etc. For them, the inflow is sufficiently large and consistent so inflation doesn’t really pose a problem. Deploying money does.

Most people however are not in this bracket. Let me speak about people who are reasonably well off and leading a good upmarket lifestyle. Such people usually have a monthly expense upwards of 1-2 lacs a month but also have a decent amount of inflow that takes care of this lifestyle. Often, they are the ones that get into a mess with their portfolios. As the money comes in and expenditures ease a bit, they put their money into something that is currently available. Sometimes real estate, sometimes gold, sometimes stocks, sometimes bonds. The idea is to just put it away, believing that by doing so one is taking care of the need to save.

Yes, it does that. But does it produce the returns? Unfortunately, it doesn’t. People like these have a lifestyle that demands a higher return on investments. Why? Because they like to lead a higher quality life- going for regular dinners to good restaurants, going for that annual holiday, buying a good house in a good locality, doing up the house in some style, buying that good car for self and one for the wife as well, employ drivers and other help in the house, enrol their kids into good schools with high fees, send their kids abroad to complete their education etc. Etc. All this requires money and the good salary or bonus or even that SME unit doesn’t quite cut it. For people like these, inflation runs along at something more like 6-7% (I.e. a point or two above the normal) rather than the sedate lower rates that prevail. –

Thus, it is obvious that a steady return around 8% is not going to do the trick for these people. The need a much higher return- say, in the range of 15-20% at the minimum. For that kind of returns, equity is the only vehicle. Now, recall we mentioned about Nifty long term returns to be around 12-14% cagr? Even that doesn’t do the trick. So passive investing into index names and holding on to it thru thick and think won’t work. Their only choice is to aim for something higher. They get easily suckered into higher return schemes that are often spun by the market place.

The simple thing for them to do would be to invest into index equities in a manner where they are able to weed out the non-performers. For sure, there are many non-performers in the Nifty every year. What if we are able to weed them out and be able to invest only in the good ones? Wouldn’t the rate of return then jump? Perhaps to something like 20-25%? There- we have met our need!

But question then is how do we weed those stocks out? How does one know which will perform, continue to perform and which are the ones that are going to crap out? Problem is compounded by the fact that not all stocks are going to be permanent under performers! After a couple of years in the wilderness, they make a comeback. This keeps happening every now and then with different set of stocks. So being able to identify the ones that will not make it for now is a difficult one. The preferred route to doing this of course is thru fundamental analysis- by keeping track of earnings, its growth, and the return on capital employed etc. But what if one is not capable of doing this kind of detailed fundamental analysis? Is there a way out?

Enter technical analysis. Not the trader variety but a focused variation. What is the hallmark of a stock that is doing well fundamentally? Well, it is more likely to continue higher thru time, isn’t it? OK, why not use that aspect of its behaviour? Prices’ moving consistently higher thru time is a definition of an uptrend! So, if one is able to isolate up trended stocks within the Nifty universe, and invest only into those names, keeping the investment intact so long as the trend of the stock is unchanged, then we may have well got a wrap on the problem of isolating the performing stock!

Think of it this way. There are many, many analysts hard at work coming up with the situation relating to almost every Nifty stock. This universe is the widest covered area, after all, in the market. Their total activity creates a mountain of information which other people use to arrive at decisions of whether to buy or sell the securities. This action will create prices and those prices are then captured on the charts. So, thru the charts, we are enabled to capture the thought process behind the price action- which is the fundamentals!

Since TA has very definite ways of addressing, structuring and refining trend information to a fine degree, a proper understanding of TA can create a situation where the practitioner is able to discern which of the Nifty stocks are trended and which are not. There are many fine tools in TA that can tell us this information. Using those tools, we can isolate the Nifty components into trended and non-trended stocks. Or perhaps into strongly trended and weak trended stocks. Thereafter we can create a portfolio that carries only those stocks that are trending. This will ensure that we should be able to generate a superior amount of return from Nifty components!

Once this process is created and practiced with diligence, then all that is required is to stick with this process for the long term! If this process produces (and I do firmly believe that it will) a return of 20-25%, then doing this consistently over a 10-15-year period can create a handome10-12x gains in your wealth! Who said we cannot produce wealth using technical analysis? Only those who do not know what TA really is will make such a statement. Those that believe TA is about trading or timing the smaller moves are largely ignorant of the real power of TA. Think about it well and you can certainly harness its powerful features to build a nice amount of wealth for yourself!