It has been proved that no other asset class has the ability to beat equity in the long run, but its performance is subject to several risks. Besides the internal or company-specific issues, external factors like change in government policies, market sentiment, competition and economic growth have a significant influence on a company’s long-term performance. For instance, MTNL, which once enjoyed a teleservices monopoly in Delhi and Mumbai, has lost more than 92% of its value in the past 19 years due to its operating inefficiencies and increased competition.
Invest for longer terms to cut your losses For investment tenures of five years and more, the loss rate of BSE500 is zero.
Note: 5-year or 10-year periods between 2000 to 2018. Investment at the beginning and exit at the end of the year.
Given the internal and external risks to companies, it becomes imperative that investors evaluate the risk-return profiles of companies before investing in them. Also, the likelihood of losses from equity investments goes down with the increase in the investment tenure. Data for the past 19 years—2000 to 2018—shows that the historical loss rate of BSE500 index goes down to zero as the investment tenure goes up to five years or more. Historical loss rate is defined in terms of index returns and is calculated by dividing the number of years in which the index has delivered negative returns by the total number of investment years. The historical loss rate can also be used to identify low risk-high return stocks. Fewer negative returns and surging stock prices over a given period of time implies that the company has strong business fundamentals and has been meeting its shareholders’ expectations.
We tried to identify companies with minimum historical loss rate across time scales. Companies with a market-cap of greater than Rs 500 crore were analysed and historical loss rates for 1-, 3-, 5- and 10-year investment periods were calculated. Some 451 companies with market-cap greater than Rs 500 crore, whose share price data was available since 2000 were analysed. Calendar year data was used from 2000 to 2018 and the stock prices for the first trading day and the last trading day for each of these 451 stocks were extracted. To compute the historical loss rate for stocks, the stock price returns from the first trading day to the last trading day across the four time frames are worked out.
Stellar past, promising future for some These stocks haven’t seen negative returns over 3-, 5- and 10-yr periods since 2000.
Stock prices as on 5 Feb 2019. Source: Estimates, analysts’ views and target prices from Bloomberg rest from ACE Equity.
Looking at the historical loss rate for one year, an investor entering at the beginning of the year and exiting at the end of the year would have had 19 one-year tenures to invest and exit. Science and tech company 3M India has delivered negative returns for three 1-year periods out of 19 and therefore, its historical loss rate works out to 15.8%. Similarly, there were 17 three-year periods—1 January 2000 to 31 December 2002, 1 January 2001 to 31 December 2003 and so on—the last being 1 January 2016 and 31 December 2018. Had you invested in Asian Paints for any of these 17 (3-year) periods, you would never have booked a loss. The historical loss rate of Asian Paints is zero over the 3-year period. Similar calculations were done for 5- and 10-year time scales.
We filtered out stocks whose historical loss rate was less than that of the BSE500 index loss rate across 1-, 3-, 5- and 10-year periods, leaving us with 41 companies. These companies not only have lower risk but are fundamentally sound and have significant future growth potential. Of these 41 companies, 38 are covered by Bloomberg analysts and these have 827 analyst recommendations. Out of these, 71% are buy, 19% are hold and 10% are sell recommendations.
Bloomberg analysts estimate the average return on equity (ROE) of these shortlisted companies for 2018-19 to be 20.7%. Comparatively, the estimated ROE of BSE500 index for 2018-19 is 11.7%. In the past five years, the aggregate marketcap of these 41 companies has grown at a compound annual growth rate (CAGR) of 21.4%, while the BSE500 companies grew at a CAGR of 15.3%. Out of these 41 companies, we finally selected companies with zero historical loss rate across 3-, 5- and 10-year time frames, leaving us with six companies. No company had zero historical loss rate for the 1-year time scale.