Investing in stocks: My fundamental question got addressed!!!

Entry from LiveJournal blog - 25 Aug 2008

Click here for my question in an earlier post.

After chat with my friends Pramod and Reddy(mrpr, M Ravi Prakash Reddy), I got some clarifications.

- Reddy: In short term it is gambling!!! Its your choice to gamble or not, to make money or lose money.

- P/E of 10 means of 10 years of operation of business gives back returns in terms of EPS. If some other company wants to buy it, it would be expected to pay so much per share to acquire the company.

- Reddy: Our aim of seminars is clear [Note: We three did one seminar on fundamentals of investing in stocks on 31st May 2008, in Konark hotel, Bangalore]: We want to educate people taking them from "unknown to known". We can't change the mindset of people (say day trading) through our seminars. For changing mindset, workshops like Landmark Forum, courses from Bharat Chandra are required.

- If people are doing trading frequently just for capital gains without knowing how stock investing works, its their mistake. Its their responsibility to be aware of what they are doing, know the risks involved etc.

- Short term investors (day traders/speculators) do not really bother about company performance. They simply want to ride on the news (spilt, getting big contract,dividend announcements) that can give them short term profits.

- Long term investors: Think like business men. Share value of 100 with P/E of 10 means EPS of Rs.10 for ten years gives back my money. After that whatever I earn is profit. I would not bother like "EPS is not what I get as share holder, only part of it is what I get, may be its just 1-5% of share price" "Share value is simply jacked up by making P/E as significant among crowd of investor community etc - People are made to believe something is right value to buy, hold or sell"
Infosys bought Axon (UK) in all in cash deal for $750million = 2 times revenues in 2007 (operating margin = 15%) ==> This means expecting a 7.5% returns on the investment. By their value addition they would increase operating margin to required levels. Infosys operating margin is 30%.

Idea Cellular bought Spice at Rs.77 per Spice share.

Did you sell this stock after it tripled?

Sintex is a household name in India today. From selling water tanks to becoming the biggest plastics manufacturer in India, the company has taken off in a big way. Its sales have multiplied almost 14 times over the past ten years. Profits have done even better in multiplying around 28 times. And someone who had invested in the stock in December 1999 has already multiplied his money 36 times!

Now whether Sintex is a worthy investment now is not a matter of discussion here. What we are trying to point is that the right kind of small companies can help you generate tremendous wealth.

But only if you have patience! And stick with good quality stocks across market cycles.

You can learn this from an investor in Sintex in December 1999, who sold the stock after it tripled in December 2003. Since then, the stock has multiplied another 12 times!

So you may ask - should I never sell a stock, always expecting it to multiply several times?

Well, if the company continues to do well, the idea of selling it should not even enter you mind. As the legendary Warren Buffett says - "If the homework is done right while purchasing a stock, the time to sell it is never."

But then, one must also never be greedy. With a stock whose valuations move way above its true business value, it is always good to book profits.

Source: http://www.equitymaster.com/5MinWrapup/detail.asp?date=12/17/2009&story=2

Investing in stocks: Fundamental question

Entry from LiveJournal blog - 25 Aug 2008

In stock market, when someone makes profit only when some else loses.

X buys a share at Rs. 100
Y buys it at 105 - Say he gets share what X sells. X makes profit of Rs.5
Z buys it at 110 - Say he gets share what Y sells. Y makes profit of Rs.5

Now Z tries to sell but since there are now buyers for price >= Rs.110, he decides to sell at lower price to lower the loss.
So he decides to sell at say Rs.105. Lets say, Y thinks stock price went to Rs.110 and it can go up again to that extent. So he buys it at 105 and waits for it increase.

When it doesn't increase, he decides to sell at say Rs.100. Now X sees it opportunity and buys it.

In the above process,
X made profit of Rs.10
Y made no profit no loss
Z made a loss of Rs.10

Broker got his commission by recommding stock...

==> Rumours, News, Broker recommendations all drive up or down the value of stocks. Right?
==> Valuation is process of creating perception that a certain stock is attractive at certain value. Right?
==> P/E of 10 is good for one company, P/E of 25 is good assumption. Who knows what is right one? P/E of 10 means getting back investment in 10 years. But as investor, do I get EPS as dividend? No. Dividend could be 0 also. In that case, valuation of stock goes up. Am I running behind something which I will never get?

Isn't this cheating? Isn't it gambling? Isn't exploiting people who are ignorant, who do not have access to information that to at right time?