March 19, 2022 03:45 PM
Billed to be the country’s biggest public issue in history, the share sale by Life Insurance Corporation of India (LIC) IPO may be delayed, but cannot be denied.
A large number of retail investors are keen to apply for the shares, especially given how some recent IPOs performed initially, as some stocks turned out multi-baggers for shareholders.
However, as the market turned volatile, they were reminded of the old lessons around ‘greed and fear’ in various ways.
While making an informed decision about going in for the LIC IPO, here are certain things investors should keep in mind.
Valuations and fundamentals:
Investors keep making the same mistakes and it was no different during the recent IPO wave. Chasing hot themes generally does not work. In CY2021, the technology-driven companies were all the rage. But not all of them made money.
The shares of Paytm operator One97 Communications (PAYTM) have lost two-thirds of their value from the IPO price of Rs 2,150 and trade at Rs 634 each.
Others such as CarTrade Tech and PB Fintech are also quoting below the IPO price.
“Stock prices tend to track the fundamentals of the underlying business. If the company is not making money or is in a very competitive industry without any edge, then in turbulent times shares of such companies go down and may take time to bounce back till fundamentals improve.
Shares of fundamentally strong good quality companies tend to bounce back quickly when the sentiment improves,” says Sneha Poddar, AVP, retail research, Motilal Oswal Financial Services.
Many of these new-age companies focused on customer acquisitions and profitability took a back seat. Conservative investors have to wait for the companies to turn profitable and later post consistent profitable growth.
“Valuations are important and in the case of new-age companies, they were expensive. Also, many investors did not have clarity on how to value these new-age IPOs,” says Deepak Jasani, head, retail research, HDFC Securities.
Do you really understand the business?
Many successful investors including Warren Buffett talk about investing in a ‘circle of competence’, the subject area that matches a person’s skills or expertise. It says an investor is better placed to make investment decisions if he or she understands the underlying business.
However, investors often confuse this to mean familiarity. When the new-age businesses were offered through the IPO route to the public at large, many people mistook the familiarity element—several of them had used the services offered by these companies as consumers—as their understanding and made decisions on their own.
“Being a customer, you can have an opinion about the quality of the goods and services. But that does not mean a customer understands the business model, margins, profitability, future growth and valuations of the business,” says Mohit Nigam, head, portfolio management services, Hem Securities.
Among the stocks that were listed in the last one year, quality businesses such as Clean Science & Technology and Ami Organics, both in specialty chemical manufacturing, and Sona BLW Precision Forgings, an automotive technology company, did well.
Investors backing strong businesses after taking experts’ inputs did well.
Listing gain or investment:
Many a time, investors fail to understand why they are applying for shares in an IPO in the first place. Ignoring your investment goal and exit strategy is one of the biggest mistakes you can make.
“Be clear about what kind of stock market we are operating in,” says Nigam. When you are applying purely for listing gain, an upward trending market helps.
When the market is fuelled by liquidity and trading in the overbought zone, selling on listing makes sense, even if with small gains, and at times even with small losses. “When the markets are going up, one has to be cautious. There is a chance that investors land into traps in good times,” says Nigam.
Investors however need to take a long-term view of the business. If you do your numbers right, then a rough patch in the stock market is a good time to add to your investments in IPOs.
Stop loss can save you:
Investing in an IPO requires a clear understanding of the business. But there are situations where despite all the efforts, one may go wrong. In that case, a ‘stop loss strategy’ can come to your rescue. “Define how much money you can afford to lose in each IPO. If the stock goes below that level, just sell,” advises Jasani.
This will help you to avoid deep losses. If you keep a stop loss of, say, 20 percent, then you will exit at that level. Your losses won’t go beyond that.
“After each IPO season, the number of stocks in investors’ portfolios goes up. It becomes difficult to track them. Sticking to a stop loss strategy will help you to keep the number of stocks in the portfolio in check,” adds Jasani.
Even if the price of a stock goes up after hitting the stop loss, one can re-enter at a later stage if there is clarity about the future.
Many smart investors tend to book their capital losses to reduce the tax liability. In FY22, many investors are sitting on handsome profits despite the current turmoil.
If you have some dud stocks received as IPO allotment, this can be a good time to take a relook at them. Consult your advisor.
If you sell below the IPO price, you are booking your loss which can be offset against some other profit and bring down the tax liability as well.
As the market returns to normalcy, you get many more opportunities to invest. If you free up your capital by selling dud stocks, then you are better placed to pick fundamentally strong companies.