markets | Portfolio Yoga

Mother of all Bull Markets

Evenings on Twitter are generally spent talking about either our markets or the US markets. Today though, much of the discussion so as to say was with regard to making fun of RJ’s target of 1,50,000 for Nifty, mind you Nifty and not Sensex by 2030.

Extrapolation is easy given the tools we have at our disposal. But should the ridiculous target broach us away from the fact that on the long term, markets have gone only one way – Up. And before you point me Nikkei, I would request you to start your Nikkei calculations not from 1980, but 20 – 30 years earlier. From that point, even after the relentless weakness, Nikkei is still very much in positive territory.

Big targets always make nice talking points, but unfortunately, investing for that kind of growth requires a certain rigor and discipline that is not seen in most of us. The best way for 95% of folks is to have a systematic investment plan to invest X% of Salary into a few Mutual Funds (Large Cap / Small Cap) regularly come rain or shine.

Of course, doing that will mean that you may not be able to see your accounts double in a year but what it will ensure is that at the end of 15 / 20 / 25 years, you have a sizable amount as savings which has grown at a rate which would not be possible in most other asset classes (including Real Estate, though there will always be exceptions).

At the current juncture, market’s aren’t cheap by any meaningful measure, but if you are looking at the very long term, any entry is as good as another. Even opportunity costs can make a huge difference in end results.

RJ is no Buffett and as his recent investment into Spicejet shows, even when he invests into what he believes is a solid bet, his allocation is so small so as to not hurt him if it fails. But, the bottom line is that, unless one takes some kind of risk, one can never hope to get a reward.

Markets are cyclic in nature and at some point in future, we could see even a fall of 50% from the top, but if you wait for it and the 50% drop comes after market itself has moved 100% from here, you are still worse of compared to what you would be if you had invested. Worse of all, its easy to say that one will invest when blood is on the street. When blood really flows, rarely do even those with a plan can stick to their plan of action. Fresh investments generally never happen at such times even if RJ says, Sell your House, Buy Nifty 🙂

The biggest advantage (as of right now) into Equity investing is that Long Term returns are Tax Free. This is something that no other asset classes offer and if you were to believe that India has a long way to go as we try and catch up with the developed world, no date is too late.

Eliminating Mistakes

Mistakes are the hubris of most investors / traders and its no wonder they generally are doomed to fail regardless of what superior qualities they may possess elsewhere. But many investors and traders who aren’t affected by that characteristic still fail and the reason for the vast majority of them comes down to avoidable errors, some that they knew about and did not implement and some they did not even know about (the Unknown Unknown).

Right from Warren Buffett to the ordinary investor, mistakes happen by everyone. But while the professional investor understands and rectifies his mistake, the amateur investor believes that the mistake is not his but his bad luck.

The biggest mistakes happen due to the fact that we ignore the Heuristic Biases that affect our way of thought, way we understand things and how we go about implementing them. I come across investors who choose to ignore such biases rather than learn how to avoid the traps laid out by such biases.

I am generally a skeptic of strategies which cannot be tested using a software and while patterns can be tested, ability to code and test is not something I have the ability and hence will rather ignore such strategies than do a manual test which shall suffer from all kinds of biases (Selection of only those that have succeeded being the major bias here). Again, I am not suggesting that patterns aren’t a way to make money in the markets. After all, one of the top Hedge Funds with incredible returns is rumored to use patterns (though they aren’t the general ones we find in every TA text book).

The other day I met this friend of mine who believes in patterns and he was saying about how high a success rate this particular pattern had. The only catch being that you need to recognize it correctly. Wanted to inform my friend that this is a circular logic that leads to one over-estimating the predictive nature of the pattern, but then again, have burnt too many bridges trying to correct the logical errors of others and hence kept quiet.

The same error affects Elliot as well. If the move is not as per what Elliot logic predicts, the way out one is told is to go back and change the wave counts till the current action matches the one that was supposed to happen. If only the broker allowed me to change my trades after they failed 🙂

Every mistake in markets costs not only in terms of money but also can wear us down to the extent that after X number of losses (many of which could have been avoided), we feel that the mistake lies in us coming to the markets in the first place. The churn ratio at any big brokerage firm shows how a large set of investors and traders bow out every year just to be replaced with new sheep most of whom too will bow out in time.

Elimination of mistake requires two things. One, the ability to understand that you are wrong (and not the market) and Secondly, the openness to accept that my chosen method / path / logic is wrong and try to see where and how one can make amends to that.

Checklist is now seen as a proven way to reduce and eliminate mistakes that we have either made earlier or know about it. If you are yet to read The Checklist Manifesto by Atul Gawande, I urge you strongly to do as soon as possible. A checklist before you commit a trade is one of the easiest way to eliminate simple mistakes.

Once known mistakes are reduced, the next step comes in trying and reducing mistakes that we do not know we are making in the first place. Compared to the ability to reduce mistakes that we know is happening, this is quite difficult but not impossible.

To me, eliminating the unknown unknown mistake requires constant effort on part of the investor / trader. Profits occur due to combination of Luck and Skill. There are quite a few ways to separate the two – Bootstrap and Monte Carlo testing being the ones I prefer and use.

Every trade / investment has a expected return and a real return. One needs to constantly check for divergence between them and then focus on whether the divergence is due to something that can be avoided / acted upon or something that we just have no control upon.

Eliminating mistakes is a process and it has no ending since our aim always has to be becoming a better investor today than one we were yesterday. But that requires quite a bit of effort and that can come only if you are passionate enough as well as have the ability to understand, accept and rectify mistakes. If you cannot do that, its always better to invest in MF’s / ETF’s and spend the time in activities that bring pleasure to your mind.

Investing / Trading has no shortcuts to success. You either are the hunter or you are hunted. The choice is yours as to what you want to become 🙂

Impact of Social Media on Investing

The arrival of Social Media (Groups / Forums / Twitter / FB / Whatsapp among others) have proved to be a boon to the ordinary investor / trader. The impact it has on my own career is pretty significant and something that I cherish especially since I started my career before the advent (in the way it is today) of Internet.

Back in those days, information was scratchy and the only people one interacted with were those who you knew personally. And unless you were in Mumbai or a major city where investing in the markets were not looked into as a crime (comparable to any other gambling avenues), the percentage of people who knew much was rather limited (personal experience) and you had to be really lucky to be able to have them as friends.

Internet has changed those things quite a bit. Now, you can talk, question and discuss the pro’s and con’s of any company that seems to catch your fancy. Crowd-sourcing is the new mantra with one needing to just start to get others to put up their views as to what is right and what is wrong about a particular investment or strategy. In other words, one can get a peer review done literally for free and all that without having to move an inch from the computer

While the advantages of using such crowd-sourced networks for information is pretty useful, the fact also remains that its not honey and ghee all the way. The ability of such discussions to cloud our judgement is pretty huge.

Take for example the fact that most investors under-perform the indices on the long run (academic research, mostly done in US). But spend a little time and you can barely see many anything lesser than what the best fund manager has done in his best year. And most are then humble enough to point out that they are just a small – part time investor / trader.

The above scenario is true regardless of whether the writer is using his real name or writing using a Anon ID (not that either makes much difference since unless the guy really wants to meet, even with a real name, he can be as much Anon as a ID which hides the name as well). What really pisses me off is the ability of these guys to influence those who are easily swayed by opinions of others. While they themselves are barely invested (using say % of networth invested), they cause disproportionate damage to the psychology of smaller investors who are generally more scared of the markets. Of course, Darwin theory holds good here, the strongest survive while the weak shall get annihilated.

Way back in the 2000, when the IT bull run was in full fury, we had a client – a Chartered Accountant no less who was investing through our brokerage firm for quite some time. He had over time accumulated a good portfolio of stocks, most of them either in cyclic business or the general Hindustan lever / Ponds India / Broke Bond kind of MNC shares.

For much of the bull run, he was able to keep his head light on how stocks outside his portfolio (specifically IT stocks) were going like there was no tomorrow. While I do not remember the conversations I used to have with this gentleman with much clarity (its been 14 long years now), I do know that some where down the line, pressure of seeing other investors doing much better than him (heck, we had a client who could not sign his own name make a bundle in a stock called Octagon Technologies) finally broke him down. So, one fine day, he decided to swap much of his portfolio as well as invest fresh funds into a portfolio of IT stocks. While he did not enter right at the peak, he entered too close to make anything on the upside (even temporary happiness) and when the blade finally came down, his portfolio was just shattered.

While I am no longer in the brokerage business to observe things as closely as I could way back then, I do wonder how much of the crowd-sourced information can lead to investors getting out of good shares and investing into small cap stocks that are going up each day more than what many a big share does in a good month.

The FOMO risk (Fear of Missing out) has a much bigger impact on us than we consider. If everyone around you is claiming to have won in a casino and while you having the knowledge that the house always wins have so far kept afar from getting into that trap, its just a matter of time before you finally decide to take a dive. This is how most Multi Level Marketing works too and best of all when every one finds out they were suckers, they always have their friends to comfort them with stories of their own losses and that some how makes one’s losses more tolerable.

Truth be told, a lot of investors do not have the skill set to Analyse the markets and for them, the best way to participate would be via ETF’s and Mutual Funds. But even those who have some skill set, do remember that markets and life itself being cyclic, it will and never shall be a case of one strategy being the winner all the time.

A lot of investors remind me of Abhimanyu (MahaBharat). They some how know how to get in, getting out is something they sincerely think will happen as easily. If only life was so easy.

If you want to be in this field, do remember that you will need a Edge to survive, a domain expertise of some kind that enables you to distinguish between the good and the bad, the ability to know when is the time to risk more and when is the time to close out the cards. Because unless you know something, you are a sheep that is slaughtered at the end of the line. As much as following some one else’s advise may get you through for some time, when the time is up, the guy who you followed will have escaped while you will be left wondering what the hell hit you.

The left out feeling

Its been a pretty long time since we saw a move in the markets where dogs, cats and bananas are all rallying together, may with incredible speed that seems to suggest that even the gravitational force of Jupiter may not be enough to reign it in. For guys who have shifted their focus to selective trading / investments, this is a time where holding the nerves calm is a tough ask.

After all, even taking into account the strong showing of BJP in the polls, Nifty if up by just 8% for the month. On the other hand, stocks have done wonders. But how true is that fact?

A few days ago I analyzed the performance of stocks and came up with the following static

While its easy to assume that stocks have rallied across the board, the above data tells us that not everything has gone bonkers. Many stocks have horror of horrors under-performed even as both Mid and Small Cap indices have beaten the large cap indices by a pretty good margin.

What the left out feeling does is make us react in ways we believe we are trained not to react. In other words, while we assume that our thought process is pretty different from the herd, we actually start thinking and behaving like the herd. It takes a lot of effort (mentally speaking) to be able to remain calm and continue to follow the process we have laid out even as the rest of the market seems to suggest that we are barking at the wrong tree.

In 1999, when the tech boom was under-way in US, the one guy who decided to skip investing into any stock was Warren Buffett. As stocks continued to rally, it was seemingly obvious that he may have started to lose touch with the market. But 2000 showed why his famous quote (which he said in Feb 2008) makes so much sense.

But then again, a guy who one can contrast Buffett would be George Soros who has actually delivered a much strong return for his investors. While Buffett chose not to participate in bubbles and instead arguing for value based investing, Soros has once in the past said that while Gold seemed to be in bubble territory, he would be happy to be long as long as the trend was strong. But then again, Soros being Soros was able to get out of Gold well before it started to tank against say John Paulson who made money on the way up only to let go of a lot on the way down.

The reason I brought in Buffett and Soros was to show the diametrically different ways they dwelt with a situation. Both have prospered due to the fact that they both are good at what they do and rarely do go outside their area of competence (think about Soros buying Good Companies or Buffett shorting Euro / Pound).

A interesting adage in the markets goes like this

Bulls Make Money, Bears Make Money, Pigs Get Slaughtered

The retail participant is generally seen as the Pigs / Sheep as the probability of them making money on the long term is pretty low. But that doesn’t dissuade anyone since they believe they are better prepared than the guys who lose the race. Unfortunately, rarely does it turn out to be true (and this despite many of them spending a fortune in attending courses on how to make money in markets, buying tips / newsletters among others).

As Ed Seykota once said

Win or lose, everybody gets what they want out of the market

If you are feeling left out in the current rally, step back for a moment and think about whether you have a plan, a process to ensure that you can make it out if the cows start to come home (and many eventually will). Without a plan, you are a duck out of water – matter of time before you are shot and curried.

Do remember, markets were we were born and shall remain after we are dead, but if we mess us in markets, it can screw up a lot more things in life than just finances.

Post Election thoughts

While Nifty did close positive, the very fact that we gained just about 100 points for a victory of the kind unseen since 1977 (non congress) does in a way reduce the enthusiasm about whether markets are really ready to take off or are we seeing a topping out formation.

On one hand, this move of today has a precedence in the way markets behaved on the day of results of 2004. Nifty closed with a small positive despite the fact that NDA which was seen as the front runner to the next government came up short and instead it was the Congress supported by the Left parties who were staking their claim to power. What happened in the next two days is history.

With the comprehensive victory for Modi, I believe most broking houses will start upgrading their targets for Sensex / Nifty on the back of optimism generated by the slogan of Modi “minimum government maximum governance”. In fact, UBS has already confirmed its target of 8000 for Nifty.

They key question is, Shall we see a run away rally? On the basis of evidence (some of which I shall present here), I guess not. But what I am sure off is the fact that this could be a turning point in the Indian Economy. The last such turning point in my opinion was the 1991 elections where P V Narasimha Rao took over the Premiership after India’s first experiment with coalition politics had brought the economy virtually to its knees. Over the next 5 months, Sensex rallied by around 29% (in hind-sight though, this was the led by Harshad Mehta). Since the markets never re-tested levels seen in the first few months of PVN, I believe that genuine progress in between (with economy being opened up) added up to the rise in markets and all of it were not due to the scam.

Where we do differ from 1991 is in terms of how cheap or expensive the markets were at that point of time. Right now, Nifty trailing PE (Standalone) is around 19.5 while Sensex PE when PVN took charge was 15.5. But since Indian economy was closed and we were growing at a much lower pace, this additional risk is not as big as it appears to be.

Small and Mid Cap index stocks are generally those having high beta and hence these stocks tend to ourperform the large cap indices. A look at the past data seems to suggest that markets tops have been accompanied by strong out-performance of Small Cap Index vs Nifty whereas at the current juncture, all Indices seem to be moving in tandem and there appears to be still some way to go before a major top is made.

Chart 1 – RS comparison of CNX Small Cap, CNX Mid Cap and CNX Nifty

Period: Jan 04 – Dec 07

Chart 2 – RS Comparison of the same indices for period Oct 2008 to November 2010

Chart 3 – the current stage. Time period starting from Jan 2012

In the second pane of the chart below, I have plotted the Net New Highs in NSE. This is a way to gauge the breadth of the market since if markets are moving higher with very few stocks making new yearly highs, its just a matter of time before such move collapses.

I have marked in a box the period from the election results of 2009 to the top we saw in late 2010. One can see the consistent nature of the new highs. On a similar nature, I believe that we are just seeing the start of a run up as its just recently that the Net New Highs has broken into positive territory.

In recent times, whenever India has seen a strong government at the center, markets in the next one year have given pretty good positive returns. The only times when this did not happen was in 1999 when NDA formed the government. The hitch if one were to say is the fact that we have been strongly out-performing the world markets (majority of them) in a big way even before the ink on the fingers (elections) were set.

During the last days, we saw the release of CPI for the month of April which came in at 8.59% and March IIP data which once again was in negative territory 0.5%. With Diesel prices being raised by 1.09 right after the elections got over, Inflation numbers over the coming months will not be easy to vanquish. This is seen by the strong yields in Government Bonds which despite the euphoria closed yesterday at 8.83%.

Below is a Nifty chart with the lower panel showing the number of days since the 200 MA was breached. As can be seen, we are nowhere close to new highs but at the same time, we are coming in close to the highs reached after the market topped out in 2010.

Another way to look at the above data would be to measure the % difference between the current price and 200 MA and the same is plotted in the chart below

Once again we can see that this rally is nowhere comparable to the ones we had seen earlier before markets topped out for the medium to long term despite Nifty trading at its all time highs.

Even in a bull market, markets do not go up in one straight action but is pretty choppy on the extreme short term. As can be seen in the chart below, Number of occasions when Nifty suffered a loss of 5% of more during the bull phase of 2003 – 2008 is much higher than the ones we have seen since 2010. In fact, we have seen more instances of 5% up over 2 days than 5% down over 2 days, but as the market evolves, look forward to more of them.

The Narendra Modi government that comes to power is coming with the highest expectation one has ever seen (since 1977 I assume) and that in itself can turn out to be a negative for markets since its not easy for even a guy who has showcased the development of Gujarat to turn around the story overnight.

At the same time, I believe that the next couple of years provide one the best opportunity to set up the foundation for what Rakesh Jhunjhunwala will call “The mother of all bull rallies”. As I sign off, here is me, hoping for the best 🙂

Education in Markets

Getting educated in markets is pretty expensive affair since our mental clocks aren’t drilled in the way its required to for success in markets. Since unlike any other field of expertise, one really doesn’t need to have a formal professional education (not that having it ensures success, it only means you open your innings with higher odds), it attracts all kinds of people with the only common factor among most of them being that they have money to risk.

Unlike other professions, learning about markets isn’t easy in the formal education set-up. You may learn a bit about it by doing a MBA, but the theory one learns and the reality once faces when exposed to the real world is spaces apart. You can on the other hand complete a certification course such as CFA (for Fundamentals) or CMT (for Technicals) to get a better understanding of how to go about doing business (read Investing / trading) in the markets.

Other than the above International Certifications, here in India, we can find many companies / Individuals offering courses for the short to medium term. The course fee for such ranges from Rs.2500.00 (One Day) to a multi month mentorship programme costing Rs.8 Lakhs +

While I can understand the acceptability and popularity of cheaper courses, I really fail to understand who in the right mind would want to pay Lakhs of Rupees as fees for learning from some one who in all probability doesn’t earn much from the markets in any case (why take un-necessary risks when its easier to earn money by preaching to newbies).

If you are willing to invest a few lakhs, my own advise would be to spend the money on accredited courses from leading institutions (in India “National Institute of Financial Management” comes on top of my mind. You find plenty of them in US Universities as well) since the recognition that entails and faculty who you can meet can rally add value to deeper concepts and thoughts.

While I have reached my current stage without attending any such courses (when I entered the markets, there were not many structured courses anyways), I do believe that one can get some benefit out of them. But there is no short cuts to markets and the only way to survive out here is to learn and un-learn (as and when we come across new data that seems to conflict our initial outputs).

While learning from the markets without any experience or guidance is a expensive affair, it doens’t have to mean that you need to pay an arm and leg to get that.

Choose Wisely!

Disclaimer: I have taught students when I was working in an organisation before as part of my responsibilities.

Saturday Trading – Does the day’s move indicate anything

Tomorrow, Exchanges are conducting a special 90 minute trading session. While the objective is to test the BCP Site (NSE Circular here ), a Analyst coming on a regional channel claimed that markets next week move is dependent on how it moved on Saturday. To establish the veracity or otherwise of the same, I have extracted data and posting the same.

As can be seen, there is very little correlation between the move we shall see on Saturday and how the market behaves on teh next day. Exact correlation coefficient is 0.15.

Hence how market behaves this Saturday behaves will have little relationship with how markets will move in the coming week.

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