“Invert, always invert: Turn a situation or problem upside down. Look at it backwards. What happens if all our plans go wrong? Where don’t we want to go, and how might we end up getting there? Instead of looking for success, make a list of how to fail instead — through sloth, envy, resentment, self-pity, entitlement, all the mental habits of self-defeat. Avoid these qualities and you will succeed. Tell me where I’m going to die, that is, so I don’t go there.” -Charlie Munger
I have worked on the sell side for more than a decade. The fascination that investors have with equity markets morphs into a yearning to capture multi-baggers. When I was a research analyst, I was often asked for stock recommendations where stocks were priced below Rs. 50 or in low single digits. Investors believed that if they could buy a stock cheap (by price, not for what it’s worth) and ride it until the prices rise multi-fold, they would have fulfilled their hunger for returns. The allure of ‘riding a stock’ was enchanting.
This desire to buy stocks reached its peak when stock markets were roaring. I remember investors scampering to buy any ‘low-priced’ small-cap stock in the fabulous small-cap dream run year of 2017. In fact, in the biggest bull market in India yet, from 2003 to 2007, I have seen dealers pitching penny stocks by selecting them alphabetically because whatever they touched went up!
This is a deadly concoction. The allure of fast, high, and easy returns from buying ‘cheap’ stocks. And buying them when most of them have already run up so much they believe that they will continue to.
Charlie Munger, the immortal legend of investing, supplied a great nugget. “Tell me where I’m going to die, that is, so I don’t go there.”
What are the critical mistakes in small-cap investing where returns meet their demise?
In the last 18 years, the Nifty 50 Index has earned 14.6% CAGR, the Nifty Smallcap 250 Index has earned 16.4% CAGR, and the Nifty Smallcap 250 Quality 50 Index has earned 20.1% CAGR. This means Rs 1 lakh invested in the Nifty 50 Index became Rs 12.7 lakh, in the Nifty Smallcap 250 Index it became Rs 16.7 lakh, and in the Nifty Smallcap 250 Quality 50 Index it became Rs 30.7 lakh.
On the opposing end is the SEBI data which highlights that 90% of traders and investors lose money in stocks. Many of them are ‘trying’ their hand at small-cap investing. How do we know this? The largest shareholding by the public (more than 90% of the float of outstanding shares) is all small-cap companies.
Long-term SIPs in Quality Index have given similar returns irrespective of the market being at peaks or lows and considerably better returns compared to the broader index.4 When markets are expensive, even more focus on quality is needed. When small caps are at all-time highs, the right thing to do is to start a SIP. It’s significantly better than not doing anything.
While investing in small caps
Is there a product that can get this done for you? Click below, and we’ll tell you all about it.
1 Data Source: Bloomberg, 15th Jan 2018 to 23rd March 2020
2 ,4 Data Source: NSE, DSP April 2005 to Nov 2023
3 Data Source: DSP Data from this presentation
5 Data Source: https://www.dsij.in/article-details/articleid/4888/top-ten-companies-with-highest-public-holding