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5 Things to Avoid in the Current Stock Market

When I thought of writing this post, the BSE-Sensex had just touched its all-time high level of nearly 21,300.

But as I was giving the final touches to this post, newspaper headlines read “Sensex posts worst week in three months”.

As I read now, the bulls are predicting that the worst is behind us, while the bears are advising taking money off the table.

Before my mind goes numb seeing and hearing the noise all around, let me share with you 5 things I think you can safely avoid in the current market.


1. Avoid anchors
I hear a lot of people saying that the Sensex P/E at 18x is cheap as it is at the same level as the last few years’ average P/E.

Basing your investment decisions on the Sensex P/E can be dangerous, as this is just an anchor that tells us how much people are willing to pay for the top 30 stocks on an average, not whether the stock you are eyeing is cheap or expensive.

Even when the Sensex P/E stands at 18x now, a lot of stocks are trading at 50-60x and a lot at 5-6x, so ignore this number. Also, looking at average Sensex P/E is illogical as the average is artificially higher owing to the bubble of 2007-08.

You must also not give much weight to a stock’s P/E in basing your investment decision. It’s more important to look at the underlying business and whether it is great, good, or gruesome as per Buffett’s standards.

Another anchor to avoid is the stock price itself, especially given that prices have moved sharply in the past 2-3 months.

Remember that a stock does not become a buy/sell just because it has fallen/risen from a certain price.

2. Avoid arrogance
I see a lot of my trader and investor friends feeling a lot better after the gains they’ve made over the past three months.

They are confusing luck and bull market with brains and skill…and would do well to remember that a good performance in the short term has serious limitations as a basis for estimating long term results.

If you are sailing in the same boat, you would do well to remember Charlie Munger’s advice to maintain intellectual humility amidst heady gains…

  • Stay within a well-defined circle of competence
  • Identify and reconcile disconfirming evidence
  • Resist the craving for false precision, false certainties, etc.
  • Above all, never fool yourself, and remember that you are the easiest person to fool
  • “Understanding both the power of compound interest and the difficulty of getting it is the heart and soul of understanding a lot of things.”

What is more, despite all excitement about Sensex @ 21,000, it’s important to understand that this market is sitting on a much fragile base than when Sensex touched 21,000 in January 2008.

This is thanks to an overdose of cheap money that has inflated bubbles around the world, and especially in emerging market stocks.

When these bubbles will burst is anybody’s guess, but you may call the US Federal Reserve for clarifications, or CNBC office for their predictions.

3. Avoid “cheap” stocks
India has many more zombie companies – sitting on high debt without much cash to survive and without much new business coming in – today than in 2008. So the probability of romancing a value trap is high.

Thus, be very-very careful while buying “cheap” stuff, like stocks at 52-week lows.

Things sometimes get cheap for valid reasons…and cheap often gets cheaper.

So avoid the obviously bad businesses, even if they look cheap.

If you need some hints of what kind of businesses to avoid and what would happen if you don’t avoid them, look at this chart…


Remember what Buffett said – “Time is the friend of the wonderful business, the enemy of the mediocre.”

Avoid the mediocre businesses even if they are available cheap (like at <5x P/E). Such businesses are not just terrible investments for you, but also a major distraction that would cost you in terms of opportunity cost. 4. Avoid multi-bagger ideas
I hear that a lot of stock brokers are shutting shop for the lack of business. In fact, as per the SEBI, around 500 brokers have officially shut shop since April 2013. They say “investors are not investing” while they must say “traders are not trading”.

Anyways, helped by this “Sensex @ 21,000” bait, a lot of brokers and stocks tippers are calling me to sell their trading or research services. One is in fact guaranteeing (not on paper) to earn me Rs 1,000 per day in profit!

If you are also receiving such calls or emails where you are promised multi-bagger returns, simply say ‘thank you’ and turn them away.

They may have their targets to meet so don’t scold them. Just say a polite ‘no’.

5. Avoid predictions
Given that the stock market (read, Sensex) has gone nowhere over the past five years, some “sane” minds are pronouncing long term equity investing as dead (again!).

Then there are many who have raised their Sensex targets to 22,000 or 23,000.

Avoid any such predictions. They are just baits to invite you to part away with your money.

In God I Trust
Einstein supposedly said, “The difference between genius and stupidity is that genius has its limits.”

My “stupidity indicator” is flashing red due to over-heating, and I am thus going on a 10-day holiday to God’s Own Country to recoup my sanity.

If you already reside there, I will be happy to meet you for some time at any of the following places…

  • Kochi – 12th Nov.
  • Kumarakom – 13th/14th
  • Thekkady – 15th
  • Munnar – 16th/17th
  • Thrissur – 18th/19th

By the way, if history is any indicator, the stock market nosedives whenever I go on a long holiday. I will pray it really does this time around for I have some petty cash to deploy. 😉

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About the Author

Vishal Khandelwal is the founder of Safal Niveshak. He works with small investors to help them become smart and independent in their stock market investing decisions. He is a SEBI registered Research Analyst. Connect with Vishal on Twitter.

Comments

  1. Hi Vishal,
    Thanks a lot for another wonderful post, I can tell you that I have learnt not only about investing from you but also about how to apply these principles in my life as well.
    I have been following markets very keenly over the last few months, I think I had the opportunity of seeing how truly the principles enunciated by the greats are working out here, so my transition into believers’ category has been fast that way.
    If I may ask you a question about this rise in markets, only to satisfy my curiosity and not for basing any investment decision. One hears that it is being led by flush of liquidity coming in from foreign shores, but going over the statistics also indicate that Indian MF’s have been taking out money from the market and it is greater than what has been pumped in. (Net inflows 3000cr by FII in Oct and outflows 4000 cr by DII) If the above stated is true, then what is fueling the markets, I feel retail investor does not hunt in packs so they couldn’t have put in money all of a sudden, so where has this money come in from or simply how have the markets risen. What other data may I look at to know the story.
    Regards

    • Thanks for your kind words, PGA!

      As for your question on what’s causing the rise while Indian institutions are selling to counter the buying by FIIs, well it seems that while FIIs are focusing on select names – largely Sensex and Nifty stocks – DFIs are sellers largely in mid and large cap stocks. That is seemingly the reason why the broader markets have not risen as much as the top names. Regards.

    • One of the factors (of many which may be around) that is contributing to this liquidity is money from overseas which in turn is due to the excessively loose monetary policies in some western countries. Please note that, given the shallow Indian market in terms of free float and width and depth, just a few billion dollars can result in large swings.

      I also hear that India specific funds are not getting any new funds and in fact are losing money.

      DFI’s redeeming is merely a function of what their investors (me and you) are doing. If I redeem from a mutual fund, the fund has to sell the underlying.

      This lack of domestic investor confidence (in equity, debt and other market linked products) for whatever reason is why bank deposits and gold score so high in saving pattern. To my limited understanding it is a result of ‘lack of trust’ amongst Indians (in fact this is evident in a host of societies especially Asian and Latin American).

  2. Vishal, thanks for sharing your vacation dates. I will not do anything today, and will wait for the markets to crash during your vacation before adding any investments. How much do markets crash when you go on a holiday? Can we expect a 10% crash? Or more? 😉

    Strange, but even I remember markets crashing when I am on a holiday! In Oct’2011 for instance, I was in Pondicherry having a great time with family, when Infosys crashed to Rs1600 or so. I also had the money to invest. But I knew only when I came back! By then, the stock went back to 1900 to 2000 levels!

    • 😉

      Rajaram, please avoid the “Vishal-is-on-vacation-so-markets-will-crash” bias! 🙂

      • Well, was just hoping we could find another “magic formula” for investing, to make life easier! Let’s see, first day of your vacation, there was a dip, though far from a crash. Looking ahead to the next 8 days with anticipation now! 🙂

        If this works, you could be rich, Vishal. “Vishal vacation plans” can become a chargeable commodity, that you can sell for a fee! 😉

        Meanwhile, enjoy your vacation fully, Kerala is a beautiful place!

        • Thanks for your wishes, Rajaram!

          I am yet to start my travel though (it starts today), and the markets have already got the hint. LOL 😉

          Nice product idea you have. That would at least help me cover my travel costs 🙂

  3. Reni George says:

    Dear Vishal

    Good afternoon to you

    As i have said you cant build a good building on a shaky foundation,for that the base has to be strong initially so that it can carry the load…as we had talked the ground realities is all together different.But as we see.maybe here also the base rate formation,conjures up a figure which is far away from the fact.

    As you can see the brokers shutting up,but the fact is brokers in case never needed investors at the first place itself,they are the unwelcome lot…(the reception i receive at my broking office tells a lot),but it is traders who can daily play the flip and flop game of the coin.

    By the way a back to mind calculation,If I consider nifty as a barometer for valuing the stock price movement,the day start of your leave is on 12 th of nov,that means at the close of 6140 before that,if the fall is .5 in percentage terms…then it would translate into a level of near 5892,a fall of 4 %,and if the fall is 1 percentage terms then we are looking at levels of 5526…..not bad,considering the closing of 1st day i think the chances of latter are more…..hahahhaha,why don’t you do one thing more,as i know time is not a constraint for you why don’t you spend some ten days more…..lodging will be taken care of at my house in Kerala, in pathanamthitta dist…as my mom as gone for my sister’s delivery and dad is with me you can live in that house with natural green surroundings,fully furnished,just you need to take care of the food.So the additional 10 % fall would translate into nifty below the 5000 levels,a good point to deploy some cash,that iam holding.

    Think about it….hahahahahha…..

    Enjoy your beautiful holidays

    Thanks and Regards

    Reni George

  4. A post full of sensible words is always welcome. I would agree caution is always good. In the Economic Times the other day this is the topic discussed how certain FII holdings are skewing the market. At the same time do keep an eye on such stocks (of course do your home work) since some of them in a down market could be worthwhile picks.

    The ET link is here. Sensex is at 16,000 with stocks having lowest FII weightage.

  5. Trader.atWork says:

    Just a thought,

    Why invest in India when you can invest in US or other developed countries?

    1. Avoid Anchor – You do not need to invest in India just because you born in India. developed countries are developed because of their “system” is good. (System to run a country)

    2. Avoid Ignorant – Great business in country like US are better than most other country and India have A lot to catch up and with the parliamentary system resembled spaghetti it will take forever to catch up. Avoid India companies.

    3. Avoid Cheap stocks – Again, avoid India companies. USD 1,000 can buy you a lot of shares in India low price stock but as you mentioned there are a lot of zombies companies in SenSex. While say BRK-A is selling 100,000/share 3 years ago but it’s $170,000 right now (It’s book value probably was around 100,000 3 years ago.)

  6. Hi Vishal,

    Another gem from you and guess what?
    Markets are indeed falling as we speak. Nifty closed yesterday at 6100 and as of now it is at 6088.25 :D!

    However, the only thing that would interest me is to see some stocks in my screener going down (TCS, Navneet, Bata, V Guard to name a few). They are at awfully high levels.

    If your predictions come true, your tribesmen are more than willing to keep you on vacation for the rest of the year. LoL 🙂

    Regards,
    Shantanu

  7. Thats a good advice. Here is a stat. Sensex may be at all time high. But Mid cap and Small cap indices are off their highs by about 50%. This is how different sensex can be from most of the companies. As of now, we have loads of companies which have depreciated like crazy in past 5 years. Most have depreciated deservingly. However very few have depreciated without good reason. These are the gems concealed in dirt. Now if only we can find them in time and have courage to go against the tide 🙂

  8. Here is what I am trying in order to make my portfolio a little sensex-proof. I am keeping Shorts and Longs together in futures. Unfortunately shorts are not allowed in delivery. So we can really do it with indefinite timeframe which is the best. If sensex goes down, bad companies are more likely to go down than good ones. On the other hand, if sensex goes up, good companies are more likely to do better than bad ones. I guess, it can be done through Options too.

    This way, one can earn more consistent profit though not the highest potential profit. Ofcourse it since the world is not ideal. Here are some factors which could play spoilsport

    a) Temptation to invest more than the capacity is very high since you have to only give 25% margin money. We can fix this by investing just like delivery but the temptation is always there
    b) Futures are risky. The lot size is atleast 1-3 lakh Rs. So we can’t invest as SIPs.
    c) Positions have to be closed by Expiry and as we reduce the timeframe, randomness increases. A prediction like “XYZ junk company will go down in future” is a lot safer than “XYZ junk company will go down next month”. Same thing holds good for a good company.
    d) Ofcourse we will still have to identify good company and a bad company. If we short a good company thinking that it is bad company and vice-versa, we will get consistent and large loss 🙂

    I would really like to know the community’s opinion on this. Can this work. What are other pitfalls of this strategy which I might have missed. I would really appreciate your thoughts.

  9. Eswar Santhosh says:

    I won’t believe in the “Vishal Vacation effect” until it brings down the stocks I want to buy by 10-15%. Sensex is irrelevant 😉

    Just out of curiosity, is there any tribesman whose trips make the markets go up?

  10. It’s incredible how we are always so obsessed about the level of markets…

  11. Vishal, Looks like the direction of ur vacation also has a impact. You went ‘down south’ for a vacation and the market went ‘up north’. Next time plan a vacation up-north 🙂

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