This presentation tries to give a perspective on understanding cyclicals. Understanding of business and market cycles. With examples from Indian market. This was presented at CFA society, Delhi on Dec 14, 2019 and at FOF, PPFAS on Dec 20, 2019
1. Cycles 2.0
- The art of navigating cycles
Jiten Parmar
Twitter - @jitenkparmar
email : jiten.parmar@aurumcapital.in
https://aurumcapital.in
twitter - @Capitalaurum
email : info@aurumcapital.in
Dec 2019
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.
JP
Disclosures
6. The first step to
successful investing is
knowing self. Knowing
your temperament and
mental fortitude
JP
Key Learning
7. Deep cyclicality (e.g. commodities)
Moderate cyclicality (e.g. cars, fin services)
Low cyclicality (e.g. FMCG)
We have to understand that markets and stocks
are far more cyclical then we think. Even the
economy is cyclical. Understanding cycles can
help, even if one doesn’t want to delve in deep
cyclicals
JP
Types of Cyclicality
8. Rule No. 1: Most things will prove to
be cyclical
Rule No. 2: Some of the greatest
opportunities for gain and loss come
when other people forget Rule One.
-Howard Marks
JP
9. 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
JP
Timing
10. 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 cyclicals,
especially in deep cyclicals
JP
What do we have to comprehend?
11. A leading FMCG company from 2001 to 2011
increased revenue from 10000 cr to 19000 cr. Profits
from 1600 cr to 2300 cr. From 2011 to 2019 revenue
went to 37000 cr, profits to 6000 cr. Stock gave 0%
returns in 1st period and 900% in the 2nd period
A leading IT company has multiplied profits 37 times
since 2000, but stock price yet to see price of year
2000
JP
Market Cycles
18. JP
An interesting analogy
Cyclical/Commodity plays are like going to
a pub. Enter during happy hours and leave
at midnight when party is in full swing.
Even if you stay late, be near the door, or
you might end up paying the bill for others
too
Jiten Parmar, Investors Carnival, Nov 2017
21. 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”
JP
Contrarian Approach/Inversion
22. Triggers show up. Identify the sector/commodity behind the
triggers
Study the past cycles
Study production data, supply/demand
Check for capacity utilizations
Check for capex (when many companies announce, great
signal to relook/exit)
Check the margins
Check Price to Book (current, historical during upcycle and
downcycles)
Check replacement costs
JP
Evaluation
23. 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 ?
Wait for some companies to go bust or close
down some plants
JP
Investment Process
24. 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
JP
Investment Process
25. Sugar – 2 years of monsoon failure in India
and failed Brazil crop in 2015
Paper – Largest producer BILT plants closing
down
Fertilizers – A good monsoon after 2 failed
years
Polyfilms – Increasing delta between RM and
finished product
JP
Examples of triggers
26. Chemicals - China measures for pollution
control and closing of many units, ADD (anti-
dumping duty)
Metals/mining - Chinese plants started closing
down due to pollution. For Steel - MSP
(minimum support price), infra focus
Cement - government focus on Infra, supply
not coming as per estimated demand leading
to higher capacity utilizations
JP
Examples of triggers
27. 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
JP
Exit Strategy
28. 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
JP
Rules I follow
29. 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
JP
Observations/Quotes