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MICRO VIEW

People often ask me for advice on which stocks to buy. If I say I don't know what to suggest, they think I'm being selfish, keeping all my wealth-enhancing ideas to myself. My worry is that if I recommend some share that subsequently tanks, I have to grow a beard and stay out of sight for the rest of the bear market. More often than not, I merely tell them what I have bought - with a warning that these stocks may deliver returns only over five or 10 years. This way, only the intrepid ask me for further advice.

After 30 years of working for business publications, I cannot tell you which way the markets will move. On the other hand, I missed hitting the jackpot by failing to listen to my own advice. If I had held on to stocks for five or 10 years, I would have been one of those guys financing DNA rather than being employed by it. The plain truth is that the stockmarket works just like a Ponzi scheme, where you wait for fresh investors to enter to enable you to make a profit. But unlike a Ponzi scheme, which is actually a scam, the stockmarket, according to Robert Shiller (author of Irrational Exuberance), is a kind of "naturally occurring Ponzi process." The amount of money naturally flowing in seems to keep on increasing over a long period of time, driven by the belief that stocks will indeed deliver better returns over the long term. The crucial word here is "belief." Once you hear stories about people making money in stocks, you start believing that you can make it, too - just like a Ponzi scheme investor. And when enough people are convinced about it, you will indeed make money, provided you have not invested in some dud stock.

Put another way, the stockmarkets rise only because there is a lot of money chasing shares. You make money not because of your stockpicking skills (though that's important), or your ability to obtain inside information (which is sometimes useful), but because there are a whole lot of others who think the same as you.

In the last two-and-a-half years, the Indian markets have risen because the FIIs have pumped in a lot of money, and they continue to rise now because our own mutual funds are investing in a big way. No boom in any market anywhere in the world has happened without bursts of excess liquidity. Even individual stocks rise only when there is a relative increase in the amount of money chasing them. The Infosys share has risen to great heights not because it is a great company (which it is), but because loads of smart money managers think so - and have advised clients to invest in it. If this had not happened, prices would not have risen enough for anyone to make a profit on it. But if too many people think they should indeed book a profit, you've had it.

So, if the stockmarket is an ever-growing Ponzi scheme, why do we make losses so often? Its simple: just as a Ponzi scheme collapses when people start suspecting something is wrong, the same thing happens with stocks - till we start believing in stocks again. Which is why stock gurus advice you to stay invested for the long term. In effect they are saying, "We can't say today whether more investors will be entering the market or leaving it over the next few months. But if you wait long enough, there will be enough new investors lining up to start the Ponzi process all over again."

Which brings me to the nub: Will stocks go up or down in India? I believe, like everyone else, that the developed world - with its ageing population - is saving more than it can invest wisely in its own markets. The best bets for a healthy return on investment are in India and China, both countries with high growth rates and profitable, competitive industries and services. The foreign investment we have seen so far is only the sampler. The real blizzard of investment is still to come. The global Ponzi scheme is moving in our favour. Get ready for the ride.

Email: r_jagannathan@dnaindia.net