Cycles in the equity markets and businesses, and paying abnormal valuations to purchase stocks are the general ways in which many retail investors lose their wealth. However, some investors do recover in the long run when those companies come back to growth momentum in their profits.
But, the most worrying source of wealth destruction happens when the stocks get suspended from trading exchanges mostly for surveillance reasons. Over the last 10 years, 529 stocks were suspended by the BSE Ltd. Of these, 313 were suspended between 2014 and 2016. In fact, the number of companies suspended hit a record high of 212 in 2015. While some stocks do manage to come back for trading, it’s not true for every company.
It is heartening to note these 313 stocks had a combined market cap of nearly Rs 22,000 crore on the day prior to their suspensions from the exchange. Normally, the moment the announcement is made on suspension, the market cap of those companies start eroding substantially. Therefore, the actual evaporation of wealth from would be substantially higher than Rs 22,000 crore.
A major part of this wealth erosion remains permanent. In most cases, the retail investors become the major victims as a vast majority of such stocks are small or mid cap with insignificant institutional participation.
A simple monitoring of some basic parameters could vastly reduce the scope for wealth destruction from the suspended stocks for the retail investors. Firstly, focus on time-tested managements over a decade or more. Avoid companies in which the promoters hold less than 10% and there is no significant institutional holding. Ensure that the companies have significant tangible assets. Companies that do not have meaningful shareholding from the promoter or institutions have ‘near-zero fixed assets’ (i.e. without any investments in factories) and, not having any sizeable revenues / profits are the ones largely suspended and mostly never re-enter the exchanges. Some of the companies disappeared permanently from the exchanges had deployed almost all of available capital in ‘loans & advances’ without investing in any fixed assets.
One can draw an analogy from the story of six blind men touching an elephant and giving different versions to understand the Indian equity markets. Although one could hear ‘different versions’ about the Indian equity markets, one version, which is amply proved is that it is also a place to create solid wealth in the long term, provided these basic parameters are verified and also principles of value investing are followed in the equity investments.
The writer is founder & managing director, Equinomics Research & Advisory Pvt. Ltd