It appears that there are three different ways of remaining superior risk-adjusted returns on the stock market. The first one is physically difficult, the second one is intellectually difficult and the third is psychologically.
Physically difficult Approach:
Many investors seem to follow this approach, wittingly or unwittingly. They look at newspaper and financial periodicals to learn about new issues, they visit the offices of brokers to get advice and application forms, and they regularly apply in the primary market. They follow the budget announcements intently, they read CMIE reports to learn about the developments in the economy and various industrial sectors, they read investment columns written by the so-called experts they follow developments in companies they solicit information from company executives, they read the columns in technical analysis and they attend seminars and conferences. In a nutshell they apply themselves assiduously, diligently even doggedly. They operate on the premise that if they can be a step ahead of others they will outperform the market.
The physically difficult approach seems to have worked reasonably well for most of the investors in India since the late 1970 to the early 1990s for three principal reasons:
1. Typically issues in the primary market have been priced very attractively
2. The secondary market thanks to limited competition till almost 1991 was characterized by numerous inefficiencies that provided rewarding opportunities to the diligent investor.
3. An advancing price-earning multiple in general bailed even inept investors.
Things, however, have changed from mid-1995. The opportunities for subscribing to issues in the primary market have substantially dried up as companies quite understandably are placing securities with institutional investors a process that are fairly close to the prevailing market prices. Likewise the scope for earning superior returns in the secondary market has diminished as the degree of competition and efficiency is increasing, thanks to the emergence of hundreds of new institutional players (mutual Funds, foreign institutional investors, merchant banking organizations corporate bodies) and millions of new individual investors. Finally the prospects of a fluctuating price earning multiple seem to be greater than the prospects of a rise in the price earnings multiple.
Intellectually difficult Approach:
The intellectually difficult approach to successful investing calls for developing a profound understanding of the nature of investments and hammering out a strategy based on superior insights. This approach has been followed mainly by the highly talented investors who have an exceptional ability a rare perceptiveness an unusual skill or a touch of clairvoyance. Such a gift has been displayed by investors like Benjamin Graham, John Maynard Keynes, John Templeton, George Soros, Warren Buffett, Phil Fisher, Peter Lynch and others.
Benjamin Graham widely acclaimed as the father of modern security analysis, was an exceptionally gifted quantitative navigator who relied on hard financial facts and religiously applied the margin of safety principle. John Maynard Keynes, arguably the most influential economist of the 20th century, achieved considerable investment success on the basis of his sharp insights into market psychology. John Templeton had an unusual feel for bargain stocks and achieved remarkable success with the help of bargain stock investing. Warren Buffett, the most successful stock market investor of our times, is the quintessential long tem value investor. George Soros, a phenomenally successful speculator, developed and applied a special insight which he labels as the reflexivity principle. Phil Fisher, a prominent growth stock advocate displayed a rare ability with regard to investing in growth stocks, Peter Lynch, perhaps the most widely read investment guru in recent years has performed exceptionally well, thanks to a rare degree of openness and flexibility in his approach.
The intellectually difficult approach calls for a special talent that is diligently honed and nurtured over time. Obviously it can be practiced only by a select few and you should have the objectivity to discern whether you join this elite club. Remember that many investors unrealistically believe that they have a rare gift because the stock market provides an exceptionally fertile environment for self deception. Participants in the stock market can easily live in a world of make believe by accepting confirming evidence and rejecting contradictory evidence.