Kedar Kailaje, Author at StockBasket Blog

Educating Investors

Investing vs. Trading: What’s the Difference?

By Kedar Kailaje July 31, 2020

The stock market is a huge world and millions of people have benefitted from it over a period of time. There are 2 types of people in the stock market, Traders and Investors. These 2 people have very different objectives when it comes to making money in the markets. Read on to know about the difference between an investor and a trader.

Investor

Investors have the objective of building wealth gradually over an extended period of time. They achieve this through the buying and holding of a portfolio of stocks, mutual funds, bonds or any other investments. The objective is to hold these investments for a long period of time and then sell them at a very high price later on. Investors are playing on the Power of compounding which enhances return over a long period of time. Do read our blog about the ‘Power of Compounding’ to know how it affects an investor’s returns. These investments are held for years or maybe even decades depending on the type of investment and the growth it has shown in the past.

Investors give preference to the fundamentals of the company analyzing the business model, P&L, Balance sheet, Cash flows and sometimes even speaking to the management to understand what and how does the company creates value for its stakeholders in the long run. Investors generally try to find the intrinsic value of a company using various fundamental analysis models like Free Cash Flow to the Firm (FCFF) or Free Cash Flow to Equity (FCFE) and analyze if a company is undervalued and if it is then they buy it in order to profit from price growth in the future. Fundamental analysis models would require another blog to completely explain their concept.

The underlying point is that investors have a long term horizon and they try to benefit from the power of compounding as and when the company performs well in the future.

Trader

Traders have a very short term view and are looking to benefit from short term mispricing in the market. Trading involves more frequent transactions involving buying and selling of stocks, currency, bonds, or any other financial instruments. The time horizon could be as short as a minute to as long as a year but the investing has a much longer time horizon. Traders could benefit from buying low and selling high in a rising market while selling high and buying low in falling market (this is also called as ‘short-selling’)

Even a trader can be classified based on the time horizon that she is trading the instruments for. They are generally classified into 4 categories.

Position trader: Positions held from months to years
Swing trader: Positions held from days to weeks
Day trader: Positions held throughout the day with no overnight positions
Scalp trader: positions held for seconds to minutes with no overnight positions

Traders choose their trading style based on various factors like risk tolerance, account size, amount of time that can be dedicated to trading, level of trading experience and much more.

Whether trading or investing is better is an age-old question and no one has been able to conclusively answer this question. Both have their strengths and weaknesses. In the end, it also depends on the personality of a particular person and his needs.

Traders are usually the ones who do it for a living earning regular profits to run their families. Investors, on the other hand, don’t earn regular profits due to the buy and hold strategy.

To get a better perspective, trading is like a T-20 match where the skillful players are supposed to hit as many runs as possible in a short 20 overs. Whereas investing is like a test match where they cant play with too much risk. They should have proper technique and play the long game.

Whether trading or investing is better is an age-old question and no one has been able to conclusively answer this question. Both have their strengths and weaknesses. In the end, it also depends on the personality of a particular person and his needs.

Traders are usually the ones who do it for a living earning regular profits to run their families. Investors, on the other hand, don’t earn regular profits due to the buy and hold strategy.

To get a better perspective, trading is like a T-20 match where the skillful players are supposed to hit as many runs as possible in a short 20 overs. Whereas investing is like a test match where they cant play with too much risk. They should have proper technique and play the long game.

Following are the differences between trading and investing:

Period: Trading is done usually for very short periods like a month or mostly a day. Traders try to benefit from short term price fluctuations. Investing, on the other hand, works on the buy and hold a principle. Investors invest their money for years or sometimes even decades or longer. Short term price fluctuations don’t matter in investing.
Capital growth: Traders usually try to earn money by timing the market, i.e. placing their trades at the right time whereas investing is about earning from compounding returns by holding quality stocks for a long period of time.
Risk: Both trading and investing involve high risk, however, due to the short term nature of trading, it involves slightly more risk because short term fluctuations can really affect a traders’ return. Markets in the long tend to be relatively stable.

Another important is that a trader does not consider the fundamentals of a stock and just focuses on price and which direction it is going to move and try to benefit from her viewpoint. Investors have to consider the fundamentals of the company and look at all the parameters of fundamental analysis.

Investing also requires having a portfolio approach which means having a well-diversified basket of stocks with good exposure to various sectors of the economy. Then the investor should choose how much weight she wants to give to each sector and each stock within that sector. We have made that job easier for you by creating such a portfolio with the just-right kind of weights to each sector and stocks that have been researched with all fundamental analysis techniques. Please check out our product StockBasket for more information.

Keep Reading

Educating Investors

Why you should start investing as early as possible

By Kedar Kailaje April 1, 2020

If you are sure that you want to start investing but are not aware of when to start or when the right time to start investing is, let this blog guide you. Studies have shown that the earlier you invest, the better it is. So the ideal time to invest would be right now. Read more to know why.

Before beginning, we would like to introduce you to the concept of Compound interest to understand the role it plays in long term investing. Compound interest is basically earning interest on interest which will make the total sum grow faster than simple interest. To give you an example:

If you had invested Rs. 100 at an interest rate of 10%, then the Compound interest would earn you:

Rs 10 (10% * 100) in the 1^st year.

Rs 11 [(10% * 100 + 10% * 10)] in the 2^nd year.

Rs 12.1[(10% * 100) + (10% * 10) + (10% * 11)] in the 3rd year.

Whereas in case of simple interest it would only earn you Rs 10 (10% * 100) for all the three years.

This concept plays on a much bigger scale when looking at 5, 10, 15 years or even more which is precisely why you should start investing as early as possible due to the longer time horizon. Your first goal in investing should be to earn more than the inflation rate and beating inflation requires you to invest in risky securities like Equity. Studies over the past several years have shown that Equities has been the best performing asset class. However, daily volatility of prices could worry a lot of beginners if not the experienced ones. However, on a long term basis, equities have tended to be on the positive side beating inflation. Having a long term horizon when investing in risky securities does help considerably and hence investing early will be beneficial in addition to the following benefits:

More time to recover from any losses compared to an investor who starts at a later stage in life. Since equities or any risky security carry the risk of a downside, an investor should be cautious regarding which securities he chooses to invest in. However, there can never be any guarantee regarding capital protection. Starting early means if there is a loss, the investor has more time to recover from those compared to an investor who starts late.
When starting early, you develop a discipline towards savings and investments which will stay with you for the rest of your life. Youngsters have the habit of spending on luxurious goods as soon as they get some money in hand. Investing early means that they have to save some money automatically reducing expenses on unnecessary items. Regular investing will make them disciplined from a very young age and discipline is the one thing that separates the best investors from the rest.
Early investing lets you pick risky companies which could grow exponentially rather than sticking to safer or low return options. Such a strategy allows many people to achieve financial independence at a young age and take early retirement.
If you start investing in your 20’s means that by the time you turn 50, you would have invested a considerable amount which coupled with the Power of Compounding, will have turned into a huge sum. This sum can be used to spend during retirement. Every new generation retiring is more active than the previous ones. Retirees generally prefer to travel or start a new hobby or any other interest. These activities require more spending. Also, retirement is getting expensive due to inflation, and the advancement of medicine means people at least 20-30 years after retirement. Being able to afford an active retirement is a huge benefit of early investing. Each year of early investing brings you closer to retiring on your terms and puts you ahead of most of your peers.

Warren Buffett too started investing at a very young age, from the age of 11 to be precise and his investing philosophy is well known all over the world. He has earned a compounded annual growth rate of 20-25% for the whole of his investing career showing that you don’t need supernormal returns to become wealthy. All you need is regular investing and staying invested for a long time. Do check out our blog about Warren Buffett and his investing principles to know more about him.

One thing which Warren Buffett insisted on is investing in quality companies with good management, brand value, historical growth, strong market share in the industry. Investors find it intimidating to identify such companies given the amount of information available today. We’ve made that job simple for you by identifying a set of companies we have researched with the help of our vast experience in this field so that you don’t have to worry about the safety of your capital. Check out our product Stockbasket for more information.

If you have invested early, your retirement might just be around the corner. If you haven’t, sooner is always better. Start planning today to enjoy the 20-30 years post-retirement. You can retire comfortably knowing that your early investments have paid off.

Keep Reading

Educating Investors

Timing V/S Quality in Stock Market

By Kedar Kailaje March 31, 2020

When investing in the stock market, one must have heard the term ‘Timing’ quite a few times and how can one pick the right Timing to invest in a particular stock. It basically refers to the decision making of buying or selling financial assets by predicting the future market movement either based on technical or fundamental analysis. This strategy could be used for the broader market or even for an individual stock. The market participants would try to beat the market by accurately predicting market movements and accordingly buying or selling. Timing the market is the opposite of a ‘Buy and Hold’ strategy in which the investor may buy stocks and hold them for the long term and sell them later at a very high price. The definition of the long term might range from 3 years, 5 years or even 20 years. Investors are playing on the power of compounding which enhances returns over a long period of time. Do read our blog about the ‘power of compounding’ and ‘Long term investment and its benefits’ to know more about how it affects investors’ returns.

Does ‘Timing the Market’ work consistently over the long term? and is it relevant for wealth creation?

The answer to the 1^st question is debatable with some professionals believing that it’s impossible, while some believing strongly in it. But there is no conclusive evidence to suggest that it might work for the long term. Many investors wait for the bottom to hit and then invest, but it’s really difficult to predict whether a stock has hit bottom and this is generally the case with ‘Market Timing’ because it involves a lot of short term future prediction which is why critics say that it’s practically impossible to time the market on a regular basis.

The answer to the 2^nd question would need us to dive into another topic which is ‘Quality’. Quality in stock market refers to companies that have strong corporate governance, an honest management which has displayed intelligent decision making in the past, good historical performance and future growth potential, having strong moats around its business like a strong brand or any other competitive advantage and much more. Typically, such quality businesses trade at a premium to its peers because investors are willing to pay more for better quality and vice versa.

The market participants are betting that the company, which has proven its track record in the past, has strong economic moats around its business, is lead by sensible and stable management, will continue to deliver good performance in the future. Such quality businesses often generate regular free cash flows for its investors. This is where the answer to the 2^nd question lies. Because these businesses have strong fundamental factors going for it, timing really becomes irrelevant when one is investing for the long term. Because a Quality business is normally the biggest in its industry with big fat cash lying on its books, one gets to see big getting bigger, often defying a slowdown in an economy. Quality is the reason why stocks like HUL, HDFC Bank, Nestle, Bajaj Finance trade at premium valuations and still generate solid returns for its shareholders. The 10 year and 3-year stock price CAGR of Bajaj Finance is 66% indicating that investors who put their money 10 years back and investors who put their money 3 years back have earned roughly the same average annual return. Even HDFC Bank’s 10 year and 3 year Stock price CAGR is above 22% indicating the same thing.

Although there is no certainty in the markets, but one can say with confidence that these businesses have and will stand the test of time given its strong fundamentals. If this is the case then investing in such businesses should really be a matter of ‘Time’ rather than ‘Timing’. In other words one should look to invest in quality companies and stay invested for a long period of ‘Time’, rather than ‘Timing’ the investment.

Does looking for ‘Quality’ and not worrying about ‘Timing’ work in practical life?

Yes, it does, not just in the situation that we are now, but all the time. Over the last few decades, there have been plenty of times when the markets have fallen 20-50% and have soon–within a couple of years have gained back. However, in these episodes, quality really shines through. Here’s a great example: back in 2008, HDFC Bank fell to half its value. If you had bought it before that crash, when it was at the peak, your money would today be 5X after absorbing that huge loss. From the bottom, it’s about 10x. Conversely, there were many stocks- almost all infra ones- that fell 70-90% in that crash and never came up again. There is never any shortage of quality stocks in our market and investors should know how to identify such quality companies.

Other than this, there are lots of examples of people around the world making excellent returns by investing in quality companies. People like Warren Buffett, Peter Lynch, Benjamin Graham, Jack Bogle are just some of the examples around the world. Even in India, investors like Rakesh Jhunjhunwala, Raamdeo Agrawal, Vijay Kedia, Porinju Veliyath are among the many who have made tremendous wealth by identifying Quality stocks and staying invested in them for the long term. Do read our blog on ‘Warren Buffet‘ and ‘Vijay Kedia’ to know about their life story and investing ideologies. The one common feature to all the people above is that they hunt for ‘Quality’ first, no matter the business cycle or economic conditions around the world.

Do you always worry that your portfolio might not include the quality stocks which can provide supernormal returns over the long term? Worry not because we have got you covered with our ‘Stock Basket’ product which includes all the quality stocks identified diligently by our ‘best in industry’ research team. Please checkout ‘StockBasket’ for more information.

Keep Reading