Through the series Bookmark, leading voices in the world of finance and business talk about the books that influenced them in their professional journey, and in some cases, also touched them at a personal level.
In this episode, Raamdeo Agrawal, Chairman, Motilal Oswal Financial Services talks about the titles that transformed his approach to investing and recommends as a must-read for aspiring stock market investors
I started my equity investing journey way back in 1987. I was always a voracious reader, but in those days, my major reading was only company annual reports. Looking back, all I knew in my early days was Price = EPS x P/E. I now call it ignorance of my ignorance! So, I reckon my investing success in the initial years from 1987 to 1994 was mainly about luck rather than skill.
Things transformed for me in 1994 when I found my guru, Warren Buffett. I have read every single of his annual letters to Berkshire Hathaway shareholders, which have significantly influenced my investment philosophy. I continue to read a variety of books, not only on investing but also on businesses and management, because equity investing is all about buying the right kind of businesses run by the right kind of management.
Here’s a short summary of my learnings from five books that influenced me the most, which I recommend every aspiring equity investor must read.
As mentioned earlier, Buffett’s annual letters to Berkshire Hathaway shareholders are the genesis of my investment philosophy, which I call QGLP – Quality, Growth, Longevity, at reasonable Price. Virtually every aspect of this is covered in his letters.
For instance, the Q of QGLP has two components – Quality of Business and Quality of Management.
• On Quality of Business, Buffett’s key points are: (1) Buy only those businesses which you understand, and (2) Differentiate great and good businesses from gruesome ones, through a single tool of return on capital.
• To assess Quality of Management, Buffett offers a three-pronged framework of Integrity, Intelligence and Energy.
• On Longevity, Buffett taught me the concept of buying stocks to be held almost forever. At Motilal Oswal, we call this “Buy right, Sit tight!”.
• On Price, Buffett offers a clear distinction between Value and Price as “Price is what we pay, Value is what we get.” So, he emphasizes the importance of buying at reasonable Price.
Finally, Buffett Letters also taught me the importance of having a focused portfolio of not more than 30 stocks, rather than a highly diversified portfolio.
Common Stocks, Uncommon Profits by Philip Fisher
This book is a 1950s classic which has had a great influence on legendary investors like Buffett and Peter Lynch. Many of the points made then are highly relevant even today. My key learnings from the book are knowing what kind of businesses make money, and equally important, what all to look for in a company.
Fisher coined the term “Scuttlebutt”, by which he means business grapevine and corroborative evidence about a company in which you wish to invest. He says, “It is amazing what an accurate picture of the relative points of strength and weakness of each company in an industry can be obtained from a representative cross-section of the opinions of those who in one way or another are concerned with any particular company … Go to five companies in an industry, ask each of them intelligent questions about the points of strength and weakness of the other four, and nine times out of ten a surprisingly detailed and accurate picture of all five will emerge.”
As part of “Scuttlebutt Investing”, he lists out 15 questions investors should ask about every company before deciding whether or not to invest in it. The questions range from market potential to sales force to R&D spend to profit margin to management depth and even company’s investor communication. The 15th and arguably the most important question is “Does the company have a management of unquestionable integrity?” Fisher concludes that even if a company passes on all the previous 14 questions, but fails on this one, investors should give such a company a miss.
Value Migration by Adrian Slywotzky
This book is not directly about investing; rather, it is arguably one of the most insightful one to understand businesses and business value. It makes a simple proposition – Value (denoted by profits and market capitalization) migrates from outmoded business models to new ones which better meet the needs of the consumer.
Consumer needs constantly evolve. Hence, businesses which cater to these evolving needs see value inflow whereas those which don’t see value outflow. Value migrates round the clock, round the world. One of the most classic examples globally is the telecom sector. Here, almost the entire value has migrated from wired telephony to wireless, because the latter meets the customer need of mobile communication. Other global examples are how value is migrating from metals like steel and aluminium to plastic, and also how value is migrating from full-service airlines to low-cost airlines. Back home in India, value is relentlessly migrating from public sector banks to private banks. India is also the beneficiary of value migration in Information Technology, what I call “Boston to Bengaluru”.
Investors need to make sure that they exit from businesses experiencing value outflow and enter into businesses which are seeing value inflow.
Understanding Porter by Joan Magretta
This book is not directly about investing, but one which gives tremendous insights into understanding businesses and managements. The author is a student of the guru of competitive analysis, Michael Porter. She effectively captures the essence of Porter’s two landmark books, Competitive Strategy and Competitive Advantage.
One of the most significant frameworks from the book is what is now popular as Porter’s Five Forces, which shape the competitive landscape of any sector. These five forces are – Inter-firm rivalry, Bargaining power of customers, Bargaining power of suppliers, Threat of new entrants and Threat of substitutes. The interplay of these forces decides how much value is created in a sector, and how it gets distributed across the value chain.
The other key framework from the book is the five elements of a successful corporate strategy are – Unique value proposition, Tailored value chain, Trade-offs (i.e. saying no to many things in order to focus on the relevant), Fit (i.e. how the various elements of strategy come together) and Continuity (i.e. sustaining the strategy over the long term).
The book helps investors in assessing - (1) attractiveness of the sector in which they intend to invest, and (2) quality of the management of the company they intend to invest in.
Intelligent Investor by Ben Graham
This is a 1949 classic, which Ben Graham’s illustrious student, Warren Buffett calls “the best book on investing ever written”. The key points for me from the book are –
• Shares are pieces of the underlying business, rather than mere pieces of paper.
• Intelligent investing rests on 3 principles – (1) analysing the long-term evolution and management principles of a company before investing, (2) protecting from losses by diversifying investments, and (3) Not looking for crazy profits, and focusing on safe and steady returns.
• Concept of Mr Market: Graham’s significant contribution is the one of Mr Market, where he pictures the entire stock market as a single person. This Mr Market offers you stock quotations day in and day out, sometimes suspiciously cheap and sometimes astronomically high. This is because Mr Market is manic-depressive – unpredictable and suffering from serious mood swings. Investors are best off ignoring Mr Market altogether, relying on their own research and analysis instead.
• Margin of Safety: This concept is covered in the last chapter 20 of the book. Graham writes, “If you were to distil the secret of sound investment into three words, we venture the motto, Margin of Safety.” Essentially, Margin of Safety is the gap between the price of a stock and its intrinsic value. As Buffett said, margin of safety is “buying one dollar for 50 cents”. According to Graham, ‘The margin of safety is always dependent on the price paid. For any security, it will be large at one price, small at some higher price, non-existent at some still higher price.’ The function of having a margin of safety is to make accurate forecasts of the future unnecessary.
Bonus book: The Theory of Investment Value by John Burr Williams
I learnt two things from this 1938 classic – (1) how stock prices are determined, and (2) the importance of dividends.
The book says prices are determined by marginal opinion of investors. Further, “today’s opinion makes today’s price and tomorrow’s opinion makes tomorrow’s price.”
Burr Williams also highlights the importance of dividends. He writes, “A cow for her milk, a hen for her eggs, and a stock, by heck, for her dividends.” He emphasized that the intrinsic value of a company was equal to the present value of its future dividends, not earnings. His work is the basis of what eventually evolved into the dividend discount model.
The above is a very short list of the endless literature available on the science and art of equity investing. Happy reading and happy investing!
(As told to Ashish Rukhaiyar)
First Published: IST