Prepare, Not Predict

Positioning portfolios to benefit from uncertainty and volatility

As I highlighted in my previous post, the world is more uncertain than ever before. A majority of academicians and so-called experts are busy in predicting the impact on economy, financial markets and otherwise. None of them can have and will have any conviction of what is left to entail. While the long-term trajectory is relatively easier to predict, in the short-term , it is important to focus our attention on preparation for all circumstances .

As Nassim Taleb highlights in his book Antifragile, the future unfolding of unpredictable events has the potential to affect our situations in either of the three ways.

i) Harm us

ii) Neutral to us

iii) Benefit us

Rather than spending our he time and energies on predicting macroeconomics , we should focus on positioning ourselves to be antifragile and benefit from the uncertainty.

Lets discuss how we can apply this to our financial portfolios. To sleep sound and be antifragile, it is important to be be positioned in a way that one is exposed to the unlimited upside , while limiting the downside to the minimum (at a comfortable level).

One must position oneself in all situations wherein the downsides are limited , while exposing oneself to all potential upsides.

In this environment wherein valuations are stretched more than earnings of the firms , it is natural to feel uneasy over one’s portfolio regarding the possibility of potential reversion to mean rationalising the valuations and affecting our unrealised gains . On the other hand, as nobody knows till when the valuations can continue to rise, we don’t even want to miss out on the gains, by selling our investments . Who knows if this could be a long bull rally.

So how can one’s equity portfolio be positioned so that no matter which way the future unfolds, we are prepared to reap the benefits. . I recommend either of the two approaches below.

  1. Keep only a limited portion of your portfolio in equities-

If you are a long-term investor , assess how much absolute value of portfolio decline (in near term) can you handle with equanimity. As principles of value investing suggest, one must be able to handle the downfalls of 50-60% in portfolio with equanimity,

For example- If my ability to see my portfolio decline is limited to Rs 5 lakh in the near term, I must not invest more than Rs 10 lakh in equities (assuming 50% decline). This is a simple way to restrict your downside while keeping the portfolio exposed to potential upsides. Knowing your capacity and ability to handle the above must direct your proportion of wealth in equity markets.

2. Buy insurance and Hedge your portfolio against severe declines.

If you dont buy the idea of having very minimal exposure to equities , another alternate method is to buy hedge on your portfolio. Different hedging strategies could be deployed , with the simplest one being buying the Put Options. Eg. If you have a well-diversified portfolio, puts could be bought on Nifty , that will avoid your downside. You can chose the strike price as per the level of downside you want to protect. Of course, the more protection you need, the higher would be the rate of the hedging.

The benefit of this approach is that you can continue to reap upside (if market ends up in a bull run), while keeping your downside protected. No doubt, your returns would be affected a bit due to the premium you are paying for buying portfolio insurance. But, nothing comes for free and this could be a good trade-off to sleep sound and still reap the potential upside from market irrationality.

Why I am investing in Tata Power?

Tata Power Has 3 major business segments –

  1. Electricity generation via Coal
  2. T&D (Transmission & Distribution)
  3. Electricity generation (RE)- Wind and Solar

Additionally, it holds coal Mines to source Coal for Electricity Generation

Due to the nature of the business, Tata Power has strong and predictable cash flows on account of long-term PPAs with the Government and Commercial Customers.

Tata Power would not grow its Coal Electricity generation business organically and would not invest. This is a declining business with low ROE. The only CAPEX needed in this segment would be to maintain the existing assets.

Tata Power will invest into T&D business, as key participant in the governments objective to Partner with Private industry (including complete privatization) into these segments. Currently, these are loss generating businesses and offers huge incentives to govt. to privatize it . This segment typically provides 10-14% ROE (avg. 12% with D/E of 1)

The major growth segment is RE , where TATA has won major bids and is growing. This segment is generating avg. RoE of 9% currently.  Total Equity invested = 6000 cr. (D/E ~ 2)

Currently, the business generates predictable stable free cash flows of 1000 ~ (Rs. 3-4/share) and is available at E/P ratio of 8%-11% out of which 50% is paid back in dividends, hence dividend yield of 4.4%

Going Ahead, the company will reduce debt by –

  • Conservatively 10,000 crores and will increase FCF by approx.500 per year = Rs ~ 2/share by sale of assets. This would increase the E/P yield further and provide cash flow to fund CAPEX.  This would make total FCF = 5-7 Rs (eq E/P of 15%-20%)
  • Alternatively, company may raise additional equity which can dilute upto (25%) decreasing E/P to 6%-8% with dividend dilution to 3.3%

Total Equity = 22,000 crore

FCF = 1000

ROE = 4.5%

If you exclude Mundra (CGPL) Biz, FCF is 2100 crore with Equity of 17,000 generating ROE = 12.3%

To value the business, hence, the following must be considered

  • Other biz. Include T&D Business  – 1600 FCF with Equity of 11,500 (14%)
  • RE Biz – 500 FCF with 9% ROE on equity of 5,500 crore
  • CGPL Business – (1100) Crore FCF with equity of 5000 crore

Avg. ROE on additional capital invested – 12% (Range from 10%-14%)

No growth FCF = 1000 crore

No growth valuation = 37

Currently, Tata Power is fairly valued assuming that the current scenario continues forever.

(In 10 years, you can get money back)

  1. Growth is a margin of Safety
  2. Other Upsides-
  3. Mundra tariff resolution (~ Additional Upside of 500-600 cr FCF ie 10-15 Rs in valuation)
  4. Debt Reduction (10,000 crore reduction Can increase FCF by Rs 2 per year)

Why I invested in Delta Corp

Delta Corp has strong Assets position of 600 crore (Cash + Land)  

Its liabilities (including contingent liabilities & provisions) is 200 cr

So Assets- All liabilities = 400 crore

It has three business segments

  1. Casinos –
  2. FCF annual = 155 crore ;
  3. ROE = 25% great business,
  4. strong barriers to entry
  5. Rapid historical growth

No growth valuation = 1550 crore

  • Online Gaming
  • ROE = 10%
  • Strong competition and market size keeps returns at low levels; don’t expect growth in this segment to generate additional points to valuation
  • Strong market share and scale in India
  • 30 crore FCF annual
  • Hotels & Resorts
  • Loss making segment since inception… Necessary evil
  • Continue to forecast a FCF loss of 25 crore per annum

Key Risks-

  1. Regulatory Change
  • Negative image business risks associated with such businesses
  • Hotels as necessary evil may drive down ROEs if casinos need to be opened along with hotels in new places, as the regulations ease.. For growth, I will assume necessary evil will tag along and will produce ROE of casino + hotel biz = 13%

Upside

  • Positive decision in Daman—can easily expect 5 yrs
  • Revenues don’t reflect new properties – e.g. Nepal and Jalesh

Nepal can bring additional FCF of 10 crore per annum

  • Lot of revenue growth room in Sikkim

Valuation

At no growth = 1550 + 400 +30-30 = 1950cr

Now, lets value growth

  • Assuming no growth due to Covid for 2 yrs, and then 7% traffic growth with existing capacity for next 7 years
  • Capacity expansion of hotels & Resorts will lead to 13% ROCE ….So , assuming 50 cr annual CAPEX , it will add 2 crore to FCF

Valuation = 3139 crore

Margin of safety = 30% (on conservative valuation) @ 10% Expected Returns

Summary

  1. I am getting a good margin of safety
  2. The high barriers to entry will continue to protect the ROE of the casino business
  3. I am expecting ~ 15% CAGR annually if held upto 10 years on this business, with an understanding of regulatory risks and future uncertainties that this business brings.

Note : This was prepared in April 2020

Why did I invest in Tejas Networks

Summary- Why I am investing in Tejas Networks

Tejas Networks has the current cash position ~ Rs. 200 crore

+ It has ready to ship inventory of Rs 250 cr

+ BSNL cash receivables of 300 cr

Total Liquid Assets = 750 cr

Its liabilities (including contingent liabilities & provisions) is 270 cr

So Liquid Cash Assets- All liabilities = 480 cr

Additionally, it has confirmed order book of Rs 483 crore .. (which could amount to ~ 50 crore cash flows)

So total foreseeable cash inflows = 530 crore

Key Risks-

  1. Low to non-profitable sales over next 1-2 years

Its major costs are human resources which includes-

  1. Employee Cost = 110 crore
  2. R&D = 100 crore
  3. Other SG&A = 90 cr

300 crore it has to spend + 50% of Sales (as COGS)

so , it needs approx. 600 crore annual sales to sustain as no loss

Assuming worse results in line with what transpired in 2020, ie annual sales of 400 crore, it will burn close to 100 crore each year

If this situation lasts (due to Covid 19 uncertainity), the above liquid position will reduce to 330 crore.

This could lead to a potential loss of 36% of capital in two years. If the business shuts down due to non-foreseeable future in 2 years, 36% capital would be lost

  • Technology Obsolescence

There is the threat of satellites — disruptive technology that could render optical fibres obsolete. That is still in the longer term (5-10 years) . To counter this, I wont forecast the future of business of more than 10 years. Hence CFs must not be forecasted beyond 10 years with a good margin of safety.

Major Customers (FY 19 Baseline)

  • India Government
  • BSNL – 313 cr
  • Critical Infrastructure- 165 cr
  • India Private (Vodafone Idea, Bharti Airtel) – 200 cr
  • International – 165 cr

With increasing reliance of BJP government on divestment, the future is bleak for BSNL to upgrade its technology, hence I wont assume any future orders from BSNL. Very conservative estimate, but upside is a bonus

In the government sector, it will continue to earn orders in critical infra structure ~ Rs 150 crore on sustainable basis. These include utilities (Railways, Metros, Power and Oil & Gas), smart cities and video surveillance projects

Similarly, no growth Revenue potential from India Private = 200 crore due to Strong incumbent factor

No growth international sector = 150 cr [Focus countries: Africa, S. East Asia and America]

Net sustainable revenues = 600 crore (sustainable)….. historical 5 yr. avg. revenue has been around 700 crore

Margins (12%) = 72 crore

Valuation

FCF  

202120222023- 2030 
-100-10072 

Valuation = 173 crore (from cash flow) + current cash (530 crore)

Total = 703 crore

CMP = 520 crore

Margin of safety = 26% (on conservative valuation) @ 9% Expected Returns

Positives-

  1. High Barriers to Entry …. Significant R&D and past exposure (Tejas has 349 patents)
  • Upside is huge… due to rapid growth of data

Summary

I will investing in Tejas Networks an amount of Rs. 75,000 (max. limit) by understanding the following-

  1. that I can lose up to 36% (i.e. Rs 27,000) if business doesn’t recover, in the worst case scenario .  At current prices, I would invest no more than 50,000 Rs and if the price falls further (> 15% ie below 47 Rs, I will further invest more money). My downside is protected
  • In a normal case scenario (moderate probability) the conservative valuation is providing me a 26% margin of safety….
  • In a growth scenario, upside exists due to ability to grow –
  • Revenues beyond 600 crore every year
  • Reduce 100 crore losses in the next 2 years
  • Sustain competitive advantage for more than 10 years
  • Favorable market dynamics of Make in India 5G and IOT and Broadband equipment, after similar steps taken by US , Britain on Chinese companies, for security reasons

What price to pay for ITC

Valuation Summary –

ITC has produced net CAGR Profit growth of 14% over the past decade, mainly led by Cigarette business .

However, As is evident from the below table, In last 10 years-

  • Almost all returns have arrived from the Cigarette biz. which has been the undoubtedly the best. The segment generated significant growth in PAT without any major CAPEX . Hence, was a wonderful business and cash generating machine
  • Hotels business has been a poor cyclic performer. Its returns are very poor and is a capital destroyer.
  • Agri, Paper & packaging grew as Capital invested grew (in same proportion) maintaining decent average ROCE
                      2009
Sales        Profit           Capital
                    2019
Sales          Profit             Capital
Cigarette15,000      3100            360022,915        12,000         4,000
FMCG3,000         -500            220012,515        240               6,224
Hotels1,086         234             22501,746          126               6,700
Agriculture3,845         176             10009,569          560               3,400
Paper & Packaging2,821         350             37003,695          800               5,800
Total26,800      3,350          12,750                   13,926         26,124

Valuation

  • ITC has cash and equivalents of Rs. 30/share
  • The Cigarette biz is a cash –cow (with limited –to-no-growth potential) , generating Annual EPS of Rs 9 commanding a no growth valuation = 100/share. With so much regulatory oversight and heavy tax implications, I would keep the assumption that the PAT wont grow, hence consider no growth in profits for cig. SegmentNote : No growth valuation = Sustainable Earnings per year/Rate of alternate investment. For me, alternative investments (safe) provides returns of 8.5% … any retained capital in ITC that generates less returns than 9% is a value lost to me. Hence cigarette business is worth 90 Rs/share
  • Currently, hotels is a business segment, which is a value destroyer… which means it is negating the overall valuation of the firm.. It will consume OPEX from cig. Biz to grow this segment and will continue to do so for a longer period of time. Additionally, with Covid impact, this may even get worse. Hotels biz. generates FCF of -1 Rs/share, decrementing valuation of ~ Rs 10 per share
  • FMCG business is picking up profitability, and it can still take 5 yrs or so till the segment is self-sufficient, which is to ensure that OPEX from FMCG only is used for FMCG CAPEX. Hence, i expect that by 2025, the segment to be self sufficient but before that, to continue absorb cash .To be on conservative side, it would value this at Zero.
  • Paper & Packaging and Agri biz. with current ROCE generates no growth valuation of Rs. 12/share.

Total Valuation = 30 (Cash) + 90 (Cigarette) -10 (Hotels) + 0 (FMCG) + 12 (Paper) = Rs 132/share

My valuation calculation doesn’t need excels and complicated models. It is based on super conservative estimates that ensures safety of capital .The margin of safety is the growth . Any growth that company does (which is not currently) accounted for, will be additional returns for me beyond 9% that has been assumed as a baseline. Since the future is very uncertain, I don”t place premiums on growth . Any growth in the company that beats my conservative valuation tactics if it happens, will only provide me a positive surprise. As I firmly believe, that money is in the waiting – Waiting for the right opportunity and not acting till you get it. And even after buying a stock/asset, waiting for the sufficient time for it to grow .

I firmly believe that any investment in a stock should fulfil the three criteria-

a) It must be bought at a valuation that protects the downside. The risks that one take in putting one’s hard earned cash should have sufficient margin of safety to get invested in a stock. One must be able to sleep comfortably believing that you own a good business at fair valuation, especially if you are investing a significant capital to it.

b) Valuation must be highly conservative . Even conservative valuation must aim to beat the highest tax-free alternative Provident Fund (which currently pays around 8.5%) as well as the index (Sensex).

c) The price at which stock is bought must have the room for it to provide positive surprises.

Nevertheless, I didn’t buy ITC assuming it wont ever grow as I anticipate a lot of upside potential adding to my returns if ITC is bought around the above valuation (not exceeding Rs. 150). I personally own ITC in my own portfolio with avg price around this number.The likely upsides include-

  1. Favorable Opportunities to continue to grow PAT for cigarette biz , as ITC has been doing in the past
  2. FMCG getting out of gestation and cash burning segment to major cash generating segment. As in our valuation, we have assigned 0 to this segment. As ITC management quoted below on the FMCG Segment-

“Yes, in the short-term, there are costs of having additional capacities but ultimately it will make us  more efficient and we are very confident that we are in the right direction as  far as that is concerned.”

“Besides this, there are gestating costs of newer categories. If you look at our portfolio, we have categories that I would say not even nascent, we are incubating. We are building on the brands and therefore at the right time, we will get to the market. So there are costs associated with that.

But as our older categories,  Aashirvaad is a Rs 4,000 crore plus brand, Sunfeast is Rs 3,000 crore, we have  three brands that have crossed Rs 1,000 crore mark, which is Bingo, Yippee and Classmate. So as our earlier brands have started to get scaled, I think they are now in a position at a profit and loss (P&L) level to more than support the investments that we are going to make in the newer categories. So we will see a much better trajectory but yes, it will be a while before we get to the benchmark level of profitability where we will be”

4. Possibilities to spinoff hotels segment or convert it into asset light business.

Note : the above assessment was done in March 2020. Pls feel free to reach out to me for any questions or comments .

3 Pillars of Financial Freedom

There is an old saying ” Spend the interest, Never the principal ” . For a salaried employee, it translates into “Don’t spend the salary, only spend the interest income”. For people employed in private sector jobs in a dynamic and uncertain world, there is never a job surety and security. Additionally, there is no financial instrument currently available in the marketplace that provides livelihood insurances, unlike the health and life insurance instruments which are prevalent around the globe.

This puts the onus directly on us to insure our livelihood incomes. The aim must not be to quit everything and prepare for a life without work. Just as taking a health and life insurance doesn’t mean to take life and health matters loosely, similarly financial freedom must be a goal to insure against uncertain times in life , provide necessary cushion to absorb pandemic situations , and maintain ethics and independence in one’s thoughts and actions .

In today’s materialistic world with high living expenses, this could seem to be a mammoth goal requiring huge corpus building. Additionally, it is not advisable to delay your gratification for so long that you compromise your current life while building this . It is a process which takes time. Success in such a long process may seem elusive. Hence, I will describe a simple , and practical 3 pillared-approach which I have personally utilised . This will break your goal into 3 major milestones , help you track your progress and gain increasing confidence towards your goal . You will enjoy this journey and will also be guilt-free in your daily living.

Let’s first define the three Categories of expenses, used in this model –

  • Necessary Running Expenses : This category caters for the basic minimum requirements for a regular household living. This would include your house rental, Groceries, electricity etc, other running and maintaining expenses , schooling etc . These expenses are almost constant month-by-month and are essential expenses .
  • Discretionary Expenses : They are regular expenses that we incur to complement our necessary expenses. Some people don’t shy in even quantifying these as essentials, nonetheless, we have pulled them in separate category as they are not the basic necessities. These include eat-outs in restaurants, Movies , Shows, Subscriptions etc. They fall in second-major category of expenditure for a regular working professional .
  • Luxury Expenses : The third category of expenses is aimed towards enjoying luxuries. They are high cost transactions, aimed for luxurious living including Leisure Travels , club memberships as well as Luxury Shopping etc.

Corpus is defined as any income generating asset including rental property, stocks, bonds, Fixed deposits etc. The earnings flowing out of the corpus would be additional source of income , beyond the salary.

We will apply the principles of “Don’t spend the income, spend only the interest” on these three types of expenses.

i) Pillar 1 – Building Corpus to Meet Discretionary Expenses

The first pool of corpus* is intended to fund the discretionary expenses (as defined above). The reason I prefer to tick this box first is that these expenses are notorious for being unaccounted for and leaking our paycheques . If we can first take care of them and fund them through our interest income rather than the principal , it would provide a major psychological advantage in this journey.

The aim is to build enough corpus, so that the earnings generated out of corpus, is sufficient to meet discretionary expenditures. e.g. If monthly discretionary spend is Rs. 20,000 , this would target a corpus amount of Rs. 30 Lakhs (Assuming 8% annual interest income of the corpus).

As a corollary, limit your expenses in this category to the earnings you generate out of your corpus. Don’t fall into the trap of assuming Level 1 spendings should be x% of the income. The spendings should be proportionate to your corpus , not your monthly income.

You must aim to build this corpus as soon as possible, to reassure First pillar of independence. This will ensure that all these discretionary expenses will be funded by your corpus and your salary won’t need to be spent on it . Aha ! this is a great moment and achievement. You would be free from the guilt of spending a major portion of your monthly salary on discretionary expenses. Congratulations!

ii) Pillar 2 – Building Corpus for Discretionary + Luxuries

Once you have build the Pillar 1 successfully , the next target is to increase the size of corpus so that in addition to discretionary expenses, it is also able to fund our Luxury expenses.

Eg. If average annual spend is Rs 3 lakh a year (Rs 2 lakh on family vacation + other luxury shoppings), one must aim to build 37.5 lakhs additional corpus (assuming 8% avg earnings on corpus).

Once you reach this level , you don’t need to have a guilt about spending a majority of your salary on your discretionary and luxury expenses. What a beautiful achievement! You are spending on all your luxuries and discretionary items out of your corpus earnings (which are earned passively while you are sleeping) and none from your salary, which you earn by trading off 8 hours of your day. At this stage, our salary is needed only to meet necessary Level 3 Living expenses and the rest is invested (see below infographic)

iii) Pillar 3 – Building Corpus to Meet all Expenses

Third level of financial independence is the final level which will take you to the independence club. Achieving this will ensure that you wont have to spend your salary on any expenses , and all of the salary you earn from your job will go straight to add to your corpus (See infographic below). Its beautiful result, isn’t it!.

Everyone has his own lifestyle and expenditure requirements . Build your own corpus pillars based on the above fundamentals. The more quickly you build your corpus, the more it will benefit from years of compounding and will minimise your time to achieve the objective.

You can start applying the financial freedom principles right away (from day 1), by keeping your expenditures in line with the overall corpus. eg. If your current corpus is short of first pillar requirements, this means you need to quickly save and build it up, or alternatively, you can reduce your discretionary expenditures in line with the current situation. This ensures you never go over-board on these expenses and incentivises to quickly build it up to live a guilt-free and insured lifestyle.

As you build and achieve these three pillars of financial freedom, make sure you pat yourself on the back and celebrate these three major milestones achieved by your discipline and hard work. It is not an impossible task and a lot of people have been able to reach there in 5-10 years, while celebrating intermediate successes and living an enriching life.

*Note : As your expenses increase with inflation or lifestyle changes, the buckets of corpus will need to be adjusted accordingly.

Utilising Lockdown to sharpen investment strategy

Covid-19 lockdown provided me sufficient time and mental peace to rethink the approach in life, my philosophies and the fundamentals I believe in. This naturally extended to reviewing my investing skills and principles, wherein I got to objectively relook at my successes/failures, and assess my decision- making approach . I am grateful to be able to utilise this time , and hope that it has provided me with significant leverage to sharpen my principles for becoming a better investor in future.

Below are the six principles that I adopted or re-emphasized during this period-

1. Quality Companies as a Business Owner

I will only own quality companies , and aim for an indefinite duration of holding, unless the business economics prompts me to do otherwise. Owning stocks is owning the business, not just electronic money trading instrument. I would want to be a part of the business, its challenges , growth and be with it throughput the journey .

2. Stricter value standards

My Value Standards for finding investments have even gone stricter than the past. I am demanding even higher margins of safety , as a strict selection criteria, to decrease possibility of capital loss and generate higher than Overall market returns (Nifty/Sensex). Unless there is significantly high odds of beating the market (by at least 3% CAGR), I would pass the opportunity and rather invest in the index, or other vehicles.

3. Sitting-idle and not investing and rejecting majority investment opportunities is great

This is about acceptance that good ideas will be very rare. We are all so prone to action and associate our success with only making an action. Sitting idle and waiting for a long period of time, without investing till my strict criteria are met will hold a key in my long-term success and must be cherished . Too much action will be cautioned against. Finding 8 potential investment opportunities in a year, and investing in all of them will not be entertained. Each and every opportunity must be assessed with regards to the current businesses I own, and maximum of 2-3 would be chosen to invest at a given period of time .

4. Consolidation of Portfolio –

I sold my investments in those Businesses that were lousy (low ROCE) or the ones I didn’t understand clearly. No matter how good or bad returns they had given in the recent past, I ended up selling them to consolidate my portfolio. While I held 30 companies before the lockdown , the consolidation helped me to cut to 18. My next phase of downsizing will aim for another sequence of consolidation to bring number close to 10 or even less. I will invest only in businesses that I understand, and want to be associated with it for a significantly long duration.Over-diversification will not be entertained, at any costs. If every my instincts go towards over-diversification, I must buy ETFs/Index funds and stop this exercise of picking individual companies.

5. Tracking My investments

My philosophy for tracking investments has been altered. Rather than tracking the market prices (every year), I would rather focus on tracking the earnings of each business I own every year. If I ran my own company, I would only focus on my cash profits and not at what it is being valued in the market place.

Looking at market prices , if used, will only be to either buy more with lower prices or Sell if the business economics suffer badly. The market will only be used for my benefits and would not influence my decisions in long term investing.

6. High CAPEX Businesses

Economic depressions bring out the inherent risks in high capex businesses. The high capital investment creates a major cash drag in these firms during bad times. Unless theses business involves essential products and services (which are demanded in all weather conditions), they are open to cash burns and high debts in bad times.. Investing in these firms, if possible must be avoided, and should only be done at even higher margins of safety than other low CAPEX businesses, to avoid loss of capital .

Life is a Test Cricket

I have always been a big fan of Test Cricket and despite the fading popularity it currently faces now, it has given me the best memories of my childhood and continue to provide me wisdom and guidance on my journey in life .

The most exciting part of a test cricket is when a new batsman walks in the crease , is surrounded by fielders , and facing swinging fast deliveries . But, Test cricket provides him the luxury of not being hurried up to score unless he is well adjusted to the environment, is relaxed and calm to play his shots. He can leave as much tough deliveries as he wants and wait for the right ones that fall in his strength zone , to score. Throughout his innings, the opposition will aim to arouse him by fast bouncers, as well as verbal comments . But , the beauty lies in the fact that chosing his response lies completely in his domain and he is not bound . He can treat these arousal tactics as an injury to his self-respect and become aggressive and succumb to their tactics. Alternatively, he can chose to take the high-road and continues to perform and answer the opposition with his batting without getting deflected at the job he is there to do at the middle,

Life is similar.

We encounter conditions and competitiveness in life similar to a cricket test match. In the rules of the life-game, there are bowlers who are regularly pitching at you with threats as well opportunities. A classic corollary is at workplace , where you will be regularly getting into political situations aimed to frustrate you, excite you and do certain acts . But, with life being a test cricket, you are at luxury to not succumb to such acts and pressures . Unlike in ODIs or T20s, you are not bound by time to score , one is at liberty to leave as many difficult deliveries (the ones which are not in the zone of competence) and chose the ones to hit and still score a double-century. You need to just hang in there, wait for the balls pitched in your zone, and score at your own pace. Doing so consistently will make you do fine in life.

The skills of playing in a test match are different from the shorter formats . Test Cricket teaches all the age old wisdom of patience, mental fortitude and discipline. Tendulkar’s innings at Sydney was a reminder of how mental strength, fortitude and discipline can breed success. He decided to not hit cover drives, as he had got out multiple times in the series playing that shot. To be able to do that for 800 mins in the middle is incredible mental strength.

As Rahul Dravid said “In a cricket career, your life is in some ways controlled for you. You have no control over schedules, you have no control about where you want to play, you don’t have control over that as a cricketer.” Similarly in life, we are playing roles in various games and some things are laid out for you. You dont and wont have absolute control over that . We need to accept that and learn to grow with that.

Averaging-out Investment Principle

Auto-Investing same amount of money on a monthly basis is touted as one of the best strategies to average the buying cost. However, I was always a bit skeptical in the above principle, especially during the times when the markets are inflated in valuation . Almost all of the articles published on internet justify the average cost by convincing the investors to continue investing via auto investments /SIP in the markets , especially during downfalls to lower the average cost of buy. However, noone talked about lowering your cost of buys by not investing during times of high and unsustainable valuations. The fund managers in the mutual fund industry won’t suggest any approach that would affect the monthly inflow of cash since their livelihoods/bonus depends on it . Secondly, during bull periods, the fund managers don’t face the challenge of people pulling out, they only face that during bear periods and hence all justification is directed towards those times.

I never got the answer as to why should we continue to put money in the market, even when we have a feeling that it is inflated. Auto investing in these times will only increase my average buying cost and potentially diminish returns.My skeptical nature in this approach led me to invest in the market only during the times the index was in a fair valuation range. The moment it went past that, it led me to adopt a defensive tactic by either reducing the monthly amount of equities investments, or, cutting it off completely and hold cash.


Figure 1 :Depicts the index movement (eg Sensex) over a period of time

This led me to develop a concept and investing approach, where I can take the benefits of monthly auto-investing during periods of fair valuations, while also have the ability to pull out from the same when I am not comfortable in the prevailing market valuations. There must be a different approach to investing in different times. The above three tier approach depicted in Figure 1 is a sample example of this approach

Herein, for illustration, the moderate valuation range is kept between 23000-30000 . There are multiple historical standards you can use to arrive at such range eg Indices P/E . Lets say, at any given point of time, if the market levels are significantly lower than the benchmark , you display aggression . An aggressive stance means that you actively deploy additional capital into the equities which you have gathered via other investment vehicles ( fixed deposits, cash, bonds etc) . On the other hand, if it is in a moderate/fairly valued stage (indices are in this territory for majority of the times) , you must take benefits of monthly auto-investing via ETFs/MFs . Finally, if it goes in an overvalued territory, you must take defensive stance and hold guard, start lowering down your monthly invested amount into the market and gather cash to avoid losses and be ready to take benefits when the indices return into the undervalued territory.

The beauty of the equity markets is that the above cycle has happened in all countries for more than a century and is highly likely to continue to happen in future. Noone , however, can predict when market will enter into the three territories. The only thing you can do is to prepare your plan of action into all of the three situations.

In all practicality, it takes a lot of psychological nerve to implement it . Fear of missing out and fear of losing out during different times overtakes one’s rationality (As i talked out in my previous writing)

Over a period of time , the cash starts piling up and along with it , the challenge (which is huge in 21st century) to be patient and enjoy inaction. So , to continue to be an active participant and player into the equity markets, I ventured into the Value Investing and started finding stocks in this bull market which are undervalued and could be worthy of deploying the piling cash. It was certainly going to be an uphill task to be able to do so in a rising market.

Even though, I couldn’t find many great opportunities to compound the money, I loved this period of inaction and ventured into learning about various businesses , industries and companies and putting them into my watchlist if the price falls into my targeted range. The period of inaction must be actively utilised to be ready for aggressive times.