Nikkei – LUCKY IDIOT

We all have some needs, some desire in life and we work for fulfilling those. But due to Inflation, our purchasing power get reduce which has always remained a serious question for all of us. We all working hard to beat inflation and enhance our purchasing power. We save, we invest money for our future life. The very popular story everywhere at the market prevailing is a common stock investment is a better tool to beat inflation compared to the bond investment. But is it true in all the situations? We know that every-time it is not true; many a time, good stocks do not give a good return compared to the bond. We need to focus on the valuation of the stock and yield available on the bond. It is very much possible that good stocks can be traded a valuation of the great stocks which can be harmful to us to beat the inflation by investing in it at such a valuation. And at such a valuation, investing into the bond becomes a better choice. Good business is not always a good investment.

Common stocks do not have an inheritance feature to always beat inflation. Yes, it is acceptable that stocks have delivered a good return compared to the bond in the past. But for the future, we need to look at the future of the growth of the economy, growth of the corporate earnings, etc.

If we see the growth of Japan then GDP grows at ~3% CAGR since the year 1981 and similarly their stock market also has given a return of 3% CAGR since the year 1981. Nikkei still is not able to break the higher level of the year 1989. So for growth of the investment return, underlying companies/economy also has to grow otherwise we are not able to earn by making an investment.

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When inflation keeps on rising then companies need to bring more capital for growing sales (as the purchasing power of the company reduces) at similar peace. Such a scenario creates difficulties for businesses to survive and grow further. When companies need additional capital to grow similar sales level, then return on incremental capital will reduce, also companies cannot able to put capital to the new projects as old projects require additional capital. This also can enhance a debt level or the external funding to run a business and that can hamper the profitability.

One of the communication company

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We can see that the capital employed of the company is growing at 16% CAGR and sales growing at 8% CAGR. This means for growing a similar business, the company need to make a twice of capital employed. So that company keeps on requiring external funding to grow the business. Here, we can see that company having a negative working capital cycle though the company needs to bring external funding to grow or maintain the business. There is much business which having such problems and those businesses require to have a huge capital to grow and to even maintain the business.

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Hyperinflation stop consumer to buy more and more goods as their purchasing power starts getting reduced. During such time, businesses do not rise a price to overcome the impact of the rising cost of raw material and other utilities. So that hyperinflation can hamper the earning, growth of the companies and which having an adverse impact on the annual investment return during those time period.

Many people make an investment to the gold, real estate, old paintings, old currencies, etc. for beating inflation but such a scenario does not seem to be practical even. Real estate is a hot investment for getting protection against inflation. But if we missed with a location, the price needs to pay, etc then we also do not protect ourselves against inflation by investing in the real estate.

We should not focus on the one and only basket by seeing the huge return in the past. We should focus on the different basket for making an investment. As we have experience in the near past that due to good return from the equities, people have started making an investment into the equities and market got a huge liquidity flow which has bring the market to the record high level. Similarly in the past for the real estate market.

Our investment success does not count by how much % of return, we have made through investment but how much we left after adjusting inflation is considerable. That means if we have earned 20% return on our investment and inflation is 8% then we need to consider our return is 12% after adjusting inflation. And if our investment is not able to generate a positive return after adjusting for the inflation at a longer period of time then that is of no use for us.

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Similar thing with the Indian economy, we also experienced a Current Account Deficit and we have to borrow money for supporting the economy. If the hyperinflationary situation starts prevailing to an economy then it will become difficult for the economy to grow further. We need to bring more fund to just maintain the existing state of living.

Disclosure – Companies mentioned in the article is just for an example & educational purpose. It is not a buy/sell/ hold recommendation.

Read for more detail: The Intelligent Investor by Benjamin Graham, Jason Zweig

BM C10 01

Mr. Charlie Ellis has explained to the book Winning the Loser’s Game – professional players force others to make an error which helps the professional player to win whereas amateur players play a faulty shot. This is similar to the investing field. And the main difference between an amateur and a professional investor. We have to keep on defending ourselves and wait for others to make errors. We need to stay on the pitch and wait for the loose ball for hitting it outside of the boundary.

Return of the investment instruments and our return having a gap which is known as a behavioral gap, which tells that investors’ behavior affects their own returns.

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Amateur investors do not focus on risk management. Generally, they focus on the risk after they meet to the risk. It is similar to wearing a helmet after facing a road accident as a precaution. Whereas professional investors do things in a different manner, they buy things which others do not want to buy and they sell things which everyone wants to buy. Mr. Howard Marks are given this technique as a second level thinking.

Howard Marks – Second Level Thinking

During the year 2015, Stanley Druckenmiller was getting an introduction as –

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During the year 1981, a 28 years old Mr. Druckenmiller has started with Duquesne Capital Management. During the year 1987, Mr. Druckenmiller had buildup long position as he felt that 2200 level supported zone for the Dow Jones but on Monday, Dow goes down to 1738 level which known for “Black Monday”. On Monday, after lunchtime, Stocks got to bounce back and Mr. Druckenmiller has covered all his position. Mr.Drukenmiller has left his job to join George Soros. In the year 1989, Mr.Drukenmiller has shorted Japan Index Nikkei which is still down from the top of the year 1989.

In the year 1992, Mr.Drukenmiller has shorted the pound currency and he turns out to be a winner. Mr.Drukermiller has a track record of generating a return of 31.50%, 29.60%, 53.40%, 68.80% and 63.20% in the year 1989, 1990, 1991, 1992 and 1993 respectively.

But during the year 1994, Fund lost in a bet against the yen and 1998, Quantum fund had lost $2 billion in Russia. The worst is about to come. Mr.Drukenmiller has invested in the IT stocks and he was uncomfortable with his positions so that he booked and took gained. But he had hired new young employees in the year 1999 and they kept on making money by investing in the IT stocks.

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He had double his position at the top to the tech stocks and when IT bubble got burst, Quantum fund had lost 21% or $7.60 billion since their peak value.

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Mr.Drukenmiller cannot able to see others making money and he can’t. So that he also makes an emotional error. Mr.Drukenmiller was known that what he is doing but he cannot able to stop his emotion and he has occurred an error. Sometimes it is important to see others making money. And we need to stay with not making money.