5 Investment Principles to Preserve Capital, Investing in Stocks

Financial experts always preach “Investing in stocks is a hedge for your money against inflation. It would fetch better returns than any other asset class over time.” However, investing in equities is not a child’s play. It could rip you apart completely if not done carefully. Hence most commoners think investing in equities is a gambling. Nevertheless, people still get rich investing in the stock markets. How are they preserving and growing their money investing in stock markets? If we dig deep to know how not to lose money, we get to know their secrets. Yes, the most important winning trait of successful investors is that they stick to investment principles. Preservation of capital is their first and main moto. Growing and compounding is only a second aspect. So here are their investment principles:

Buy businesses, not speculative instruments

One of the major mistakes people make while investing in stocks is that they approach the stock market with an intention to get rich quick. They further couple investment with trading and speculation. Trading is buying and selling on a short-term basis in a hope to make quick profits by carefully analyzing the supply and demand.

While on the contrary, an investment is an operation that promises safety of principal with a satisfactory return. Trying to predict stock movements looking at the historical data and technical analysis is a sheer waste of time. Markets often do the opposite of what you think they should do. So, by trying to make a living by trading stocks in and out, you would only make the broker rich.

Instead, look at stock market as a place where businesses are auctioned. Consider shares as fractional ownerships of businesses and not as speculative instruments. To successfully buy a business, first you have to come out of your employee mindset to a business owner’s mindset. Then get to know how to look at the financial statements. Value a business that interests you with the available numbers on the public domain, something similar to what you would do when you are about to buy a home. Divide that value of the business with the number of outstanding shares. Thus you get the number for a fractional ownership of that business.

Buy at a steep discount to the intrinsic value

Once you get to know how to value a business and arrive at an intrinsic value, be conservative while arriving at a price that you would like to pay. Price is what you pay and value is what you get. So try to buy at a steep discount to the intrinsic value, at least 50% less than what you think its intrinsic value is.

If you are unable to find a brilliant business at an attractive price, park your money in cash equivalent fixed income instruments until you are able to find one. Market is all about ups and downs. It will offer you a chance soon. Keep researching for a good pick. Once anything comes into your radar, act like a kingfisher. If the stock price goes down with no reason after you have bought the stock but the underlying business remains intact, don’t get panicked. Market is working in your favor. Take advantage of it. Keep buying more quantities with the leftover savings and cash flow of your income streams.

Buy after rational and independent thinking

You could hear a lot of advice from the talking heads on business channels, money managers, financial dailies and rather everywhere because that is what you get in abundance for free (or sometimes paid). However, note that it is your money at stake. Nobody is going to give it back to you if their advice goes wrong. Moreover, nobody knows the hardship to earn that money better than you.

So it is in your best interests to manage your money by yourself. Play extremely safe to not lose money and park it safe. Get rid of that herd mentality. Stand apart from the crowd. Think out of box. Think rationally before arriving at a buying decision. Do extensive research. Read, read and read all that you could get on stocks and businesses; dailies, magazines, research reports, fundamental analysis etc. You have the advantage of fetching information from the comfort of your home over the Internet than investors two or three decades ago.

Ultimately, the decision should be yours. It shouldn’t be biased or based on someone else’s interpretation. Whether the decision becomes successful or failure, you should own the responsibility of the investment decision instead of passing the blame onto somebody else. Write down the salient points on what makes a stock look attractive. Make a buying decision only if a stock satisfies almost all of your stock selection criteria.

Buy one business or a company at a time, not a basketful

Another mistake people make while investing in securities is that they scatter out their eggs in a lot of nests heeding to the advice that scattering out minimizes the risk. Don’t go by the conventional wisdom of diversification. With dozens of companies in your portfolio, you are going to miss to track each and every business you own. Moreover, by diversifying more, you are going to get average returns of the stock market than above-average returns. Hence instead of buying a nest full of businesses and companies scattering out all your available capital, buy one company/business at a time, a thumping punch, a big bang.

Focus on one business, on one company’s shares that you think is the best, that is available at a steep discount. Get to know all the ins and outs of that business and the particular company you are interested. Once you are thoroughly satisfied with the business, with the company and the offering price, scoop down on it. Be greedy to amass as much shares as you can, as long as the market offers you the shares at the discounted price.

Buy as if you marry, not as a short stint love affair

You are buying a business, buy it for a long term. Businesses are to be owned for long term; look at family owned businesses. Nobody among the wealthiest people has made a fortune flipping businesses often. So don’t sit and keep watching the stock ticker after you have made the purchase or at the performance results quarter after quarter. Forget it. You need patience and temperament to get rich with the stock market. The secret to getting rich in the stock market is remaining an owner of a wonderful business for a lifetime, reinvesting the profits (dividends), subscribing to the rights issues, and holding back the bonuses.

However, if you still want to demarcate the “long term,” it depends on your expected returns. For eg., I expect a 20% plain appreciation of my money, i.e., I would like my capital doubled every five years. So at least “5 years” is my “long term.” If you are expecting plain 25% or doubling your capital every four years, then the definition of long term for you gets shortened to four years. However, I think 5 years and 20% flat to be nominal and above average.

Bottom line

Now you know that investing in stocks is not rocket science but a matter of patience and calculative approach. Only disciplined investors who stick to all of the aforementioned investment principles sleep well, without the fear of losing capital.

Therefore, instead of being a part of the follies of the market, rather take advantage of it and benefit from it. In fact, Mr. Market is your friend, only you need to know to differentiate his manic-depressive moods. I am sure if you are successful in identifying the mood swings of your wife, you should be far successful in identifying the mood swings of Mr. Market too!