Not Everyone Who Buys Shares Is An Investor

Remember the times in college when you went after the most popular girl (or boy)? Remember how insecure it made you feel being in that situation because you did not know what you could do to make it better? Now go ahead a few years and remember when you decided to make a serious commitment. It was not for the want of anything else, but the need to find someone absolutely compatible with you that drove your decision.

Life is like stocks.

Remember when you were the most popular girl or boy yourself in your class/family/college or anywhere else? Remember how much in control that made you feel? If you DID exercise your control with a lot of humility, you earned greater respect from your peers/family. But if you lost your humility, then eventually your supporters left you. Then all you had were the good memories and accumulated losses in relationships.

Again… Life IS like stocks.

It is very surprising that every time we embark on a new journey we forget the learning life taught us about ourselves, esp. if that learning taught us to err on the side of caution. Some may put it down to the intrinsic optimistic nature of the human beings, but I put it down to sheer naiveté. In matters of stock markets, this is especially true. Anyone who sees that a particular stock or the market as a whole is on an upward trend starts to believe that there is easy money to be had and so decides to jump in the current. But our own normal work life has taught us that we don’t earn our salary unless we put in a certain amount of hard work and we don’t get promoted unless we show to our organization that we are capable of executing higher responsibilities. Why should the stock market work in any other way? Why should we believe that any stock transaction will give profit to us simply because we are a part of it? We want to believe because we speculate more than we invest.

An investor is someone who understands that there is a difference between price and value. The ability to find the difference and to be able to gauge the magnitude of the same is what differentiates a goo investor with an average one. However, anyone who ignores or is ignorant of the concept of value altogether is nothing but a sheer speculator.

Price Vs. Value: Below is how I can summarize the difference between price and value.

  • Price relates to a stock: It is the offer that the world gives us for a stock. To give you an analogy, it is the information your colleague gives you about a job prospect in other company with the words, “Apply there dude!! You will get at least 20% hike!!”  The offer price has got some relation to the intrinsic value of the stock, but just like job market, different folks are willing to offer different prices.
  • Value relates to the company itself: It is what the company is intrinsically worth. In the above analogy, it is what you believe you ought to get as an offer for a job, irrespective of what you are getting now. If you are someone with sound fundamentals then you are worth more as compared to someone who is not. That holds true with companies as well because any company that has sound fundamentals out to be worth more as compared to someone that is not.

Only once we understand the above basic difference, will we begin to appreciate the difference between price and value will be begin to appreciate between an investor and a speculator.

There are different definitions about what constitutes an investor and some of them are from the most prominent and successful investors ever. Any attempt to better redefine the word myself will be an exercise in futility. In fact, the readers will be well advised to do a web search on the qualities of an investor and there will be innumerable quotes on the same.

To me, in its most basic form, an investor is someone who understands the difference between value and price and is willing to base his judgment on the value of the stock and not on the price.

Judgment is personal: Unlike the Indian Penal code, there is no black or white definition of how to judge value. Different investors judge value through different yardsticks. What is important is that one should pick up a yardstick that aligns most to one’s own psyche and personality. Investing is a highly personal activity and so any judgment on the same has to be equally personal. Some folks base their judgment on the fundamentals of the company, some others base theirs on the technicals of the company, where as some others look at earning multiples for companies/industries/markets. In each case one chooses a yardstick one is most comfortable with. The important point is to know what goes into making that yardstick and so what message that yardstick that gives you. I will elaborate on the yardstick I use, why I use it and what goes into its making in my subsequent articles. At this point, it is important to understand that there has to be a yardstick and that one has to know what goes into it.

Myths about investors: With the all pervasive usage of the terms investor by the investment professionals, it is easy to develop some myths regarding the term which cloud our judgment whenever this term is used in its classical sense as described above.  Below, I try to explain why some myths arose and why they should be ignored:

  • Investor invests for long term: An investor invests because he/she believes that the worth of the company is more than what the market is offering right now. That gap can be narrowed quickly or over a longer period of time and that depends on a lot of extraneous factors and the investor, in nearly all cases, has no power on how soon that eventual outcome can be arrived at.
  • Some people have the flair for investing, and so it comes naturally to them: As mentioned above, investing is a highly personal activity. By extension of this definition, if there are N number of personalities in the world, there have to be N number of investing approaches. Hence even though what comes naturally to one person may not come naturally to another, it can be said that there has to be an approach for each type of person that exists. So instead of saying, “I don’t know how he does it…” one should say, “Hmm… let’s find what works for me…”
  • Investing is not possible unless we have huge mathematical skills: I agree that math is important but to me this myth is still stupid on multiple levels. One, investing relies on our conviction on the idea of value and that conviction is based on the way we view life.  Math is an important input but it is not complex at all. Two, no matter how mathematically incapable you are, there are computes that will do the math for you. All you need is to keep your eyes open and spirit alive. Three, one fears what one does not know. So as an extension of this argument, if we are willing to invest some time to learn then we will not fear the math at all. Four, if you fear math then why do you want to get into a business that involves purely around nos? Would you not rather have your cash with you than have it invested in something you don’t know about?
  • Investors are contrarians: It is all Buffet’s fault. When we dig into the history of successful investors, we find that they have made some investments at some ridiculously low prices and they did so when no one else was buying those stocks. We forget that these investors did so because they knew the difference between price and worth. We simply believe that they were salmons who simply went against the flow. If only life were that simple…. Remember, many salmons start their journey against the flow, but only a few make it eventually.
  • Investors don’t lose: This is silly. Everyone loses sometime…. When everyone is losing, investors lose less than others and when everyone is winning, they make more than others.  Remember, Shane Warne too got tonked for a few sixes in his day.

In my subsequent articles I will mention what I believe is the right approach to investing, how I believe one can judge value and how one can arrive at a conviction of the difference between price and value.

Until then we need to remember that the activity of buying and selling shares does not make you or me an investor. In the share market: The Bulls Make Money and the Bears Make Money but the Pigs Get Slaughtered.