Once I have identified a good business based on fundamental analysis, many times I find valuation is higher than what I’m conformable with. And as I wait for valuation to become more fair, it climbs much higher.
In such scenario’s does it make sense to start a Equity SIP?
This is exactly what I am doing, for me it really makes sense and works. If I have conviction that the stock price is not manipulated and company have posting at least 4 quarters of continuous good performance, I go with it. My bets on stocks like Minda Industries, IG Petrochemicals and BEPL are exactly works as expected.
For me the exact opposite process works. Once I find a stock is worth investing, I wait for the price to be reasonable. That means many a time it becomes a missed opportunity. But on the bright side, companies which seemed great on first look does not look so great on the hindsight. For me, margin of safety and preservation of capital is far more important than missing the rally.
It all depends on the mental model under which we operate. No approach is right or wrong. It’s more about which approach we are more comfortable with, mentally and intellectually.
But first I take a tiny position after discovery, otherwise I lose interest tracking it.
Just to clarify my question further, the scenario where I am convinced there is deep value or is highly overpriced, next action is quite clear; buy in the former and avoid in the latter. The confusion is in the case where stock is somewhere in between and I could be wrong in my valuation model.
My strategy would be - Take a small position initially and keep adding on bad days, while keeping an open eye on business fundamentals.
As a newbie, this is something I am also struggling with. For the time being though, I am bookmarking this thread!
Incidentally I am in middle of article for new post, ‘I wish I never heard a term SIP’. But let me put the context first:
- What I meant SIP is investing a fixed money to fixed share at fixed date.
- SIP excludes debt instruments.
Stock market is nonlinear. Any place which is nonlinear will have zig zag movement not straight forward. We all agree, right?
- Imagine stock consolidates and moves down ward for years you will end up averaging losers. Yes, you can argue eventually good stock will come back. I have two counter arguments: good number of cases stock doesn’t come back, still a question of probability. Second are you ready to absorb the volatility through martingale method (buy more when goes down, you should have deep pocket). I have an opportunistic argument here as well, by adding to profit line (which I do) I can get away even with small capital at disposal.
- Next, if a SIP triggers on 7th and you know market is in down trend with bad news (may not be permanently) what is stopping us to step aside till the air clears.
Yes, investing regularly to a stock or adding positions is widely accepted practice (average in or out) but SIP won’t be a right term for it. If you are adding at fixed intervals make sure:
- Averaging losers will require concentrated portfolio or deep pocket. Or else at the time head winds risk appetite will fall apart which may wipe you out. Let’s not stay under impression it will come back. No one knows when.
- Averaging gainers will require risk determination in advance very clearly and manage it clearly. As you will be increasing your average cost make sure you don’t fight against losses when reversed.
I personally pyramid to profit line as risk becomes free from previous transaction.
The valuation of stock some times may go beyond your expectations and it does not give comfort but it makes sense if the underlined earnings are also growing and you would like to hold the stock for next few years depending on your analysis. This sometimes called as Averaging Up. and totally depends on your conviction about that stock/company.
But again doing a monthly SIP like MF is not recommended as you will not have any control over the price at which you are going to buy on specific dates. Market sometimes can give you fair opportunity to buy the same stock at less price in the months to come if you decide to buy in staggering manner.
I agree that we can buy stock at fair price or near intrinsic value. But, if we wait to buy stock at fair price, we may get only few chances (not more than 3 times) to buy the stock in the whole life span of us (30+ years) as stock will be at fair price only during bear markets which will tend to happen once in a decade and we have to wait persistently for each bear market to get the stock at fair price. Sometimes, it might happen the stock will not drop to intrinsic value in future and will only rise above intrinsic value. To avoid above mentioned issues, will it not be safe to buy some quantity of stock each month and average it out.