Don't chase stocks based on perceptions

On 24th March 2015, we had written about a wise man (“Pick stocks based on fundamentals, not on perception”). It is worth repeating the story to avoid wealth destruction in the stock markets. A humble-looking wise man wearing a simple dress goes to a restaurant – but he doesn't get proper service due to his looks. Still, the wise man gives a huge tip to the waiter. After a long gap, this simple looking man goes to the same restaurant but gets very impressive service from the same waiter this time. However, the wise man doesn't give him any tip – while reminded politely he says, "I tipped that day for today's service".

A software product company got listed at less than Rs 100 at the close of 2014 but soared three times within a year’s time (by November 2015), despite the company posting losses continuously for the three quarters ended March, June and September 2015. Many investors built huge expectations on this stock as this product company was expected to turn around soon. Now this company has actually turned around and posted decent profits in the latest quarter, but the stock is down over 64% from its peak price in 2015.

A small healthcare company coming from successful management had posted losses still its stock price hit its life-time high in December 2015 and its market cap soared about seven times its annual sales on hopes of a major turnaround. In the latest quarter, this company too turned around its bottomline, but the stock price is down 53% from its 2015 peak price.

Similarly, when the government initiated its efforts to pass the GST Bill through Parliament in 2014, the logistic companies which are expected to be the maximum gainers of GST implementation saw a huge rally in their stock prices. Most of them soared 100% to 400% in 2015 from their bottoms in 2014. Now the GST is successfully implemented, but some of these logistic stocks are down by 50% to 68% from their peaks, which played on the eve of initiation of GST Bill.

It is quite doubtful now whether these stocks would ever recover their recent peak prices even in the next three to five years. Equity markets and thematic booms are many times well ahead of fundamentals. Smartness of the wise man in this story is the need for the equity markets to make consistent wealth. Pick the stocks when the prices are suppressed, on account of the fear factor, more than what fundamentals would deserve, rather than chasing the stocks on perceptions alone after the themes have played out successfully.

The writer is founder and managing director, Equinomics Research & Advisory Pvt Ltd