There is mayhem at the stock markets. In just a matter of weeks, equity investors have seen massive erosion in the value of their portfolio. Day by day all the profits they had made till now are either disappearing or worse the losses are mounting.
If, in your opinion, this is ‘bad news’…
… you will NEVER make money in stocks.
Rather, falling share prices is always a great opportunity.
Let me not get into the reasons for the recent correction in the stock markets. Frankly speaking, I am only interested in the fall, not what caused the same. In the long run, that’s what really matters.
Point No.1: Despite the correction, markets are still trading in the ‘overvalued’ zone.
Around 7-8% is the growth rate of Indian economy. Accordingly, on a broad level, we can expect around 15-16% growth in profits of the companies in totality. Hence, a PE ratio of 17-18 for the market can be considered as the fair market value. For ease of understanding, I will call this as MRP (or maximum retail price)… the term that most people are normally familiar with.
Recently, in the month of Aug 2018, the Nifty 50 had hit the all-time high of 11,760. It is now more than 1000 points down at 10,700. That’s a very steep 8.5% correction in just over a month.
But what about the PE ratio?
At the peak market levels, the PE Ratio was around 28.7 and is now down to about 26.3.
As you can see, in Aug the stock market was highly overvalued vis-à-vis the MRP. And, it continues to remain overvalued even after 1000 points correction.
To reach the mean MRP levels, either the markets have to further correct; and / or the corporate earnings have to improve.
Pursuant to demonetization and introduction of GST, companies had suffered a dip in the performance. Recent corporate numbers indicate that this pain is almost over. Hence, going forward, we can expect a revival in the corporate performance.
However, for the markets to become a really attractive buy, some more correction is both desirable and necessary.
Point No.2: Every company’s share has an MRP
As you know, companies are not merely a name on the paper or a symbol on the stock ticker. They are a business. And, when businesses generate profit, it benefits not only the promoters, but also the employees, the suppliers, the Government and the shareholders.
Therefore, I often say that buying shares is not gambling. Instead, it is investing in a wealth-creating opportunity.
It is this profitability and future growth, which determines the MRP or the true value of any business or company. Since the economy is highly dynamic, it is difficult (but not impossible) to assess this true value. It not only requires expertise and experience, but also intuition… and some risk taking too.
Hence, I always advise retail investors not to buy stocks directly. Instead, they would be much better off, if they invest in equity through the mutual fund route.
Point No.3: Averages can be misleading
Even though the average market is expensive compared to the MRP, it is after all just an average. This means that there are companies which are available below their MRP and others that are trading above their MRP.
When the stock markets are booming, more and more shares become expensive as compared to their MRP. So it becomes difficult to find undervalued stocks. And, during downturn, more and more shares become cheaper as compared to their MRP. So investing in shares becomes quite easy.
In other words, bear markets are the nice time to invest in stocks. However, most investors avoid stocks markets when the share prices are tumbling.
You will become the most successful stock market investor, the day you conquer this fear of falling markets… and continue investing even if things look scary.
Point No.4: All dips are temporary
One should not worry, because sooner or later the markets WILL go up. After all, despite many corrections, in the long term the market has always created new peaks, in line with growing economy.
Companies are growing (though slower than expectations). So the profits are also growing. Hence, after some time (maybe in a year or two), the earnings will exceed the prices. As such, by virtue of increased earnings and falling / stagnant share prices, the market will automatically become undervalued. This, in turn, will generate buying interest. Share prices will move up again, so that the market PE reaches its MRP.
This yo-yo in prices, is the very nature of the stock market. The day you develop patience and discipline to follow this price volatility “correctly”, you will immensely profit from investing in stocks.
In a nutshell:
No experts, no advisers, no brokers can ever make you rich. Only YOU and your “mental framework” will determine whether you will become a crorepati by investing in the share market (I reiterate, not directly, but through the mutual fund route).