Cost of huge Returns

Michael Batnick who is Director, Research at Ritholtz Wealth Management tweeted out the following chart of Amazon

Implicit in the message (my presumption since nothing was blogged / tweeted) was that its not enough to buy a great stock, you need to have the stomach to take big draw downs like Amazon say (90%+ after the IT bubble crashed in 2000).

But what is missed is the fact that Amazon was one of the very few survivors of the carnage of the 2000’s. While I don’t have the actual stats, my guess is that greater than 80% of the stocks that were listed at that point of time don’t even exist (in any form) today.  Pet.com / Webvan.com / eToys.com being some of the biggest losers.

The same is the case with Indian IT stocks as well with very few surviving the carnage. In Bangalore which was and has been a Infotech hub, we had stocks like Shree MM Softek, International Computech, Cybermate Systems among others (50 IIRC) that no longer even exist. Bigger ones you may remember would be Pentafour Software / DSQ Software / Aftek Infosys among many others.

Returns don’t come from suffering unbearable draw-downs. Returns come when you are able to balance out the risk with probable rewards and if your stock is down 80% or more, you have a 20% or lower chance of ever getting your money back. Things like Amazon / Apple happen, but only in hindsight do we recognize the great opportunity that it was.

And last but not the least, while its seem one easy way to avoid total destruction would be to be well diversified, it has to be across asset classes / sectors / industries. Buying 10 NBFC companies (Today’s hot sector) or 10 Pharma would either make you very rich or very poor and is not definitely for someone who wants to achieve returns greater than what a simple Index fund would provide.

A small table listing out % of stocks that are at different draw-down levels. Remember, these are those who survived and continue to be listed – many don’t.