CategoryGeneral thoughts

The basis of white collar work is changing rapidly

In the early 2000, with the internet and google, the grunt work around finding information was removed. Value add for any type of work shifted to putting together this information in a valuable format

For investors, this meant that bulk of your effort shifted from finding information to synthesizing it to arrive at an investment decision. The front end of the workflow – Finding annual reports, data points which used to be manual was now available at the click of button.

In the same manner, for jobs like coding, we have repositories for a lot of the boiler plate code. A significant part of such jobs is now is in glueing these components together to achieve the desired outcome

Paradigm shift

The launch of LLMs in 2022 is changing the core of all white collar jobs again. The difference this time is that it is faster and moving up the value chain at the same time

I was initially curious about these new tools and started experimenting with them in early 2023, as I did with the internet and google in the past. For those who saw the early internet, these tools felt like the dial up connection of the late 90s – slow, clunky with limited usage

Google and broadband in the early 2000s made the internet what it is today – cheap, easy to use, ubiquitous. I am seeing the same transformation in the LLMs, but at 10X the speed

The early chatgpt was Realtime and good at answering questions for which the answers already exist on the internet (and thus part of its pre-training). With the launch of the O1 and now O3/O4 models, we have reasoning models which can ‘understand’ your questions, plan the tasks and decide which tools to use to best answer these questions

This is a paradigm shift on how computers work

All other software tools follow a fixed information flow via logic embedded by the developers and system designers. In contrast these tools operate more like us, than traditional systems. They are becoming autonomous agents

Burying head in the sand

There is a lot of chatter around the implications of these tools on the future of work. I will not get into which jobs will or will not get replaced. Time will tell

A few things are, however, clear based on the current state of these tools

• The base models continue to improve rapidly based on new algorithms and more compute
• We have new reasoning models which continue to improve based on reinforcement learning techniques
• The cost of these tools continue to drop exponentially (almost 90% per year)

This means that the cost of performing routine tasks and synthesizing information is dropping rapidly. If the major part of your job is to use existing information and put it together in a different format, you face competition from these tools which can do a good enough job at 5% of the price (and dropping)

This does not mean we are doomed to irrelevance as the tools get better. However it does mean that we need to re-think what is our value add (to get paid well)

This is similar to waves of automations in the past – Farm and factory workers were not happy when machines replaced human labor. They fought this change tooth and nail. We will see the same happen with white collar work.

A lot of pushback is on the following lines

• The work quality of these tools is poor (same as weavers complaining about the quality of hand-woven cloth versus the machines)
• They are taking work away from hard working people
• It is unfair

I am not denying the pain these tools will cause in the workforce, but burying our head in the sand is not going to change reality.

Change your workflow

I personally think we should all take these new tools seriously and start learning as much as we can on how to use them. The next step is to breakdown your own workflow into what can now be done more efficiently using these tools.

Let me take investing as an example

The job of portfolio managers/Investors/Research analyst shifted from finding information to synthesizing it in the last few years. There are screening tools, financial websites, charting tools available where we can get all the necessary information in a few minutes (which used to take hours and days in the past)

The main job for us was to put synthesize all this information and arrive at the final decision – should I buy the stock, how much of it and at what price ?

As an investor, we get paid for our decision, not for the effort we put it. If we can reach a high-quality decision in a few hours versus days then it’s even better. In such a case, these new tools are a great benefit to us. We need to drop the mindset from our school days: grade = amount of homework. In markets, it is always quality over quantity

In the past I would read up a lot of documents and think of questions to answer. I would then dig further for the answers, but generate new questions at the same time.  Invariably there would be a point of diminishing returns after which I would decide with 70-80% of the information

I am no longer constrained

My job as an investor is to read the necessary documents as a starting point and come up with a list of questions. I can feed these questions to one of the LLM tools and  get a detailed answer. I can dig into this output, push my understanding forward and generate a new set of questions

The result is that I can have a better understanding of the company and its industry in a much shorter period of time. What can be better than that?

I will dig deeper in my next post into how I have changed my workflow and incorporated these tools.

The most important change for all of us, including investors, is now to come up with high quality questions. We are getting to the point where our computers will generate better answers than most humans

I came across this word recently and resonated with me. On reading about it, I realized that I have always admired this behavior and strived for it. So what is agency?

As per google,

In a person, “agency” refers to the capacity to act independently, make free choices, and exert power to shape one’s own life and experiences. It’s about having control and influence over one’s actions and the outcomes they produce

In India, we call this jugaad

As I look back on my own life and those around me who have done well, I find almost all have had high agency – a drive to improve their life

In my generation, India had started opening up and we experienced the first technology revolution – Internet. A lot of young people in the late 90s joined IT services companies (making switches from other careers), some started online businesses, some moved to the US and some like me started a blog on investing on a whim

I enjoyed reading and investing. Pre-internet it meant getting annual reports from brokers and reading the newspaper. There were no Indian blogs (only US based such as the Motley fool bulletin boards). When I found this new medium, I started writing my own thoughts for no particular reason

Today its called content marketing, but then it felt like writing to myself with no one reading it

One thing led to another – I eventually started an advisory with my friend – Kedar which we have been running for 12 years. I still get surprised to hear from people that they have followed me for years and were reading what I was writing. I never realized that this would happen

The new revolution

We now have another shift in the making – Artificial intelligence. I am equally excited about it. As in the late 90s I get the same tingly Spidey sense of something exciting.

How will it evolve and where will it lead us?

I don’t know, but as I did earlier, I am learning about it and playing with it

I am sure it will be an exciting and fun journey as it happened with the internet. I keep saying to anyone willing to listen to do the same but be less timid

We wrote the following to our subscribers

When and at what level will the market bottom?

what should be the cash level in the portfolio to ride out the bear market?

These are wrong questions to ask. Let me explain –

I wrote about preparing for a downturn in my prior note. We have developed a process based on the study of the past bear markets and our failures. The key point is that we ignored some risks in the past which hurt us when the market cycle turned.

We have identified the following risks and managed them as they intensified towards the second half of 2024

1. Valuation risk: We exited/trimmed several positions in tranches as stocks went from under-valued to fairly and then overvalued. We did not exit these positions in one shot as we wanted to take advantage of the momentum
2. Position size risk: There are positions we want to hold through the cycle. However, this poses the risk of opportunity loss if the size is too large. We trimmed some of these positions so that we can hold the balance with less stress
3. Sector concentration: we reduced positions if they were based on the same theme and sector. When a sector goes out of favor, it can impact the stock for a long time
4. Poor performance: In some cases, the performance of the company was weakening and we exited as the risk reward was no longer attractive

One additional element this time was to review the indices and breadth to gauge the market cycle. As the cycle weakened in Q4, we actively reduced our risk.

In summary, we were focused on managing risk and not predicting what will happen to the market.

Half the battle

We are now at 45%+ cash level which is the highest ever and it is NOT burning a hole in our pocket. This cash level is an outcome of the process

It is easy to feel smug at this point. However, this is only half the battle. Equally important is to re-enter the market and not get locked into a bearish outlook.

We will not depend on market forecast or expert views for it. We have looked at this phase of the market too in the past cycles and have a process of initiating or raising our positions. Some of you have asked how long will it take?

We don’t know. That can only be known if you can predict the market (We can’t)

Graded entry and exit

We had a gradual exit out of several positions to reduce the aggregate risk as the market weakened.  We will re-enter in a gradual manner too driven by our buy process

The buy process for a stock will be based on its fundamentals and risk reward equation. It does not require for us to forecast when and at what level the market will bottom. Fixating on the market level is a waste of time. We are focused on refining and executing our process of finding and entering new positions

This time around, the cash level will also be a result of executing this process

I started my career in Marketing and switched to IT (consulting). The pay was 2X and the stress was half of that. I had also come to the realization that I did not enjoy sales/marketing. Reading and learning was the thing I loved, and IT provided a great opportunity for that. Investing was the other area where I could the same and earn at the same time

I joined one of the Large IT services companies and was deployed on an ERP project. I had no clue about the technology. I tackled the problem the same way I had handled it as an investor

I went online, downloaded the implementation guides, manuals, notes – whatever I could find and started reading them. At first, they made no sense. However, by the third reading (cover to cover), I started getting a hang of it

The next step was to get into the software and practice. I became good at it within a year.

On the next project, I had some juniors working with me who were in the same place, I was a year back. To my surprise, when I asked them to read all the material, cover to cover, they balked at it. Till the end of the project, they kept reaching out to me for help and just coasted along

Most people avoid lifelong learning

At the end of this episode and a few years later, I realized a couple of things

• These colleagues did reasonably well in other companies and moved into managerial roles. It just showed that learning was not key in moving up the ladder and most companies did not care for it.
• There is a perverse system where a lot of IT service companies do not reward for deep expertise. As a result, they end up with a layer of management who have outdated technology skills. It is not their loss though as they tend to fire such resources when they get bloated
• Curiosity and drive to learn is not as common as I thought. Most of the people I know would rather coast along without pushing themselves

Why people avoid learning

Initially I was puzzled why people avoided learning when it was fun, and you were better off in the end

I realized that the process of learning makes you feel stupid. I recently went through this phase when I was learning technical analysis and poker a few years back. Even now, I get the same feeling on a regular basis. This is not a question of intelligence. No one likes to feel dumb and as a result people avoid learning new things

This will be a major hurdle in the future for a lot of people as new AI based technologies go mainstream. I have gone down that rabbit hole in the last 2 years and can see massive changes on the horizon.

Unfortunately, a lot of people will complain and find reasons to avoid the discomfort of learning. I am lucky that I am comfortable with feeling lost and stupid most of the time. I have 25 years of practice in it

A recent post to our subscribers on the current market situation. Hope you find it useful

We have experienced 13 drops of more than 10% in the last 14 years of our advisory. A few have been more than 20% and the one in 2020 was 30%+

If you have been in the equity market for a long time, this is not a surprise. Even a cursory study of market history, shows the same. Yet, a lot of people get shocked by such drops.

The recent drop is being explained with a new set of reasons whereas just a few months back, India was being touted as a miracle economy. If you really need a reason, how about this? – The markets fell as it often has in the past and will do so from time to time in the future

A study of the past

I recently did a talk about past cycles of manias and booms & busts. You can watch the recording here. Some of the key lessons are

• Manias and crashes are driven by human nature. They will always be there as long as people are trading in the markets
• There is a plausible, kernel of truth which gets stretched to excess
• No one can predict when/where a bubble will start and when it will end
• Media always acts as a cheer leader of Bubbles (Story/Attention Bias)

As part of this study, we also reviewed the past 25 years of the Indian market. We have incorporated the learnings in a new process, where we review the market on a monthly basis to gauge its trend, breadth and sectors which are doing well and ones that are slowing down

As a result of this review and rising valuations, we started exiting some positions and are now at 25% cash levels

Did I foresee that the market would drop? No amount of market analysis can help you forecast the future. What we did realize was that some companies in our portfolio were stretched and so we started pulling back. We also exited positions where the performance was poor and the stock was weakening

In a nutshell, we raised our cash level as the risk reward ratio in our portfolio dropped

So what about the cash?

The next set of questions, we invariably get after every drop, is when we plan to invest the cash. For starters, we are not swing traders who are trying to catch the swing low to make a 20% gain on the next bounce

Our focus is to buy stocks with a 2-3 yr window and a 10% drop is not enough. Several stocks have dropped from a PE of 100 to 70. That is not cheap

We are constantly searching for new ideas and that process continues independent of the market condition. A bear market turns up more ideas for consideration, but we are not in a hurry. We have slept well and made reasonable returns inspite of holding high cash from time to time. We will continue in the same manner

There are some stocks which have a high risk reward equation for investors, but the equation does not work for the investment manager

Let me explain –  There are some stocks a fund manager can buy and even if he loses money, his investors will not be upset. Think of HDFC bank or Reliance industries

And then there are stocks which if you lose money, you will be questioned (to put it mildly). There have been such positions in our portfolio in the past. The prime example was Shemaroo. I still have some of those emails with me as a reminder

We try to ignore the noise and act as rationally as possible. That said, I am human and experience the same emotions. We are far tolerant of such positions in our own portfolio compared to what we recommend for all of you. Neuland labs was not entirely in that bucket, but had elements to it when we re-initiated the position

To begin with, we lost money on it in our first try. We were cautious in restarting the position and did not want to impact the portfolio if it failed again.

High returns are not free

There are some positions which have worked very well in our personal portfolio, but we will not add to the model portfolio. These are small cap, turnaround companies which have a higher risk reward ratio. Also if things go wrong, exit is not easy.

There is no free lunch in the stock market. We are not going to find a 20% compounder with 25% ROC valued at 10 times earnings. There was a time when such stocks were available and I was lucky to invest in some, but those days are long gone

We some time buy these higher risk/reward, ugly looking stocks for our personal account, but the downside for the model portfolio is too high.

We are thinking of how we can develop a different product for such stocks for investors who are tolerant of much higher risk. We will keep you posted as we get ready for the launch

Disclaimer

• This report is published by RC Capital Management – SEBI Registered Investment Advisor (INA000004088).
• This report is for educational purposes only and should not be construed as an Investment Advice.
• RC Capital Management may have recommended the above stocks to our clients in the past. However, this is not a recommendation to buy / hold / sell the stock at the time of publishing this report.
• The securities quoted are for illustration purpose only and are not recommendatory
• RC Capital Management may hold position in any of the companies mentioned in the report at the time of publishing the same. Its partners may hold a position in this company in their individual capacity at the time of publishing.
• Neither RC Capital Management nor its partners have received any compensation from any company mentioned in this report for the preparation of this report.
• There is no conflict of interest for RC Capital Management / it’s partners due to publishing this report

It was the later part of March 2020 and I was really worried about the tail risks to our portfolio. I started getting worried about Covid in late feb/early march and wrote the following posts on it

Battening down the hatches

Tailrisks

And the key post in the series: Economic sudden stop in which I wrote the following

What is an economic sudden stop – It is when most economics activities for a location come to a sudden stop due to a financial or natural disaster. In most cases such sudden stops are local such as due to a flood or an earthquake.

Global sudden stops are extremely rare and have happened only during the great depression in 1930s and 2008. Even during wars, we do not have such a situation.

The current crises has the potential of an economic sudden stop (and may have started). I have been thinking of this risk (which I have been referred to as a Tail risk). Over the weekend, I drew the following crude picture to illustrate my hypothesis (please excuse my drawing)

In view of this risk, I decided to analyze all my positions for bankruptcy risk. I wanted to assess how long the companies in my portfolio would survive, if there was complete stoppage of business (revenue = 0)

I am attaching the analysis below. Please note all companies in the note are for educational purpose only. Also we don’t hold these stocks now.

Bankruptchy risk analysis

“It’s not supposed to be easy. Anyone who finds it easy is stupid.” – Charlie munger

Investing is very easy when you are investing in a bull market. If you are ‘unlucky’ to begin investing in a bull market, you start dreaming of being the next Rakesh Jhunjhunwala or Warren Buffett

I used the word unlucky on purpose because every new investor who starts investing in such  periods gets a rude awakening in the next bear market

Bull market stories

A common theme during such periods are stories we hear from people who are striking it rich at such times

US covid Tech boom

“Buy quality at any price”

“Chor bane mor”

Secular growth of financial services

Perpetual growth in Infrastructure

The last one was in fashion in 2006-07 when a lot of current investors were not around

What happens at such times is that investors fit a story to the price action and think of it as a law of physics. These stories gain prominence as more investors get sucked into it. Eventually the trend runs its course and a lot of investors are left holding the bag when it eventually turns

Beating the market appears deceptively easy

Can you think of any activity in life which pays well, is competitive in nature and easy all time ? Is it easy to be a doctor, architect, actor, chef ?

Investing seems to be the only field where a lot of people get fooled into thinking that its easy. The reasons are not complex to understand

• For starters this is a probabilistic field with returns accruing in spurts. A 15% CAGR over 10 years is not spread evenly over this period. Its more like +25%, +10%, -15%, + 18% and so on. Anyone who invests during a bull market thinks of it as normal and tends to extrapolate it
• During such bull run making money appears to be easy. Just buy whatever is in fashion and it works. No need for any kind of risk management
• Its easy to trade and getting easier by the day. Open an account in a few days and start trading in F&O. A thousand rupees is enough to get started. There are no qualifications or gate keepers to stop you

Performance over the cycle

Anyone can be a bull market genius. The true measure of performance is over multiple cycles which include several bear markets

Most investors get washed out after a bear market, never to return back. The few who stick around, dig deeper and learn the craft of investing. Even so, this does not assure you of above average performance

The reason for it is that the basis of out-performance changes over time. What worked in early 2000 does not work now. As I look back on my old posts up until 2013/14, it was easy to buy good quality small and midcap companies at cheap prices to make multi-bagger returns. That game is over now

In the same manner, quality at any price worked in the 2015-18 period, or loss making tech companies were the go to place in 2020. A lot of investors tend to stick with the old theme even when the paradigm has shifted

Beware of the snake oil salesmen

If you want to do well over the long run, you have to overcome your natural biases which trip most investors. One has to un-learn and relearn every 3-5 years as the paradigm shifts. If you miss one, then be prepared to live through a period of under performance till you adapt to the new one

That’s the reason why a lot of successful long term investors have said: Trading or active investing is a tough way to make easy money

I can vouch for that. I have worked in the corporate world and invested actively at the same time. I can tell you that making a living from the stock market is much more difficult than a full time job.

So anytime someone tries to tell you that beating the market is easy over the long run, keep these points in mind

• They are trying to sell you something which is not worth buying
• They are lying on purpose
• They are incompetent and a bull market wonder