In 2004, the Indian government reduced the long-term capital gains (LTCG) tax rate to 0% and the short-term capital gains (STCG) tax rate to 10%1 on listed equities. By offering favourable tax treatment on capital gains on listed equities, the government sought to attract both domestic and foreign investors. The government introduced the securities transaction tax (STT) in lieu of the capital gains tax reduction.
Base Rate Neglect & Absurd Valuations
Base rate neglect or base rate fallacy is a cognitive error wherein we ignore the base rate or statistical data in favour of the anecdotal or individual information. We end up making judgements based on our assessment of the anecdotal information which has very little predictive value and we largely ignore the base rate which is far more useful. This leads to flawed reasoning and incorrect conclusions.
The Ones That Got Away
A few years back, we wrote about Our Worst Investments in our Q2 FY21 quarterly letter. The letter talked about all the investments where we lost more than 15% of our invested capital. Each of those investments hurt our returns and dragged down the overall portfolio performance. In these cases, it was our buying decision that turned out to be wrong.
In this letter, we talk about another kind of decision that has had an even larger impact on the portfolio returns – the selling decision. Since our fund’s inception, 6 out of our 25 exited investments have delivered returns of 5-15x post our exit. If we hadn’t exited these investments, our portfolio returns would have been substantially higher. We discuss below these 6 investments – the investment/selling rationale, what we missed, and learnings, if any.
Continue reading The Ones That Got AwayThe Folly Of Selling On Bad News
How should value investors react to an adverse event/news in a portfolio company? While it clearly depends on the exact nature of the event/news, in most cases, a long-term investor should avoid reacting impulsively.
Let us discuss the main reasons why selling based on an adverse event is often not a prudent idea:
Optimism And The Stockdale Paradox
The equity markets in India have begun FY24 on a promising note. Following a flattish FY23, the Nifty 50 index has surged by 14.0% in H1 FY24. Returns in the mid-cap and small-cap space have been notably higher. Stock returns in H1 FY24 have exhibited a negative correlation with market capitalization – the smaller the market cap, the higher the stock price appreciation. IPOs have once again gained popularity, experiencing massive oversubscription and substantial listing gains. SME IPOs are in a completely different orbit.
Size Does Matter
“In investing, there are three ways to achieve a desirable “unfair” competitive advantage: the physically difficult, the intellectually difficult, and the emotionally difficult. The physically difficult way to beat the market is the most popular, or at least the most widely used. Believers in this game plan get up earlier in the morning, stay up later at night, and work on weekends. They read more reports, make and take more phone calls, go to more meetings, and send and receive more emails, voice messages, and text messages. They strive to do more and work faster in the hope that they can get ahead of the competition.
Avoiding Landmines: Focus On Free Cash Flows
“Show me the money!” – Jerry Maguire
With rising interest rates and tightening liquidity, the environment is becoming tougher for many dodgy businesses. These are companies that use all sorts of accounting shenanigans to report accounting profits even though the business truly does not make any money. Such frauds thrive in bull markets when investors focus primarily on accounting profits, and value businesses using earnings-based metrics like P/E or EV/EBITDA. The more the company is able to inflate its profits, the higher it gets valued. It is difficult for investors to ignore companies that are consistently reporting high ROEs and strong earnings growth.
Continue reading Avoiding Landmines: Focus On Free Cash FlowsIndian Exchanges – Rise Of Options Turnover
The trading volumes in India’s capital markets have seen significant growth in recent years. NSE’s Cash Equity volumes have tripled and Futures volumes have more than doubled over the last seven years.
Continue reading Indian Exchanges – Rise Of Options Turnover
Are Management Meetings Useful?
The Platform Delusion
The disproportionate value creation by the FAANG stocks over the last decade has made ‘Platform’ a buzzword among investors and start-ups. Every business wants to call itself a Platform to attract investors, and dissuade competitors. The most unlikely businesses have called themselves platforms – WeWork (Co-working), Beyond Meat (Synthetic Meat), Casper (Mattress e-commerce) and Peloton (Exercise bikes). In India too, Platform is a highly coveted tag. Almost all tech companies that got listed in the last 3 years call themselves Platforms. The below table outlines the number of times the word ‘Platform’ was used in the Red Herring Prospectus (RHP) of some of the recent tech IPOs:
