The Psychology of Investing. Emotions affect people's behaviour and ultimately market prices.

The emotions surrounding investing are very real.  These emotions affect people's behaviour and ultimately, affect market prices.

Understanding the human dynamic (emotions) is so valuable in your own investing for these two reasons:

1. You will have guidelines to help you avoid the most common mistakes.
2. You will be able to recognise other people's mistakes in time to profit from them.

We are all vulnerable to individual errors of judgement, which can affect our personal success.

When a thousand or a million people make errors of judgement, the collective impact pushes the market in a destructive direction.

The temptation to follow the crowd can be so strong that accumulated bad judgement only compounds itself.

In this turbulent sea of irrational behaviour, the few who act rationally may well be the only survivors.

To be a successful focus investor:

• You need a certain kind of temperament.
• The road is always bumpy and knowing which is the right path to take is often counterintuitive.
• The stock market's constant gyrations can be unsettling to investors and make them act in irrational ways.
• You need to be on the lookout for these emotions and be prepared to act sensibly even when instincts may strongly call for the opposite behaviour.
• The future rewards focus investing significantly enough to warrant our strong effort.

The 10 Mistakes Investors Most Commonly Make

All investors make mistakes. Otherwise, we'd all be millionaires. The trick is figuring out what our investing mistakes are -- and then trying to avoid them.

Meir Statman, one of the nation's leading experts in behavioral finance (the study of why people do irrational things with their money), has written a new book on the topic. In What Investors Really Want, published in October by McGraw-Hill, Statman goes a long way toward helping investors understand that many of their mistakes are caused by their own deep-seated emotions rather than, say, a company's unexpectedly poor earnings. 

In an interview with DailyFinance, Statman, a professor of finance at Santa Clara University in California, shared his top 10 errors that trip up average investors:

1. Hindsight error. "One of the most pernicious mistakes," Statman says. Because you can see the past clearly, you think you have a similar ability to tell the future. Hindsight error is common at the moment, Statman says, because many people are convinced they saw the crash coming in 2007. In reality, they may have thought a crash was possible, but they also thought the market might continue to zoom upward. Now, investors are convinced they actually saw the problem in 2007 but just didn't act on it. So, they believe wrongly that they can act correctly today. They think they know to sell at the precise moment the market is high and buy when the market is low. Based on their hindsight of 2007, portfolio diversification doesn't protect you from losses. But market timing rarely works, Statman says.

2. Unrealistic optimism. This is loosely related to overconfidence. Psychological studies have shown that when you ask people if they think they have the ability to pick stocks that will have above-average returns, men tend to say yes more often than women. "It's not because men are so smart. It's because men are unrealistically optimistic about their abilities," Statman says. This quality is great for job interviews, where you need to stand out from a crowd, but lousy for investing. "When you are unreasonably optimistic in the stock market, you are just readying yourself for an accident," he says.

3. Extrapolation errors. People expect that trends that existed in the recent past will continue in the future. For example, the fact that gold has gone up for the last 10 years has led many to believe it will always go up. But a study of a longer period -- going back to 1971 when President Richard Nixon ended the gold standard -- shows that gold hit a high of $850 an ounce in 1980 but was selling for $345 as long as 10 years later.

4. Framing errors. Often, Statman says, investing is like a game of tennis. People tend to see themselves hitting a ball against a wall, which seems easy. But that's the wrong frame. Investing is really like playing against another player -- when the other player is Warren Buffett or Goldman Sachs. Investors make framing errors when they see a CEO on TV talking up his stock. If it sounds good and you buy that stock, that's a framing error. Instead, you should be asking yourself: "Who else is watching this program, and what do I know that is uniquely mine?" "The answer is nothing," Statman says.

5. Availability errors. This refers to what information is available in your memory. Investors are often lulled into this error by investment companies. When you see an advertisement for a fund, it's almost invariably for one that has a four- or five-star rating from Morningstar. That way, the one- and two-star funds, with lackluster results, aren't available in your memory. "You say to yourself that there's a 90% chance I will be a winner," Statman says. Instead, look at results of entire fund families -- including the losers, not just the winning funds for a particular period, he says.

6. Confirmation errors. Investors tend to look for information that confirms their hypothesis, but they disregard evidence that contradicts it. Gold bugs, for example, constantly remind us that gold is a good hedge against inflation and a declining dollar. But when confronted with the evidence that gold actually fell price for an entire decade, they dismiss that as a different era because Ronald Reagan changed the rules of the investing game, and that problem won't be repeated.

7. Illusion of control. This is a sense investors have that they can make the market go up or down. It's like gamblers blowing on their dice before rolling. "These investors think they're riding the tiger, when in fact they're holding the tiger by the tail," Statman says. If you think you have a trick that can get the market to go your way, you better think twice: This is the illusion of control. "When you realize the market is actually a wild beast that can devour you, you try to put it in a cage," he says. A much safer approach.

8. Anger. This is an emotion we all know: It leads to things like road rage. In investing, you try to get even with the market. You do such things as double down or even sell all your stocks impulsively. "If you feel angry, it's better to wait 10 days before buying or selling, or you'll regret it later on," Statman says,

9. Fear. The other side of exuberance. When you're afraid, everything looks like a threat, and when you're exuberant, everything looks like an opportunity. Lots of investors are still afraid because of the market crash two years ago. They're sitting on the sidelines in cash earning no return or investing in things like Treasury bills, which aren't much of a bargain. "Risk and return go together," Statman says. "So, if you think the market is risky today, then you should also think the market has a good potential for high returns."

10. Affinity of groups. Also known as herding. You hear from your pediatrician that he's buying gold, so you think you should, too. But what do these people really know? What is the analysis based on? Statman notes that some herds are worth joining and some aren't. Many investors follow Warren Buffett's investment decisions and buy similar stocks. Since Buffett is usually a winner, perhaps that's a herd worth joining. But buying Internet stocks in 1999 or houses in 2005 based on what everyone else was doing was a horrible mistake.

Statman makes no grand conclusions in his book, but he does point out repeatedly that the average investor can rarely beat the market. Therefore, he recommends small investors put their money in index funds that provide average, if not spectacular returns -- and not catastrophic losses

"But if you like the pizazz of investing," he says, you might take a shot on individual stocks. Just be careful. 


By Charles Wallace

Posted 6:00AM 12/05/10
http://www.dailyfinance.com/2010/12/05/10-mistakes-investors-make/

Warren Buffett: The Fourth Law Of Motion

"Long ago, Sir Isaac Newton gave us three laws of motion, which were the work of genius. But Sir Isaac’s talents didn’t extend to investing: He lost a bundle in the South Sea Bubble, explaining later, “I can calculate the movement of the stars, but not the madness of men.” If he had not been traumatized by this loss, Sir Isaac might well have gone on to discover the Fourth Law of Motion: For investors as a whole, returns decrease as motion increases."



Source: Letters to shareholders, 2005


Read more: http://www.businessinsider.com/warren-buffett-quotes-on-investing-2010-8?op=1#ixzz1oXDgcNy9

Efficient Market Hypothesis: Fact Or Fiction?

Published in Investing on 5 January 2012

Our economics series looks at the question of whether we really can beat the market.

How many times have you heard a would-be private investor saying something like: "You can't beat the game, because the big institutions always get the information ahead of you and get in first"?

If you believe that, you might be a proponent of the Efficient Market Hypothesis, which says that because the financial world is efficient in terms of information, it is impossible to consistently beat the market based on what you know when you choose where to put your money.

The idea was first developed by the economist Eugene Fama in the 1960s, following on from his observations that the day-to-day movements of the stock market resemble a random walk as much as anything else. And for a while, it came to be pretty much accepted as fact.

On the face of it, it does seem reasonable. Given that everyone has access to the same information, and there is a truly free price-setting equilibrium in which the balance of supply and demand is the determining factor in setting share prices (as it pretty much is with any free-traded commodity), surely the price will reflect all of the information available at the time, and you can't beat the market.

Fine in the short term

In the short term, the idea seems pretty much spot-on. New results are released and they look good, and you try to get in 'ahead of the market' to profit from them? Well, no matter how quick you are, it's too late and the price has already jumped. That's really no surprise, because the sellers of the shares have the same new information too, and the equilibrium point between supply and demand will instantly change.

But in the longer term, the Efficient Market Hypothesis is widely considered to be flawed. In fact, if you believed it held true over serious investing timescales, you probably wouldn't be reading this -- you'd have all your investing cash in a tracker fund and you'd be spending your spare time doing something else. (And that's actually not a bad idea at all, but it's perhaps something for another day).

There is plenty of empirical evidence that the market is what Paul Samuelson described as "micro-efficient" but "macro-inefficient", such that it holds true for individual prices over the short term but fails to explain longer-term whole-market movements.

Long term? Hmm!

And there are others, including the noted contrarian investor David Dreman, who argue that this "micro efficiency" is no efficiency at all, claiming instead that short-term response to news is not what investors should be interested in, but the longer-term picture for a company. It's pretty clear which side of that argument Foolish investors will come down on.

So why doesn't it work in the long run, and how is it possible to beat the market even in the presence of the ubiquity of news and an instantly adjusting price mechanism? Well, the major flaw is that the theory assumes that all participants in the market will act rationally, and that the price of a share will always reflect a truly objective assessment of its real value. Or at least that the balance of opinion at any one time will even out to provide an aggregate rational valuation.

It doesn't take a trained economist to realise what nonsense that can be. Any armchair observer who watched supposedly rational investors push internet shares up to insane valuations during the tech share boom around the year 2000 saw just how the madness of crowds can easily overcome calm rationality.

And the same is true of the recent credit crunch, when panicking investors climbed aboard the 'sell, sell, sell' bandwagon, pushing prices for many a good company down to seriously undervalued levels. What happens is that human emotion just about always outstrips rationality -- good things are seen as much better than they really are, and bad things much worse.

Irrational expectations

And it's not just these periods of insanity, either. There is, for example, strong evidence that shares with a low price-to-earnings ratio, low price-to-cash-flow ratio and so on, tend to outperform the market in the long run. And high-expectation growth shares are regularly afforded irrationally high valuations, and end up reverting to the norm and failing to outperform in the long term.

So what does that all say about the Efficient Market Hypothesis? Well, it certainly contributes to understanding how markets work, but we also need to include emotion, cognitive bias, short-term horizons and all sorts of other human failings in the overall equation.

And that means we can beat the market average in the long term, if we stick to objective valuation measures, don't let short-term excitements and panics sway us, and rein in our usual human over-optimism and over-pessimism.

http://www.fool.co.uk/news/investing/2012/01/05/efficient-market-hypothesis-fact-or-fiction.aspx

Lessons from the '87 Crash

SPECIAL REPORT October 11, 2007

Lessons from the '87 Crash

Enjoying the Dow's record run? Don't get too comfy. The market's Black Monday breakdown is a reminder of how quickly investor sentiment can turn

by Ben Steverman

As major stock indexes hit all-time highs, it's worth looking back 20 years to a far gloomier time, when investors were cruelly and suddenly reminded that the value of their investments can depend on something as unpredictable as a mood swing.

Every once in a while, fear, snowballing into panic, sweeps financial markets—the stock market crash of October, 1987, now celebrating its 20th birthday, is a prime example.

In the five trading sessions from Oct. 13 to Oct. 19, 1987, the Dow Jones industrial average lost a third of its value and about $1 trillion of U.S. stock market value was wiped out. The losses culminated in a panic-stricken 22.6% decline in the Dow on Black Monday, Oct. 19. The traumatic drop raised recession fears and had some preparing for another Great Depression.

Stock market crashes were nothing new in 1987, but previous financial crises—in 1929, for example—often reflected fundamental problems in the U.S. economy.

MYSTERIOUS MELTDOWN
The market's nervous breakdown in 1987 is much harder to explain. Especially in light of what came next: After a couple months of gyrations, the markets started bouncing back. The broad Standard & Poor's 500-stock index ended 1987 with a modest 2.59% gain. And in less than two years, stocks had returned to their pre-crash, summer of 1987 heights.

More importantly for most Americans, the U.S. economy kept humming along. Corporate profits barely flinched.

To this day, no one really knows for sure why the markets chose Oct. 19 to crash. Finance Professor Paolo Pasquariello of the University of Michigan's Ross School of Business says the mystery behind 1987 prompted scholars to come up with new ways of studying financial crises. Instead of just focusing on economic fundamentals, they put more attention on the "market microstructure," the ways people trade and the process by which the market forms asset prices.

True, in hindsight there are plenty of adequate reasons for the '87 crash. Stocks had soared through much of 1987, hitting perhaps unsustainable levels: In historical terms, stock prices were way ahead of corporate profits. New trading technology and unproven investing strategies put strain on the market. There were worries about the economic impact of tensions in the Persian Gulf and bills being considered in Congress.

OUT OF SORTS
But for whatever reason, the mood on Wall Street shifted suddenly, and everyone tried to sell stocks at once. "Something just clicked," says Chris Lamoureux, finance professor at the University of Arizona. "It would be like a whole crowded theater trying to get out of one exit door."

It's a fairly common phenomenon on financial markets. Every stock transaction needs a buyer or a seller. When news or a mood shift causes a shortage of either buyers or sellers in the market, stock prices can surge or plunge quickly. Most of the time, balance is quickly restored. Lower prices draw in new buyers looking for a bargain, for example.

Sometimes, as in 1987 and many other true crises, things get out of hand. What happens at these moments is a mystery that may be best explained by dynamics deep within human nature.

Usually, explains behavioral finance expert Hersh Shefrin, a professor at Santa Clara University, investors believe they understand the world. In a crisis, "something dramatically different happens and we lose our confidence," Shefrin says. "Panic is basically a loss of self-control. Fear takes over."

BUYERS AND SELLERS
Why don't smart investors, seeing others panic and sell stocks, step in to buy them up at a bargain?

First, it's very hard, in the midst of a crisis, to tell whether markets are acting rationally or irrationally. Buyers refused to enter credit markets this summer on fears about risky mortgage debt. It will take months, maybe years, to add up the full impact of losses on subprime loans.

It's also tough to think rationally yourself. "It's hard to keep your emotions in check when your money is on the line," Shefrin says.

And, even if you're confident the panicked market is giving you a buying opportunity, you're likely to want to wait until it hits bottom. If a market is in free fall, buying stocks on the way down is likely to give you instant losses.

Not only will buyers hold back. A falling market will bring many more sellers out of the woodwork. Leverage is one reason: Many investors buy stocks on borrowed money, so they can't afford to lose as much without facing bankruptcy.

This is one explanation for the temporary, sharp drops in many financial markets in the summer of 2007. Losses on leveraged mortgage debt prompted many hedge funds to dump all sorts of assets to raise cash.

THERAPY FOR A PANICKED MARKET
The solution to a panicked market, many say, is slowing down the herd of frightened investors all running in the same direction. New stock market rules instituted since 1987 pause trading after big losses. For example, U.S. securities markets institute trading halts when stock losses reach 10% in any trading session. "If you give people enough time, maybe they will figure out nothing fundamental is going on," University of Michigan's Pasquariello says.

There's another form of therapy for overly emotional markets: information. In 1929 and during other early financial crises, there were no computer systems, economic data were scarce, and corporate financial reporting was suspect. "The only thing people knew in the 1920s was there was a panic and everybody was selling," says Reena Aggarwal, finance professor at Georgetown University. "There was far less information available." In 1987, and even more today, investors had places to get more solid data on the market and the economy, giving them more courage not to follow the herd. That's one reason markets found it so easy to shrug off the effects of 1987, Aggarwal adds.

You can slow markets down, reform trading rules, and tap into extra information, but financial panics may never go away. It seems to be part of our collective human nature to occasionally reassess a situation, panic, and then all act at once.

Many see the markets as a precarious balance between fear and greed. Or, alternatively, irrational exuberance and unwarranted pessimism. "All you need is a shift in mass that's just big enough to push you toward the tipping point," Shefrin says.

IN FOR THE LONG HAUL
What should an individual investor do in the event of a financial crisis? If you're really sure that something fundamental has changed and the economy is heading toward recession or even another depression, it's probably in your interest to sell. But most experts advise waiting and doing nothing. "In volatile times, it is very likely that you [will be] the goat that other people are taking advantage of," University of Arizona's Lamoureux says. "It's often a very dangerous time to be trading."

Shefrin adds: "The chances of you doing the right thing are low." Don't think short-term, he says, and remind yourself of the long-term averages. For example, in any given year, stock markets have a two in three chance of moving higher. Other than that, it's nearly impossible to predict the future.

So, another financial panic may be inevitable. But relax: There's probably nothing you can do about it anyway. Anything you do might make your situation worse. So the best advice may be to send flowers to your stressed-out stockbroker, stick with your long-term investment strategy, and sit back and watch the market's roller-coaster ride.

Steverman is a reporter for BusinessWeek's Investing channel .

http://www.businessweek.com/investing/content/oct2007/pi20071011_494930.htm

Irrational Exuberance

Market Behaviour: Irrational Exuberance

When a bull run goes on for too long, it can morph into irrational exuberance.  People tend to think that the market has changed and that stock will continue to go up forever.  In reality, it won't - instead, a stock market bubble is gradually inflating.

Unfortunately, most people get caught in the hype and continue to buy while the bubble continues to inflate.  Then that bubble bursts without warning, sending shares of stock down 50 percent and more.  Asset bubbles have formed repeatedly over time, but most people can't recognize a bubble until after it bursts.

The most recent stock bubble was the Internet stock bubble, which inflated in the 1990s and burst in the early 2000s.  Many people who got caught up in Internet stocks lost 50% to 70% on their portfolio - and some lost as much as 90%.

Value investors such as Warren Buffett didn't play in that market.  Value investors will not buy a stock that doesn't have a proven cash flow.  Internet stocks were losing money every year.  Most hadn't even figured out how they would make a profit.  Yet analysts recommended them based on future earnings projections.

If you can't figure how a company will generate its cash flow, walk away from it.  Don't ever get caught up in promises of future earnings that have not yet materialized.

Related topics:

Market Behaviour: The Least You Need to Know
Market Behaviour: Crowd Impacts on Stock Prices

Market Behaviour: Can You Beat the Market?
Market Behaviour: Bull Runs
Market Behaviour: Bear Stalls
Market Behaviour: Pendulum Swings (Volatility)
Market Behaviour: Irrational Exuberance
Market Behaviour: Unjustifiable Pessimism
Market Behaviour: Control Yourself (Patience)

Market Behaviour: Bull Runs

Sometimes you'll hear commentators say the bulls are running.  When you hear that, be very cautious.  Stocks are likely overpriced.

A bull run is the best time to sell stocks you own and take your profits, but only if you're ready to sell your stake in the company.  If you plan to hold a stock for years, don't feel obligated to sell it just because the bulls are running.

You'll be watching a lot of people just starting to get into a market.  People who are not intelligent investors tend to get caught up in the excitement of the market and think it's safe to get their feet wet.  Unfortunately, these folks buy stocks at the high and, when the bears return, sell stocks at the low when they get scared.

As a value investor, you've likely bought your stock on sale and now you're seeing some great profits.  You may or may not want to sell.  Run a quarterly analysis of the stock you hold, and be sure it still fits with your criteria for holding a stock.   You can design a strategy that works best for your based on your goals, your risk tolerance and your financial resources.

Related topics:

Market Behaviour: The Least You Need to Know
Market Behaviour: Crowd Impacts on Stock Prices

Market Behaviour: Can You Beat the Market?
Market Behaviour: Bull Runs
Market Behaviour: Bear Stalls
Market Behaviour: Pendulum Swings (Volatility)
Market Behaviour: Irrational Exuberance
Market Behaviour: Unjustifiable Pessimism
Market Behaviour: Control Yourself (Patience)

Market Behaviour: Can You Beat the Market?

The best answer to this question is, sometimes - but don't count on it.

Generally, the market does a pretty good job of pricing stocks, but when the crowd is acting irrationally, you can find your best and worst buys.

Don't try to beat the market.  

Instead, focus on building the best portfolio you can.  

Buy stocks when they're cheap and sell them when they recover.  

Do not worry about missing the highest highs because you rarely can sell at just the right time to avoid the steep drop-off when the price of a stock plummets.

MOST PEOPLE GET CAUGHT UP IN THE EMOTIONAL HIGHS THEY FEEL AS STOCKS CLIMB AND DON'T ACT TO TAKE PROFITS BEFORE IT'S TOO LATE.  DON'T GET CAUGHT UP IN THAT TYPE OF BEHAVIOUR.

Related topics:

Market Behaviour: The Least You Need to Know
Market Behaviour: Crowd Impacts on Stock Prices

Market Behaviour: Can You Beat the Market?
Market Behaviour: Bull Runs
Market Behaviour: Bear Stalls
Market Behaviour: Pendulum Swings (Volatility)
Market Behaviour: Irrational Exuberance
Market Behaviour: Unjustifiable Pessimism
Market Behaviour: Control Yourself (Patience)

Insights into Irrational Minds and Markets

http://www.centaur.co.za/investment_methodology/index.html

Curb irrational behaviour: Be aware of ANCHORING, a common mind trap when investing.

Curb irrational behaviour

Annette Sampson
April 7, 2010

The strategy To avoid common mind traps when investing.

You're talking about fear and greed, right? There's no doubt fear and greed are behind a lot of investor behaviour - much of it is irrational. But a school of study, known as "behavioural finance", has demonstrated our minds are hard-wired to react in certain ways. Even if we make concerted efforts to avoid fear and greed, our thought patterns may lead us to make investment decisions that could prove costly.


Such as? There are many aspects to behavioural finance but one area Tyndall Investment Management's Australian equities team believes may be influencing investor behaviour at the moment is "anchoring".  In simple terms, this is the tendency we have to base our judgment on a piece of initial information then stick with it even if other information becomes available.

To show how it works, Tyndall looked at research by two behavioural finance experts, Amos Tversky and Daniel Kahneman. They asked two groups of people what percentage of the United Nations comprised African countries. 

• The first group was asked whether it was above or below 10 per cent; 
• the second whether it was above or below 65 per cent. 

The numbers were supposedly chosen randomly (the groups didn't know the "random" spin of the wheel was rigged) but it still influenced their estimates.

• The first group, having a lower "random" figure estimated an average 25 per cent of African countries; 
• the second 45 per cent.

In the absence of real information, the test groups tended to "anchor" their estimates on any information available rather than thinking independently.

In another study, psychologist Ward Edwards asked people to imagine 100 bags of poker chips. Each bag contained 1000 chips but 45 contained 700 black chips and 300 red while 55 contained 300 black and 700 red.

• When asked what the probability was of selecting a bag with mostly black chips, most of the test subjects got it right. 
• The answer was 45 per cent.

But he then asked them to imagine 12 chips were randomly selected from the bag - eight black and four red. The chips were put back and the respondents were asked whether they would change their first answer in response to the new information.

• Many said the probability of the bag containing mostly black chips was unchanged at 45 per cent. 
• Most said the likelihood was less than 75 per cent. 
• But calculated mathematically, the bag was 96.04 per cent likely to contain mostly black chips. 
• The respondents didn't take account of the new information.

But how does that relate to my reactions to investment markets? Tyndall says the same research has been conducted on analysts' reactions to company earnings announcements.

• They often don't revise their estimates enough when they receive new information, resulting in a string of earnings "surprises". 
• It says the recent rally has resulted in largely favourable earnings forecasts but if the numbers don't live up to expectations and investors haven't factored in changing circumstances to their thinking, the market could fall sharply.

It says basing future investment performance on past returns is another common example of anchoring.

• After shares fell more than 38 per cent in 2008, most investors expected a dud 2009. 
• Certainly no one was predicting a rise of 37 per cent. Investors who switched money out of shares paid dearly.

So how do I avoid this trap?

• Understanding these behaviours and being aware of them can help you make more informed and rational decisions. 
• Even better, Tyndall says, it can give you an edge, allowing you to identify, and make money from, mispricing opportunities that come about because of other people's irrational behaviour.

Old favourites, such as having a diversified portfolio, getting good professional help and looking to the long term can help.

http://www.smh.com.au/news/business/money/investment/curb-irrational-behaviour/2010/04/06/1270374188426.html?page=fullpage#contentSwap1

The multi-baggers from 10k to 20k index of the Indian Stock Market

Sunday, Nov 25, 2007

The multi-baggers from 10k to 20k

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The majority of the multi-baggers owe their stellar returns to the market “re-rating”, rather than an impressive expansion in their earnings.


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Kumar Shankar Roy

It took a little over 18 months for the benchmark index of the Indian stock market to double from 10,000 levels to the dizzying heights of 20,000. Not to be left behind, the Nifty too breached the 6000 level on November 1, from a shade below 3000 last June. One would think this would have made the job of ferreting out multi-baggers (stocks whose prices have risen several times over) easy. But could you have spotted these multi-baggers through some in-depth research into th ese companies in June last year? Maybe not!

Indeed, the list of multi-baggers over the past year and half would leave an investor confused. Street-sense says that capital goods, real-estate and infrastructure, the most fancied sectors in the stock market in the past year, would have been the ones to yield multi-baggers over the past year and a half. But there is no specific sector theme to the stocks that made it to the top. Companies from the infrastructure, capital goods and real-estate sectors are, in fact, missing from the top 20.

Unitech comes in at the 38th position in spite of witnessing its stock price rising 5.6 times. It would also have been quite difficult to catch these stocks last year, even had you pored over their financials. The majority of the multi-baggers owe their stellar returns to the market “re-rating” them (allowing them a larger price-earnings multiple), rather than an impressive expansion in their earnings. Which are the stocks heading the multi-baggers list? Is there a pattern to them? Let us find out.

Top multi-baggers


Jai Corp, Walchandnagar Industries, State Trading Co, India Infoline and BAG Films lead the list of top 10 multi-baggers since June 2006 (when the Sensex was at 10,000). These stocks naturally represent the big gainers among the 1,033 listed stocks on the NSE. Others that make it to the list are Autolite (I), KS Oils, REI Agro, Nicco Corporation and Goldstone Technologies. All these stocks had risen tenfold or more in the period under review — June 19, 2006 to November 16, 2007 (we chose these dates as they represent Sensex levels of 10,000 and 20,000 respectively).

Would you have put Jai Corp on your “buy” list last year, based on its business prospects? Maybe not. Seeking an explanation for why a Rs 19 stock in a matter of just one-and-a-half years rose to Rs 1,000, we find that Jai Corp is into such businesses as steel, plastic processing and spinning yarn facilities. But this was not why it was sought after.

The stock came into the limelight because of speculation that the promoters of a mega corporation have an indirect stake in the company and plan to use it as their infrastructure vehicle. This partly explains the stock price rising by over 67 times. The fact that only 15 per cent of its stock is freely available to the investing public may also have helped its stratospheric rise.

In the second slot, we have Walchandnagar Industries Ltd (WIL), whose story is a different one; though the fact that the stock has risen by nearly 20 times its price tag of Rs 450 in June last year. WIL is engaged in the manufacture of sugar plants, cement plants, nuclear power and space equipment and other engineering products. Notwithstanding the decent results posted by it over the past year (72 per cent profit growth), interest in the stock has been stoked by reports of indirect stake held by some influential politicians in the stock.

Apart from these, companies that operate in “sunrise” businesses and seen as offering high potential, such as India Infoline (broking), Goldstone Technologies (IPTV services), BAG Films (media), Nicco Corporation (entertainment parks) and REI Agro (basmati rice) feature in the top ten multibaggers (see Table).

Surging on ‘potential’


For five of these companies, namely WIL, State Trading Corporation, India Infoline, BAG Films and Rei Agro, earnings have risen, but their PE multiples have expanded even more, as investors have marked them up on the strength of their forays into promising new businesses. There are a couple of stocks which did benefit from a change in fundamentals.

The spike in prices of the shares of Autolite and Nicco Corporation is explained mainly by a turnaround in profitability. Nicco recorded a profit of Rs 6 crore last year as against a loss of Rs 16 crore in the year ago. Autolite, which makes lights and tubes, posted around Rs 5 crore profit, compared to a loss of Rs 3.3 crore in the earlier year. Both companies continued a sharp ramp-up in earnings numbers in the first six months of the current fiscal.

Though spotting the multi-baggers in advance was difficult, there was actually a good chance you held one in your portfolio. In the over 1,000 stocks reviewed on the NSE, shares of more than 490 companies, over half, gave a 100 per cent return between June 19 and November 17. Most of the stocks enjoyed both domestic as well as foreign investors’ attention, leading to a hefty rise in prices. Over 60 companies saw their stock price rise five-fold or more. Stocks of 12 companies multiplied 10 times or more.

Small-caps in limelight


It is a known fact that retail investors have an unexplained penchant for stocks trading at low absolute prices, and these dotted the list of multi-baggers. While the multi-baggers, in general, did not huddle close to any specific sector theme, the market-cap status of stocks did play a role.

Results showed that out of the 490 companies that doubled their value in these 18 months, 409 were small-caps, i.e. companies with a market capitalisation of Rs 2,500 crore or less. In this set of small-cap companies, the average share price rise was 3.4 times, higher than the average share price rise in mid-caps as well as large-caps at 2.4 times for each respectively.

Mid-caps are companies that have market capitalisation between Rs 2,500 crore to Rs 10,000 crore.

These results are not surprising because this period has largely seen the mid-cap (103 per cent) and small-cap indices (107 per cent) exceeding the returns of the bellwethers such as the Sensex (97 per cent) or the Nifty (98 per cent).

In the mid-cap space, around 61 companies were multi-baggers (they at least doubled in value) while only 23 large-caps (companies with a market capitalisation of Rs 10,000 crore or more) were a part of the list. This data clearly indicates that cheap stocks of lesser-known companies delivered a more stellar rise than stocks of widely-tracked, larger companies.

Parting shot


If the multi-baggers were not entirely sought after for their strong earnings growth, the stocks that fell most sharply in this period were certainly swayed to a greater extent by fundamentals. Companies such as Aztecsoft, Nova Petrochem, Thiru Arooran Sugar and Suryalakshmi Cotton Mills head the list of worst performing stocks over this period.

Other laggards include Dhampur Sugar, Celebrity Fashions, Shah Alloys, Uttam Sugar Mill, Simbhaoli Sugars and Sakthi Sugars.

Unlike the multi-baggers, whose share prices have gone up as a result of better growth potential, rather than actual earnings, the laggards appear to have declined directly in response to their profit performance.

Finally, discussion on multi-baggers from 10k to 20k would be incomplete without mention of the following companies. IFCI, despite its unimpressive financials, saw a stellar rise, following the announcement that the management had put a 26 per cent equity stake on the block. Reports of the company’s real-estate holdings and its long list of suitors helped the stock move up from Rs 9 to Rs 90, gaining a whopping 900 per cent in the process.

India may not yet be ready for Internet protocol TV, but that didn’t deter investors putting their money into IOL Broadband. From being a little known entity, the Rs 53-share gained almost 10 times its value in a matter of months, without the fundamental picture changing too much.

On the other hand, stocks such as Gujarat Mineral Development Corporation (832 per cent), Reliance Natural Resources (740 per cent), KLG Systel (500 per cent) and Welspun Gujarat Stahl (480 per cent) rode excellent earnings growth.

Fundamentally sound companies that turned out to be multi-baggers include TV18 India, Everest Kanto, Elecon Engineering, SREI Infrastructure Finance, Kotak Mahindra Bank and Larsen and Toubro.

In some cases, niche business areas attracted investors’ attention. Educomp (e-learning), Alphageo (seismic surveillance), Aban Offshore (oil rigs), Karuturi Networks (a leading cultivator of flowers), and Rolta (digital mapping) are prime examples.


http://www.thehindubusinessline.com/iw/2007/11/25/stories/2007112550750700.htm