New Delhi: While some individuals perceive processes as an initial input, I regard them as a product stemming from a profound comprehension of your investment framework. This result is molded by recognizing your sphere of expertise, your investment timeframe, and consequently, your risk-reward profile.
Establishing and sticking to a process acts as a safeguard against two major pitfalls in the realm of investing.
To begin with, it helps you remain mindful of the temptation to step beyond your area of expertise, shielding you from falling for the allure of “novelty”.
Secondly, it provides protection against succumbing to the fear of missing out (FOMO), particularly in the kinds of markets seen recently. For instance, the small-cap index has skyrocketed by almost 40% from its March lows, and individual thematic stocks have seen significant appreciation in value. It's tempting to make impulsive purchases driven by FOMO, but having a well-established process in place ensures that you avoid making rash decisions in your eagerness to join in.
Take, for example, a company that touts ambitious growth projections, even though it's already operating at nearly 100% capacity utilization. There are no visible additions to the gross block on the balance sheet, and there are no immediate plans for capital expenditures (capex). In such a scenario, where would this anticipated growth originate?
In these situations, a straightforward checklist of questions can be invaluable in uncovering significant discrepancies between the presented narrative and the factual situation. Another situation worth investigating involves smaller companies making promises of rapid 4-5x growth prospects, especially in highly discussed sectors like defense and railways. Nevertheless, there seems to be minimal exploration into how these companies plan to secure the required working capital to sustain this purported growth.
Implementing a structured approach is vital to avoid hasty investments without conducting thorough due diligence on the asset. It's not necessarily about proceeding slowly, but rather about equipping oneself with a toolkit to guard against becoming overly enthusiastic during market upswings.
Long-term investors often develop emotional attachments to their investments over time. Nevertheless, adopting the pre-mortem approach empowers us to sustain a degree of objectivity when it comes to our investment decisions. This approach enables us to formulate a well structured action plan in case unfavorable developments occur within the companies we have invested in.
Having this well-prepared playbook helps us steer clear of emotionally driven decisions, whether they stem from fear or excessive attachment, and instead, it directs us toward making rational choices. In our investment framework, we usually evaluate companies within a 3-4-year timeframe, and it's common for us to form strong attachments to our investments during this period. Acknowledging this, we've integrated pre-mortem analysis into our toolkit as a valuable component.
Market fluctuations can be swift, emphasizing the importance of having a well-prepared toolkit that enables you to capitalize on them rather than feeling overwhelmed.