Thursday, July 21, 2011

The New Conundrum: Stocks or Shoes?

I have two big passions in my life, buying sandals and investing in stocks. To an outsider, or even to those whole dabble in both, this would seem like two ends of the spectrum. This is not so. It is absolutely amazing to observe the many parallels to investing in stock markets and buying footwear. I shudder to think of the smirks this piece would invite from my esteemed male colleagues, but guys please indulge me for a bit and read on. You might be in for a surprise!

Total Return from stocks = Dividend Yield + Capital Appreciation
Total Return from sandals = Dividend Yield* + Capital Appreciation**

*compliments received every time the particular sandal is worn
**looks of envy from all the girls who wish they had the same sandal (but don’t)

The Penny Stock Bias: everybody loves a good bargain. I think this rule is universal and can be extended across asset classes and situations. Penny stocks are those which trade at a value of less than INR 10 and don’t really have much fundamental strength. The attraction of penny stocks is in their very low denomination with the general buyer’s rational being, “let me buy 1000 stocks at INR 5. If I make money then great, else I only stand to lose INR 5000.” Another factor that lures market participants towards penny stocks is the feel good factor associated with buying in large quantities, which is made easier by the lower denomination.
Its counterpart in the world of footwear can be found at Linking Road. Women throng this shopping district looking to buy trendy sandals which are much cheaper than those available in the fancy shops. The sandals don’t really have much to speak of in terms of quality, but the prices are low and one really doesn’t mind if it is good for only a couple of outings. And ofcourse, because of the low prices one really doesn’t need to exercise restraint and can be extremely indulgent. I think that every woman would vouch that there is nothing to beat the feel good factor associated with carrying multiple shopping bags filled with shoes.

Anchored to favourite despite pain: everyone has that one favourite pair of sandals for which
‘aint no mountain high enough, aint no valley low”...sorry I digress. It could be something that stole your heart in the very first glance and you had to have it despite it probably being a size smaller or the heel being a tad too high. One would still go ahead and buy it and keep it and prance around in it, all the time keeping faith that if I wear it enough number of times it would magically keep my feet happy.
Similarly, many of us develop some kind of personal attachments to the stocks in our portfolio. Strangely we sometimes tend to be more faithful to our favourite stock than to our partners. We stick by the stock in sickness and in health, through downturns and upturns all the time keeping faith that eventually the stock would go in-the-money.
It is like how we never throw away our favourite backbreaking sandals we also never throw away our favourite out-of-the money stock.

Law of averaging: clearly an offshoot to the above principle, the law of averaging put simply implies throwing money down the wishing well. Because of our emotional attachment to certain stocks, we don’t exit them despite deteriorating fundamentals. To the contrary, every time the stock falls we buy more quantity hoping that the point of turnaround is just at the horizon.
The same can be said for our favourite tattered sandals, which have seen one too many visits to the cobbler but still fail to provide the same comfort as before. These sandals too never see the trash can!

Urge to diversify and step into unchartered territory: the portfolio of most investors would have a bias. It could be towards stocks from a particular sector, of a certain market capitalisation or even to those belonging to a certain conglomerate (business house). But as every analyst worth his dime would tell you, diversification is the key to risk mitigation. Accordingly, despite our biases we as investors tend to diversify and often tread into unchartered territory. If your neighbour’s portfolio is doing better than yours, it is only natural that you would try to gain exposure to his award winning stocks. In the bargain, we end up buying stocks about which we might not have much information. The profit or loss thereafter is anybody’s guess.
Similarly, when it comes to footwear we all tend to have biases. It could be towards a particular brand, or a certain type of heel or even a particular colour. In this case, diversification is certainly not the key to risk mitigation, but it certainly is the key to evade becoming a social pariah. So we sometimes go ahead and explore brands hitherto unknown or perhaps heels which we have previously never worn. Whether the experimentation would be accepted in the social cliques is anybody’s guess.

Herd Behaviour: behavioural science though closely followed in the retail industry, is not quite given the same honours in the field of finance. I find that a bit strange, considering that stock price movements are largely a function of psychological responses to fundamental factors. More often than not our stock selection process is influenced by the masses. A stock that is endorsed by one of the investing gurus suddenly becomes the flavour of the season and people rush to take positions in the same, oft times not being entirely privy to the relative merits or demerits of the said stock.
Similarly, our closets are stashed with sandals which were proclaimed to be the next best thing after Italian pizzas but didn’t quite make it to the hall of fame. There are also instances when we end up buying footwear which we possibly do not even like but defer to the judgement of self proclaimed industry gurus. Strangely, when it comes to buying footwear, we strive to be exclusive but at the same time do not want to miss out on something that finds its way into all our friends’ shoe closets either.

Research and Momentum: in the case of both stocks and shoes, entire industries have been built to aid the common people in making their investing and footwear buying decisions. There are scores of periodicals enunciating their views on various companies and fashion trends. There are also the CNBCs and FTVs which pride themselves in catching the pulse of their respective markets and conveying information at the speed of light. As a matter of fact even the boring old financial planner has a shoe equivalent in the personal shopper!

Gentlemen, if you are still not convinced then might I suggest that you go buy a pair of shoes and ladies, maybe it’s time to invest in some stocks.

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