there are rules for debt

Debt is an obligation; and obviously, it has costs. First and the biggest one is the default risk. Taken to extreme, it can lead to bankruptcy. This is real; and many a business has succumbed to its savage. It is true for the individuals too. History has told us about people who had to pay hefty price for taking on debt. Yeah, debt is merciless. Then there is loss of financial flexibility. Cash gets squeezed for the borrowers when they need it the most; ouch. There is always a conflict of interest between the owners of business (equity holders) and lenders of business. Again, this comes into play prominently when the business faces downturn. The marginal cost of debt zooms up before the borrower realizes it. 

All this trauma comes with just one advantage; that is, interest payments are tax deductible. If someone is looking to take debt for an asset otherwise not needed, this advantage quickly dissipates. I have seen too many businesses and people doing this as a matter of fact; and I am not even making it up. Just look at history.

I am not sure if this article is pointing to anything dramatic. Individuals have always got lured to the illusions of the kingdom of debt. But then there are certain rules for debt. Borrowers don't follow them at their own peril. 

First is that you should not borrow if you do not need to borrow. Cash is king; and you can be the emperor caressing it, figuratively. 

Second is that you should not borrow to buy a depreciating asset. I can understand the enthusiasm for car loans; but believe me, they will only make the lender richer. A little bit of common sense should tell us, it is much better to work towards making ourselves richer.

As a corollary, you can borrow to buy or produce an appreciating asset, such as business projects and home. While we know intuitively that the value of business and home equity will grow over the years, it is not always true. Put it differently, if the growth in business or home values (earnings rate) is lower than the interest rate on debt, it isn't a viable project. Don't borrow at 15% if you can earn only 10% on that cash. 

In short, if you don't have the capacity to service debt, don't borrow. Lenders can take control and throw you out. There have to be sufficient cash flows to make interest payments and principal repayments in order to qualify for loans. It is the job of both borrower and lender to assess this capacity. Otherwise, borrowers will be lurking, and lenders will be looking at bad assets.

Lack of financial flexibility due to unnecessary debt is actually a deterrent to one's wellbeing. I am not sure why people have to surrender their time to others until (or beyond) they reach retirement years. Time is the greatest wealth to which we cannot assign a value. There are costs to everything. If you want a Mercedes, you have to sell your time (work) towards making cash to pay for it. That is true whether you borrowed or not for it. There are no free lunches anywhere. 

Of course you can choose to forgo that Mercedes, and pick a much cheaper car; or, even choose not to buy a car. Then your working time will fall dramatically. At least that is how I see it. Financial independence is something that I value the most. Freedom to do things that I like are invaluable to me. I feel sorry for people who keep working for someone else all their life because it is self-inflicted. If only they had planned their lifestyle and finances, they could be having fun in life all the time. This is neither intimidating, nor difficult.

I measure success in terms of how much fun a person has in life, not in terms of how much money he or she has accumulated. It is easy to have fun with much lesser money than you can probably think. 

why paid news is not required to make money

I read news of course. Unlike some creeps who propagate that reading news is not healthy, I have no such qualms. Of course news is fun. 

I read news for only two reasons. It should give me some kick, and fun. If it does not interest me, I chuck it. Or it should help me make money. Usually the latter never happens unless it is coming from the insiders. I mean I could perhaps make money based on the published interviews of the management of a company. But more often, I read news for the sake of fun, just fun, nothing more than that. I am not interested in gaining knowledge out of news; general knowledge is overrated and exhausting. 

When it comes to investing, I don't pay heed to others' opinions. There are plenty of sources such as quarterly reports, annual reports, analyst presentations, and transcripts coming straight from the company. Why bother looking for some idiot's opinion about whether for instance, ICICI bank or Chipotle is a good buy or sell? I believe in doing my homework and then acting or not acting based upon it. 

This is a reason good enough for me not to subscribe to any of the paid news. There is already an overflow of real time news on both TV and the Internet. That is more than enough. If I need drama, I could pick up a book, or even some old news articles freely available on the net. For instance, if I want to read about Salomon Brothers and Berkshire Hathaway's episode, I simply go to my ever obedient secretary, Google. There you go, to keep busy for a few hours on the drama. Why the heck do I need paid subscriptions?

I check out a few newspapers that I pick for only headlines. If something sounds interesting and fun, I go further. With so much information freely available, there ain't much time for me to read every bit of it. There are better things to do in life than be submerged in the news whole day. 

In short, news yes; fun yes; any news that costs me is a big no. Generally, I have no regard for someone else's opinions. There are a few people who I admire for sure. Except for that, if it is an opinion, I like mine better; if it is a fact, yeah, I will take it. Paid news about a stock or a business is almost always somebody's opinion. I would rather pick up the financial reports and frame my own opinion. 

why market timing is stupid

There are at least two things that are relevant to every investor. One, he or she does not, and should not, need an advisor. Two, the investor should not attempt market timing. No one is ever able to predict, especially the future. It really sucks. That means any one predicting market prices is a sucker. 

That said, it is pretty straightforward to be able to make money from equity markets. For most it is the index route that I recommend. 

Index investing is super
Keep throwing cash into a diversified index regularly for a long, long time. That's it. Simple and profound. Over the years wealth creation is guaranteed. It is also a very low risk way of making money. The longer the time you give your cash to compound, the lower the risk of loss it carries. Furthermore, it works as a tax deferred investment, which means value of your investments net of taxes is going to be higher. The beauty of this system is that your will never have to worry about the market prices, price-earnings, price-books, and so forth. Because you are so prompt and frequent in investing, the cost of your investments will average out, and that lets your rate of return higher. That is why index investing is powerful. Select the index; I like the S&P-500 and the Nifty-50; and march forward. The only catch is that you will earn the market returns; not any higher. Yet, for most investors that is sufficient to create long term wealth and be financially independent sooner than otherwise. The irony though is that most investors like the quicker route, and therefore, fail miserably. 

There are three variables in making money: The cash investments; the rate of return; and the time in the market. Two of them are under your control; concentrate on them, and ignore the rate of return to be earned. Whatever return you make will be better than the alternative investment opportunities. Try to increase investments and do not (ever) interrupt the compounding concoction. 

So chuck those idiots who come on TV and elsewhere to tell you what to do when market prices rise (they tell you to buy) and when prices fall (you know what they tell you). They are clueless, and a bunch of morons; you don't be one.

Stock picking is fun
A few investors who have both time and interest in learning the game should be able to do well by picking stocks. They will have to learn the difference between investment and speculation; price and value. They will also have to acquire one or more of the three skills required to become a successful stock picker: Information edge; analytical edge; and behavioral edge. In today's times of real time information flow, having information edge is akin to insider trading which is illegal. Analytical skill is quite useful and is required. But the behavioral skill is the most underrated one. Having the right behavior can do wonders to a stock picker's portfolio. Buying when no one is buying, selling when others are buying aggressively, and being able to do nothing for a long time is a great skillset to possess.

In short, don't be greedy or fearful; and most importantly, don't be envious. There are plenty of opportunities to make money and be happy. Don't choose to be a whiner. Then you will do well both in investing and in life. 

how much do you need

I have noted in the past that being financially independent is very much possible for an average person earning average income both in the US and in India. 

Yet this February 2018 article suggests that the middle class in India requires at least Rs.100 m in retirement funds in order to maintain a reasonable lifestyle. This assumes a post tax annual income of Rs.3 m. There are two problems with this: 

One, we don't know what a reasonable lifestyle is; in fact, it differs from person to person. Two, required annual income is a function of today's cash and its time value. Annual costs of Rs.3 m today is more than reasonable for the middle class. Whereas its present value is in excess of Rs.1.5 m if we consider 10 years from today and assume inflation rate of 6% during the period; and even this I reckon is probably more than reasonable for the most middle class in India. Even after 20 years, the present value of Rs.3 m is close to Rs.1 m. Not many middle class earn that much today.  So we need to define when this Rs.3 m is relevant. 

But the author does make valid points regarding patience and quality of the underlying business, which the so-called investors do not adhere to. 

And now in May 2018, I find this article and the discussion thereafter suggesting that retirement in India requires at least Rs.150 m in order to maintain a comfortable lifestyle. They say that the required annual income from this capital is Rs.5 m to Rs.10 m; and their required rate of return to beat inflation is 10%, and 15% for a comfortable lifestyle. 

By the way, 10% return on Rs.150 m is Rs.15 m pretax, which could be close to Rs.10 m post tax. And the present value of Rs.10 m at 6% inflation rates over the 20-year period is over Rs.3 m. I am not too sure whether a couple (as the article suggests) retiring in India requires more than Rs.3 m annually. It would be too naive to generalize and conclude; yet, I can say for the most that income (which is about $45,000) should be able to give a reasonably comfortable lifestyle, for there aren't too many making that much in India. 

Instead of being specific, it is better to leave it to the person to decide what is reasonable and what is comfortable. That said, my take is that both India and the US are not that expensive to live a good life. A capital of Rs.150 m (or $2.25 m) capital in 20 years is worth over Rs.45 m at 6% inflation and $1.25 m at 3% inflation as of today. Think about it. 

My calculation of the required capital for retirement is simple as I have noted here; it is better to assume a zero real rate of return over the period. That means the return earned on capital is equal to the inflation rates during the period. The calculation then becomes both easier and conservative, and the capital required, a function of only two factors: One, sustainable annual expenses in today's value, and Two, the number of years. Here we don't assume reasonable and comfortable in generalized terms. 

For instance, if the W couple's annual costs are Rs.650,000 ($10,000) and the number of years of retirement is 30, the required capital is Rs.19.5 m ($300,000). If the C couple's costs are Rs.1.95 m ($30,000) and years are 25, the capital required is Rs.48.75 m ($750,000). You see how it is to each, his or her own. That's the way it should be. And the added flavor is that usually you do get to earn in excess of inflation rates.

In my view, retirement is a terrible word; it denotes doing nothing, which is not the way to lead life. Never let mind and body lay idle. The key is to be financially independent as soon as possible, and then take up something that excites you in life which you can keep doing as long as you can. There are times when this excitement can be monetized too; that's the icing.

tcs, and $1 trillion

TCS has defied odds; there is no denying. I compared both Infosys and TCS in July 2013, and noted how things changed since 2009 in favor of TCS. In October 2013 when TCS hit $65 b in market capitalization, I wondered whether it was worth it based upon its fundamentals. Then came July 2014 when TCS equity was priced by the markets at $85 b, and I was skeptical again. Now it is a $100 b company. In fact, this report had actually predicted it would. I only hope that the author had put his own cash into his thoughts. 

Sure it is a $100 b firm; so what? What can investors do about it, buy more, or book profits? That's the question. If you read this report, the stock has the potential to rise 10 times, and become a $1 t company. Yeah, that's $1,000 b; isn't that great? For record, there isn't any $1 t company on the planet, not yet. 

TCS had net earnings of Rs.258 b ($3.9 b) for 2018. Let's keep the math simple rather than going into complex predictions. That implies a PE multiple of 25 times as of now. The report says, does not predict, that in 8 years TCS could become $1 t company if it grows at 33% annually over the period.

The author is right. If earnings grow at 33% and the multiple remains at 25 times, it's a $1 t math. But then, if the multiple goes up to 30 times, it will be $1.2 t; or if earnings grow at 25% over 8 years, the market value will be $600 b, keeping the multiple intact. 

We have to remember that a 25 times earnings multiple after 8 years will mean that the business will have strong expectations of earnings growth in years beyond. That implies, TCS has the potential to become much more valuable than $1 t. To see why, let's assume earnings growth of 33% in 8 years, but also assume that the growth rate will taper, and therefore apply a lower multiple of say, 15 times. Now the business will be worth close to $600 b. 

You see what I mean? Math is not the value driver. The value drivers are cash flows and growth, and expected rate of return. 

And there is always the justification. 

In 2009, TCS market cap was as high as Rs.1,034 b and as low as Rs.406 b. In 2009, its earnings were Rs.52.5 b, and for 2018, they were Rs.258 b. The earnings multiple implied in getting a value of Rs.520 b in 2009 is about 10 times. 

Let's do the math again. If the markets knew that TCS would grow at a very high rate from 2009 to 2018, the multiple would have been more than 10 times; let's keep at 25 times. At our new assumed multiple, the market value of TCS equity based upon 2009 earnings would be Rs.1,312 b. That gives us annual growth rate of 20%, not 33%, from 2009 to 2018 for market prices. 

Now even if we apply 22% growth rate in the next 8 years, and give a multiple of say, 15 times, the market capitalization of TCS would be $300 b; we are keeping the currency rates constant. There are two problems with this prediction too. One, it is much easier for Rs.278 b revenues (2009) to grow at 22% than for Rs.1,231 b revenues (2018). It is called the base effect. In fact, the actual revenue growth during the period was 18%. And you know what, TCS revenues grew by 4% for 2018. Two, we are all hopeless in making predictions.

This is how I see it: TCS has been a great business, and ably managed; and in all probability, it will continue to be one. But it is preposterous to assume a large growth rate going forward; and 33% growth rate is outrageous. The business challenges are very different from what they were a decade ago. The Indian IT firms will have a drastic makeover and shift in focus to do if they are to remain relevant and profitable in the coming years. And this itself is a huge headwind.

As I always say, time will tell.

indian fmcg, and the fang

Here's an article published today, which says that Dabur's market valuation is absurd, and is not supported by earnings growth.

The author has singled out FMCG stocks for their crazier valuations. He also makes some fancy statements like the gap between their valuations and earnings growth is like earth and sky. There are two problems that I see with his remarks. 

One, you don't see only FMCG stocks priced weirdly. There are a whole lot of other sectors where we find gap between price and value; I mean where price is too much compared to their value. Does he think for instance, Dmart cheap just because it has and is expected generate higher growth rate? Of course it is a well run, profitable retail business; but that does not mean we should buy its stock at whatever prices marked by the markets. How about Eicher Motors? or does he consider Kotak Bank a value buy looking at its price to book? What are his thoughts on the NBFCs, or Airlines, or Telecom?

Then there is the second problem which is with his timing of the post. Does he think Dabur stock is expensive now? Its price was high compared to value in 2017 as well. In fact, a bunch of Nifty stocks was expensive back then. Tell us something new; or at least don't single out. We would have appreciated if the post was of expensive valuations in general. 

It is not about earnings growth only as the author emphasizes. It is always about the price of a stock compared to its intrinsic value. And the value is driven by its cash flows, not earnings. Yeah, earnings help generate cash flows; but they are not the same. Value also depends upon the expected rate of return, which again is influenced by the prevailing interest rates. 

The article also makes a statement: that the Indian FMCG valuations are crazier than that of FANG stocks. How profound is that. The author fails to recognize that value is driven by the prevailing interest rates. And the interest rates are influenced by the inflation rates. Other things being equal, the higher the inflation rates, the higher the growth rate.

Of course the FANG stocks cater to the world markets. But if you look at their annual reports, you know their growth rates; and also know how some of them are not yet that profitable. Here's their story. 

Facebook has been a heck of a story. Look at how the market valuations have progressed over the years. It is priced at 25 times earnings. I haven't had a chance to look at its latest financial statements. It's been some time since I noted my thoughts on Facebook. 

Then you have Amazon. A terrific business, but a terrible investment on value terms. In my view this has always been the case. 

Although Netflix has done well to its shareholders, it is not like other FANGs. It is yet to generate substantial free cash flows. I am not sure if its business model is as strong as Amazon's is.

There is no question that Google has performed well on both operating and market fronts. Value of these FANG stocks depends upon their ability to generate free cash flows on a consistent basis. And this depends upon their revenue growth, operating margins, and reinvestment requirements. Because they are technology stocks, we need to do some adjustments to their reported earnings. One big adjustment is how accounting rules treat research and development costs, and how they should actually be treated. Then you have operating leases and advertising costs. While R&D and advertising costs are like investments for future, operating leases are like debt.

Based upon reported numbers, Facebook trades at 25 times, Amazon at 250 times, Netflix at 187 times, and Alphabet at 27 times earnings.

The author of the article appears to be supportive of PP Long Term Equity Fund. I don't have anything against the fund, and it is left to their managers to manage the fund based upon their philosophies.

I think the fund started buying Alphabet from May 2014 onwards steadily increasing to 16,593 shares as of June 2016. They sold 1,500 (not sure why) shares in July 2016, and the remaining shares are in the fund as of March 2018. It bought its first Facebook stock in July 2017, and has consistently increased the holding to 42,580 shares as of March 2018. In addition to these stocks, the fund has also invested in 3M, IBM, Nestle, and Suzuki stocks. Now, it is a bit surprising to me that the fund finds stocks in the US market to be value accretive compared to the stocks in India.

Facebook isn't a 25% growth stock, and Alphabet isn't a 20% growth stock. In addition, both the firms are quite large: Facebook is priced at $500 b, and Alphabet is a $725 b company. Both are technology companies, where the road ahead to growth is difficult to predict. If Facebook and Alphabet it is, then why not Amazon? The fund hasn't bought Amazon as yet. It did buy Apple, first in May 2016, and then sold all of 12,550 shares it owned in October 2017. To each, his or her own. Remember now Warren Buffett has the second largest holding in the Apple stock.

I am not sure if the fund activities are long term oriented as far as foreign stocks are concerned. It would have been much better if it had created a separate fund called say, US markets fund and made that its investment philosophy. Buyers of the US stocks would go there. The existing fund then would be the long term equity fund focused on only Indian stocks. That way investors would be much clear about its objectives.

Here's the thing: The Indian stocks will aways have higher growth rates compared to the US stocks even when we know that certain of their companies are global. Then it comes to comparing the prevailing prices to their values for each of the individual stocks. There are bargains in both the markets; but, more in the Indian markets simply because it is a growing market.

While the fund may have its good intent, the author of the article appears to be a bit biased, as he is towards other companies too. This isn't a complaint, for all of us are biased in some way or the other. For instance, his dislike for Reliance Industries is well known despite the fact that Reliance has been the most valuable firm in India for long. It throws out a lot of free cash flows from its core petrochemical and refining businesses. Just that its reinvestment has been much higher what with retail and telecom ventures. Here's another question: is Reliance expensive too compared to its earnings growth? What about Hero Motors, or Maruti? Want any more names?

Of course stocks are expensive now compared to their value; but that is not limited to Dabur, or FMCG. A careful unbiased analysis will tell us where we stand today. There are always certain stocks available at prices that we want; for that we need to stop listening to others, and have faith in our own analysis.

ferrari at $23 b

Revenues for the year 2017 stood at Euro 3.4 b increasing 10% annually over the last four years. Over the same period, operating profits increased by 20% to Euro 775 m. Earnings increased by 22% to Euro 535 m; so did earnings per share. Operating margins were 22.68% (2017) compared to 15.59% (2013). Very high return on equity. Average free cash flows to firm were Euro 300 m. Not a bad performance for an auto business having sold only 8,398 cars in 2017. 

Sports V8 were in maximum demand. 

Ferrari sells a fair bit of engines too.

Now, how much should this firm be valued? It is currently priced by the market at $121.99 per share. That is $23 b or say, Euro 20 b in market value for the equity. Compare that to free cash flows to firm, and then consider Euro 1.8 b of debt; and there is cash of Euro 648 m. 

The market price appears a bit pricey. If that was the case, the equity was available for half the current price sometime in 2017 itself (its low price). In 2016, the stock sold at $32 per share when it was low. For someone who bought at that price, the increase in market value was nearly 4 times within a year. There is money to be made in every stock if you are good at market timing. Alas, isn't that difficult? Who knew it would be as low as $32 and as high as $122? Someone said it once, it is very hard to predict, especially the future.

Ferrari is a great franchise. But then every good business isn't a good buy; and at times, even a bad business can be a screaming buy. The game is between value and price; always.

The board is considering a share buyback program.

The number of shares outstanding (189 m) has not changed since 2013; and in February 2018, the Euro 100 m buyback initiative was announced by the company. In 2018, Ferrari bought 190,600 shares at $119.82 per share.

The management obviously considers that price is a bargain compared to its intrinsic worth.

To justify a buyback, two things have to fall in place: Excess cash, and price paid much lower than its value. Only time will tell whether $120 is a bargain. In the mean time, driving new Ferrari down the street is definitely red, faster than wind, passionate as sin.