My Interview with Niveshak

I recently did an interview with Niveshak (not related to Safal Niveshak), the monthly magazine released by the Finance Club of Indian Institute of Management, Shillong.

Here I present that interview verbatim for the benefit of tribe members.

1. We are aware that you are an avid blogger and some of us are regular readers of Safal Niveshak blog. If we ask you to tell our readers about the 3-5 most vital investing lessons what would they be?
Thanks for reading Safal Niveshak! It’s good that you have a word limit to this interview, because the lessons I have learned as an investor over the years would have run into several pages.

But if I were to list down just 3 of them, they would be –

1. Have extreme patience
2. on process, and outcome will take care of itself
3. that you will make (a lot of) mistakes

Talking about patience, it’s important for investors to understand that ‘t’ or time is the most important variable in the compounding formula, even more important than ‘i’ or rate of return. So, the more patience you have to sit on your investments (assuming they are good investments), the greater is the amount of wealth you can create. In fact, patience – the art of sitting quiet – is the most important skill an investor can have, even more important than knowing what stocks to pick.

Another lesson I’ve learned over the years is that of focusing on the process than the outcome of an investment. If you focus only on the outcome, you are less likely to achieve it. Instead, if you focus on the process, the outcome will take care of itself. So, it’s important to judge decisions – especially yours – less on results you achieve, and more on how they were made.

And then, the third lesson I’ve learned is that it’s important to accept the fact that you will make many mistakes in your investment career. Knowing that you don’t know a lot of things, knowing that you will make a lot of mistakes…and accepting these as part of the game that must still be played, is what creates a successful investor.

Without mistakes, investing would be boring, right?

2. As an investor what are the most prominent mistakes that you have made in your life that you will want any investor to avoid in the future?
Many! Most of my mistakes have been those of bad behaviour instead of choosing a wrong business.

One big mistake I have made several times in the past is that of selling great businesses early, after having earned a 100-200% return. And interestingly, my reasons for selling early have revolved more around things outside the business than inside the business I sold.

So I would sell after a stock rose sharply, or after I made a high return in lesser-than-expected time, or when I thought the economy and markets were about to go down and I must protect my paper profits. Note that all these reasons are extrinsic to the business underlying the stock which, in fact, should be the sole reason for an investor to decide whether to hold or sell a stock from his portfolio.

The lesson I’ve learned from this mistake of selling too early and then missing out on future gains because the business remained good is what Philip Fisher said several decades ago – “If the job has been correctly done when a common stock is purchased, the time to sell it is-almost never.”

Another mistake I made during the earlier part of my investment career was to buy a stock without doing any or much due diligence on the business and just because someone else I respected was recommending/buying it. While cloning a sensible investor can often be a great idea, the lesson I’ve learned is that you cannot blindly clone anyone, however smart and successful he/she has been in the past. You need to have your own conviction while buying a stock. And conviction is something you cannot borrow from anyone else.

A third, and the biggest mistake, I have made in the past is to repeat some of my mistakes instead of learning from them. I have taken care of this aspect by maintaining a journal of my investment mistakes, so that I have them in front of me as warning signals every time I am about to make an investment decision.

3. It is said that Sensex is likely to touch 50,000 in the next 2-3 years. Third quarter earnings declared last month ended up disappointing the investors as annual profit growth has been the worst in last five quarters? Do you feel that the Indian stocks markets currently are overvalued?
While a Nifty P/E of above 22x gives an impression of an overvalued market, I would rather be stock specific than worry about where the broader indices are and where they are going to go in the future. So if I find a good business available at reasonable valuations – and there are pockets of inefficiencies in all kinds of markets – I would invest irrespective of where the Sensex or Nifty is.

So to answer your question whether the Indian stock markets are overvalued, I have no clue. But I am surely seeing initial signs of hype and excessive risk-taking, which may indicate just the start of a mania. When making money in the stock market starts to become easy, as it seems now, you know you’re in a bubble. Now, when that bubble is going to burst is anybody’s guess.

4. Corporate governance for an investor is as important as financial statement analysis. What are the best techniques to measure corporate governance policies in any company?
I believe corporate governance is more important than financial statement analysis, because when I buy a stock, I become a partner in a business and I would like to partner only with people I trust – people who govern ethically and with complete integrity.

When it comes to assessing corporate governance, it’s difficult given that there are no clear-cut numbers to judge the same. But here are a few questions I suggest every investor must try to answer while assessing a company’s governance –

• How has the company grown over the years under a given management – has the growth come on the back of excessive risk-taking (borrowing money, acquisitions etc.) or has it been steady and without must risk-taking?
• How has the management treated debt – Recklessly or prudently? (I generally avoid businesses with too much debt, because borrowing excessively can lead you to indulge in a lot of fuzzy things).
• How has the management’s capital allocation been? Here I look at high or rising ROE without much debt.
• How much are the senior managers paid? I believe once you are already rich, you must be happier leading a business than taking out a lot of cash to pay yourself.
• Does the management continuously issue guidance or prediction about the future earnings growth? If yes, I would largely avoid such a business because its managers would most likely focus on meeting short-term guidance than focusing on long-term growth and profitability.
• Does the management think independently or often gets swayed by what others in their industry are doing? Look at companies that make a lot of acquisitions because they want to grow bigger, faster. Then, avoid them.
• Are managers clear, honest, and consistent in their communications and actions with stakeholders? I like to read plain English in annual reports, and not fuzzy words.

These are some of the questions, among others, I try to answer while assessing a company’s corporate governance. The history of the management and how they have dealt with the business and all stakeholders tell you a lot about their intentions. And if people have behaved badly in the past, there is a thin chance that they would behave any different in the future.

Finally, while assessing a company’s management and its corporate governance practices, I remember what Thomas Phelps wrote in his amazing book 100 to 1 in the Stock Market – “Remember that a man who will steal for you, will steal from you.”

5. Some of our readers are novices to the investment world. How do you suggest they should begin investing? Is it good to have an investment account with a broker or bank is preferable?
You must have seen a baby take her first steps. Slowly and carefully she gets up…walks a step…then falls down…then again she gets up…takes a step…then again falls down. The process repeats till the time she learns how to balance her body while taking her second step, and her third step.

This process of learning happens in whatever we do in our lives. We first learn to take baby steps, before we cross bigger hurdles. There’s no reason the cycle should be any different when it comes to investing in stock markets.

When you are just testing waters, it’s always good to start small by allocating small amount of money to the stock market – either directly or through mutual funds – and then increasing the allocation gradually.

The best thing you as a new investor can do is to start, and as early as possible (remember the ‘t’ in the compounding formula).

As far as opening an investment account is concerned, you may do it with a reputed broker or bank. But always remember one thing – never take their advice. 🙂

Do your own homework and then trust your own conviction.

6. Who will be your role model in the investment world and why? Suggest a few good books for our readers to read?
I must say that finding my role models has been highly instrumental in my development toward investing sensibly and successfully in the stock market. Sensible investing is something you either pick up instantly or you don’t. So I have been lucky to get introduced to the writings of Warren Buffett, Charlie, and then to Prof. Sanjay Bakshi. I just fell in love with what they had to say and that, I believe, has made the difference.

As I understand, you become the average of five people you spend the most of your time with. Three of those five people I spend most of my time with (not face-to-face, but vicariously) are Buffett, Munger, and Prof. Bakshi, and that has really helped me build a sensible process for investing. And not just investing, these people have helped me tremendously in becoming a better, more humble person, than I was a few years back.

I would like to leave you here with a brilliant quote from Guy Spier’s book The Education of a Value Investor. He writes about the criticality for a budding investor to find his role models early in life –

…there is no more important aspect of our education as investors, business people, and human beings than to find these exceptional role models who can guide us on our own journey.

Books are a priceless source of wisdom. But people are the ultimate teachers, and there may be lessons that we can only learn from observing them or being in their presence. In many cases, these lessons are never communicated verbally. Yet you feel the guiding spirit of that person when you’re with them.

Role models are highly important for us psychologically, helping to guide us through life during our development, to make important decisions that affect the outcome of our lives, and to help us find happiness in later life.

As far as books are concerned, here are three I would suggest a new, young investor to read at the very start of his/her career –

• The Richest Man in Babylon by George Samuel Clason
• One Up on Wall Street by Peter Lynch
• Think and Grow Rich by Napoleon Hill

These books have inspired me a lot when it comes to taking proper care of my money, and I am sure these will inspire anyone who is starting new today, if he/she were to read them diligently.

For more advanced reader, or as the next step after reading the above three books, I would suggest –

• Warren Buffett’s shareholders letters
• Howard Marks’ memos
• Poor Charlie’s Almanack: The Wit And Wisdom Of Charles T. Munger
• Influence: The Psychology of Persuasion by Robert Cialdini

You can base your entire investing career by reading just these books and resources I’ve mentioned above. But then, it’s important to never stop learning. Keep reading and keep learning. Be a learning machine.

As Charlie Munger said to students in his 2007 commencement speech at USC Law School –

I constantly see people rise in life who are not the smartest, sometimes not even the most diligent, but they are learning machines. They go to bed every night a little wiser than they were when they got up and boy does that help, particularly when you have a long run ahead of you.

7. What would be your advice to the B-school graduates who would soon enter the corporate world (and start earning)?
Noted Irish playwright and philosopher George Bernard Shaw opined, “Youth is wasted on the young.”

What he possibly meant was that many young people have everything going for them physically; they’re in the best health they will ever be in, and their minds are sharp and clear. However, they lack patience, understanding and wisdom which results in so much wasted efforts.

The energy that can be directed towards building a solid thought process and action plan for the future is spent on short-lived pleasures. Shaw’s words are especially applicable to those young adults who are starting a career and wondering if they should start saving and investing for their future, or spend the next few years living life kingsize.

You see, I am not old enough to complain about the younger generation. And that’s why I believe youth is not always wasted on the young, if the young can realize that someday their bodies and time would fail them, and that they would appreciate what they have now.

So as far as my advice to you – the young, about-to-be-earner – is concerned, the first thing I would do is to encourage you to begin to save and invest starting as early as possible, and take some simple yet effective steps to kick-start your financial life.

When you are young, time is one of your greatest allies in wealth accumulation and it is the one resource you will never get more of in the future.

After starting out to earn your own living, if you waste the early years saving and investing nothing, they are forever lost. So that you do not lose out on the precious time you have on your side to start making your money work for you, here is the action plan that you must (may) follow.

You are free to modify this action plan to suit your needs. It’s just that this has worked very well for me for the past 12 years, and thus I am happy to share it with you.

1. Pay yourself first i.e., save money before you spend it;
2. Create an emergency fund which may be around 6-8 months of your household expenditure;
3. But health and term insurance;
4. Use debt sparingly. As much as possible, completely avoid high-cost debt like credit cards and personal loans;
5. Hold tight to your reputation (it takes years to build good reputation and minutes to destroy it); and
6. Celebrate life, not money. Avoid trying to find happiness in spending money. In fact, in the busy-ness of earning, saving, and spending, please celebrate your life and your accomplishments.

In short, I’ve learned that the real success in life is not about what you earn, own, achieve or win but who you will become along the way. So work towards ‘becoming’, not towards ‘having’.

I wish you all the best!

P.S. You can read IIM-Shillong’s Niveshak magazine here.