Latest stories

Learning, adapting and change

By Rohit Chauhan
In Advisory letter
February 23, 2023
7 Min read
L

Decisive action

Our approach in the past has been to hold and ride through the drop. This works if the long term prospects of the company remain unchanged and the company is going through a temporary drop in growth or has high valuations

In the past, we would hope and wait for the performance to turn which led to opportunity loss. More important, each position takes a certain amount of mental energy and the ones performing the worst, tend to take the most

We saw that happen with some of our failures in 2018 and 2020 which took away a lot of my mental energy. Swift and decisive action on exiting a weak position frees up my mind to  concentrate on better ideas

Stop loss

A Stop loss is commonly used by traders and some investors. We have resisted the idea as my approach has been to buy a company with poor outlook in the near term but good prospects in the future. In such cases, using a stop loss means we get stopped out before the company’s performance turns around

I have reflected on the past losses and have noticed my tendency to get carried away by the narrative of a company, especially after it has done well for us. The risk is highest when we have a high allocation in a company with high valuation. In such cases, disappointment in the performance hurts our portfolio more.

It is easy to set a quantitative stop loss and exit as soon as that is hit. However, that would have stopped us out of companies which went on to become multi-baggers

As a result, we are using a mix of subjective and quantitative criteria to set a stop loss for each idea

  • Position size
  • Long term compounding v/s a short term cyclical play
  • Technicals such as 200 DMA
  • Company level issues

I recently read a book called ‘Quit’ by Annie Duke and highly recommend it. There are two points from the book which I have taken to heart as it applies to investing

  • Quitting on time, always feels early: remember when we quit IEX close to the top. It felt early to me
  • Make the exit decision beforehand. At the time of executing the decision, the mind tends to come up with excuses. I experience it all the time

We have a stop loss for most positions and will cut the position in a graded fashion even if it feels early or we are proven wrong. If the position turns and the company starts doing well, we can always re-enter

Evolution

As the saying goes – Never waste a failure. I have always taken this maxim to heart. It’s not that I like to lose money. The problem with not being comfortable with failure in investing is that it happens quite often and not managing it well leads to further underperformance

For example – My tendency to hold on to losing positions in the past is a proof of this tendency

The performance of the last few years has made me reflect on some of the core aspects of our approach. One of them is – Buy and Hold

I continue to subscribe to the notion that wealth is built by investing in good companies and holding them for the long run. However, I have added caveats to it. There are very few companies which can perform consistently for a long period time (over decades) and the bar should be set high

For example, we started a position in PEL in 2012 as a cash bargain. The company evolved into a compounder as it built its pharma and then the financial services business. At the peak this was a 4X for us and a 10%+ position. However, we ignored a flaw in its business model – borrowing short term and lending to risky segment (real estate builders)

As I shared earlier in the note, I bought into the narrative and thought that the management knew what it was doing. To a certain extent, we must trust the management and their strategy or else we can never invest in a company for the long run

We failed in being critical enough, even though the market was telling us otherwise

We have become less complacent of the companies we hold and will not hesitate to exit our large and long term positions if we feel the risk  is high

Holding cash

We have held cash to the tune of 10-20% over the years. This has penalized our performance at around 2% CAGR. We never report our performance without cash as no one forced us to hold cash.

However, this cash holding is like tying extra weights on our feet while running a marathon. Cash has acted as a safety blanket for us and allowed us to sleep better. However, I am now rethinking the level of cash. We may hold lower amounts of cash in the future, but manage risk more actively based on stop losses

That said, we are not going to be reckless. If we don’t find any ideas, then we will hold cash. It’s better to underperform than lose money

Changing process – sudden or gradual

I have been thinking about our process for some time but only recently acted on it. The model portfolio and you the subscribers are not my guinea pigs.

We have a small tracking portfolio to add new ideas and track the companies for some time. I have been actively using stop loss in that portfolio. Some of the recent ideas were in the tracking portfolio for 6+ months before I added them to the model portfolio

This will continue in the future. At the same time, these tracking positions are small positions. Our buying happens at the same time as all of you.

Another change which is an outcome of this process, is higher volume of transactions. We sold 7 positions and added 11 new positions to the portfolio.  In hindsight, I was slow on the exit. We should have exited a few more positions earlier.

What has worked in the past, has become less effective in the recent years. This is expected due to the nature of the markets. As markets evolve and adapt, the bar is being raised and old timers like us must learn and adapt. We will continue to do so in the future

A long-term partnership

We repeat this every time in the portfolio review and will do so again (more for the benefit of the new subscribers)

  • We do not have timing skills and cannot prevent short term quotation losses in the market.
  • Our approach is to analyze and hold a company for the long term (2-3 years). As a result, our goal is to earn above average returns in the long run and try to avoid losses during the same period
  • Despite our best efforts, we will make stupid decisions and lose money from time to time. The pain felt will be equal or more as we invest our own money in the same fashion

We will treat all of you in the same manner as we would want to be treated if our roles very reversed. This means that we will be transparent and honest about our actions even when have made a mistake

Read on

Four Questions and a session

By Rohit Chauhan
In Online session
December 13, 2022
5 Min read
F

I recently had an interactive twitter spaces session. Unfortunately, the first 30 min of the conversation was not recorded

I am posting the video below

https://www.youtube.com/watch?v=ucxiWhkvnG0

To link the questions and my responses better, I spoke about four assumptions in investing. We all make implicit decisions on these questions, but often fail to recognize it

Time horizon

The first assumption is the time horizon for each investment. We have labels such as traders or investors with traders having a shorter time horizon. These are lazy labels. Only a few investors are explicit about their time horizon for an investment. Is it 1-3 months, 12 months, 2-3 years or greater than 5 years?

Thinking on these lines is not an academic exercise and there is nothing superior about longer versus shorter time frames. Also, we cannot be sure about how long we will hold an investment, but we should have some viewpoint about it

Let me take a few examples to make this point

Assume your ‘average expected’ holding period is around 6 months. In such a case, you will be more concerned about the next quarter’s earnings, momentum in the stock and general economic conditions in the near term. You may use technical indicators more than fundamental factors to make a decision

In such a case a cyclical company such as steel or sugar is a good idea

In contrast, if you prefer a 5+ year holding period, you would be focused on the business model, competitive advantage, and quality of the management. You are more concerned about how the company will perform over the next decade and not the next quarter

A pharma or specialty chemical company could be a good idea even if there near term headwinds

One can easily see that an opportunity for one set of investors would be a nonstarter for the other. A lot of argument on social media is often two individuals talking past each other because their implicit time horizon is different

You don’t have to be precise about your time horizon but should have a general idea of the time scale you are operating on. That will define your type of stocks and the investing framework

Cyclicality

This brings me to next topic of cycles. I agree with the idea that in the end everything is cyclical. The only difference is the duration of these cycle.

An FMCG company could have a cycle of decades whereas a sugar company could complete its cycle with 1-2 years

One should combine the idea of cyclicality with time horizon. If you prefer to buy and hold for 5+ years, you must avoid a tier 2 steel producer. On the other hand, an investor with a 6 month horizon, would get frustrated if he or she buys a CDMO or a steady growth FMCG company going through a temporary slow down

Return on time invested

The scarcest resource for all of us is time. You can compound money, but time is finite and reducing by the second. If you accept that reality, then return on time invested is very critical

I will not get philosophical on this. For now, I will limit the discussion to what you are earning in monetary terms per unit of time spent on investing

I covered this topic in detail in the post below on why time spent on active investing has low returns

https://www.valueinvestorindia.com/2019/05/24/a-future-advise-to-my-kids/

Let’s assume that like me, investing is a passion for you. We all have activities in our life where we are not thinking of an economic return. Life would be a drab if we were economic animals all the time. That said, I think it is important to think of Return on time invested as a framework.

Let me give you an example – I used to look at arbitrage situations in the past but realized that increasing competition had reduced the return to low double digit one time return. It was not worth the time for me, and I stopped investing in such opportunities

The same goes for debt investing. I don’t want to spend time looking for the extra yield and add risk for that extra 2-3% return. I prefer to park my surplus cash into Fixed deposits with some large banks. It may be sub-optimal from a money standpoint, but better from a time perspective

I am not sharing these examples as a superior way of spending time. Someone else would feel that I have wasted 20 years of my life trying to beat the index. That said, I think we should all look at each investment opportunity through this lens

Sleep test or risk tolerance

I come to the final point. I have written about it in the past on the blog. The point is simple – Will an investment or level of concentration make lose sleep? If yes, then it’s not worth doing

This test works as a proxy of my risk tolerance. I don’t care what others think about an opportunity if it makes my stomach churn and lose sleep. We are all built differently and this question on risk tolerance will give a different and very personal answer. Trying to imitate others on this point is a sure way to unhappiness

Read on

Life experiences and risk

By Rohit Chauhan
In General thoughts
November 23, 2022
2 Min read
L

I was in college when my dad passed away unexpectedly.

It was a shattering experience and only those who are unfortunate to experience it early in life can relate to it. Your notions of stability, risk and how you see the future changes completely

As I came to terms with his death, I was forced to deal with my family’s finances. This was the start of my investing journey. Till that time, I was never bothered about money, much less about stocks and bonds

We were financially insecure and that feeling drove me to learn about money & financial independence which led me to stocks, Warren Buffett and so on

I cover my initial years of investing in this video

A lot of time has passed since then and I have done well beyond my expectations. However, I don’t think my world view has changed. Such events influence your thinking on risk & money for a lifetime

I often chuckle when I read about some formulae on risk and all kinds of mathematical approaches. These formulae are without context and designed for some hypothetical person with no emotions and life experiences.

We all go through different life experience and our notions of risk, money and future are different. My own life experiences means that I will always remain a financial chicken all my life

Read on

Thesis delayed, but not denied: Cochin shipyard Ltd

By Rohit Chauhan
In Company analysis
October 31, 2022
2 Min read
T

The Defense sector has caught investor fancy, with stocks such as GRSE, Hindustan aeronautics and Cochin shipyard, running up in the recent months

The following factors are supposed to be the key drivers for it

  • Increasing defense spend as India raises it spend as % of GDP in view of the changing geopolitical situation
  • Higher spend on capital equipment to modernize the armed forces
  • Focus on Import substitution to reduce reliance on foreign suppliers
  • Support ‘Make in India’ initiative and raise exports of defense equipment

These factors have been in place for the last few years, but are gaining momentum now (achieving critical mass)

We initiated a position in Cochin shipyard in 2020 in the model portfolio which turned out to be early in Hindsight. The main driver was an increasing order book driven by the above factors. As it happens with anything related to the government – You can count on delays inspite of the best intentions. As a result, we exited the position to avoid opportunity loss

This sector continues to be on my radar, though we have no position in it

I am publishing the research report from 2020, as the thesis is unchanged. You can download it from here

Read on

Subscription

Enter your email address if you would like to be notified when a new post is posted:

I agree to be emailed to confirm my subscription to this list

Recent Posts

Select category to filter posts

Archives