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Contra investing in cyclicals
1. Contra Investing in Cyclicals
Jiten Parmar
Twitter - @jitenkparmar
email : jiten.parmar@aurumcapital.in
https://aurumcapital.in
twitter - @Capitalaurum
email : info@aurumcapital.in
Aug 2020
2. Jiten is co-founder of Aurum Capital. Aurum Capital
is a SEBI registered investment advisory company
The stocks discussed in this presentation are not
recommendations from Aurum Capital or Jiten
Parmar
Some of these stocks may have been recommended
to our clients and Jiten Parmar may hold some of
these.
This presentation is only for educational purpose and
does not constitute investment advice.
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Disclosures
5. The first step to
successful investing is
knowing self. Knowing
your temperament and
mental fortitude
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Key Learning
6. There are different strategies in investing. And each may
have its merits. Choose the one that works for you
Successful Investor trait – remove bias, rigidity
When good times come, make it count. Can use trailing
“profit protection”
Many investors keep watching the index, watch the stocks
instead
Good stock at bad price may underperform bad stock at
good price
Investing is more of an art, than science
Temperament is the most important quality of a good
investor
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Observations/Quotes
7. Contra investing looks great
in hindsight, but it is not
easy. May have to endure
pain of underperformance
for a period
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Contra Investing
9. The pillar behind Contrarian
investing is value investing.
You buy business at
pessimistic valuations due to
temporary headwinds.
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Contra Investing
10. Stocks are much more cyclical than
what people think. 90% listed
companies are cyclical. The degree of
cyclicality can vary, but cyclical they
will always be.
The economy too is cyclical, as well as
the stock market.
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11. We don’t have to be “exactly right”. We are
good even if we are “approximately right”
Don’t have to get in at “bottom”, nor get out
at the “top”
You just have to get the general direction right
Don’t mind leaving something on the table,
during exits
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Timing
12. Within stocks and sectors, you have to
comprehend “business cycle” as well as
“market cycle”. They might not coincide. So do
make adjustments accordingly. “Best price”
may come before “best results” and “worst
price” may come before “worst results”
“Excel” investing rarely works in contra
cyclicals
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What do we have to comprehend?
14. One ends up buying when ratios are bad - EBITDA margins,
ROE’s are down. Company might be in loss
One sells when these show sharp uptick and company
becomes highly profitable
Buy, let’s say, when PE is 60 (or -ve) and sell when it is 6
Buy when sector is completely neglected and sell when it is
hot
Buy when no one is covering the stock and sell when many
buy reports come
Basically, a contrarian approach is required
The bet is on “reversal to mean”
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Contrarian Approach/Inversion
15. Look for sectors out of favor
Study the past cycles
Study production data, supply/demand
Check for capacity utilizations
Check the reasons why sector/companies are not
performing
Check the margins
Check Price to Book (current, historical during
upcycle and downcycles)
Check replacement costsJP
Evaluation
16. Prepare a list of the stocks with the theme
Shortlist to 4/5 plays. Use basket approach in
investing
Stress test : Can the company survive another
couple of years of downturn ?
Initially, get the foot in the door
Wait for some companies to go bust or close
down some plants
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Investment Process
17. Check insider buying/selling
Don’t look at PE
Price to book/replacement cost are better
parameters
Check if company has cash/manageable debt
Start initial buying at highest pessimism levels
As cycle starts turning add
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Investment Process
18. Try to get out before best earnings. Peak prices come before peak
earnings
Always understand that there is “extra-ordinary” earnings in
upcycle. Don’t commit the folly of assuming these as normalized
earnings and look at it with a PE lens
One can employ a strategy like getting in at 0.2-0.3 of P/B or
replacement and getting out at 1-1.2 of these
Try to estimate normal EBITDA margins by averaging them over
downcycles and upcycles. Accordingly, calibrate your entry and exit
strategies
Never repent if price still goes up after your sell, as long as you have
made good returns
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Exit Strategy
19. Always make positional plays
These should never be 5-10 year plays
Patience - Be ready to hold for a couple of years
Make sure portfolio allocation is adhered to
Never go more than 25% of your portfolio in a
single deep cyclical sector
Do not change narrative, just to hold on to the
sector/stock
Be prepared for failures. Cut when you realize it
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Rules I follow