25th October was a strange day on the Indian stock markets. The stock prices of public sector banks went up in ratios never before seen for large businesses. State Bank of India gained Rs 60,597 crore in value on a single day and vaulted over four other companies to become the fifth most valuable company in India.
What does a day like this mean to investors? I don't mean just in terms of numbers--obviously, those who held these stocks--either directly or through mutual funds--made big gains. I mean what could an investor learn from this day? In the future, how would the events of the day help in sharpening the way you evaluate investments?
The answer, I'm afraid, is nothing much. A day like 25th October teaches us very little about equity investing directly. It tells us that PSU banks need money and if the government puts in a lot of money in them, then they can be more valuable. But everyone knew that. At a more generalised level, it shows us that if there are companies that have a lot of strengths and a few weaknesses--and the weaknesses appear solvable--then all you have to do is for someone to come along and try to solve the weakness.
But one can generalise even more, and make this idea more useful. If you generalise more, you just get this: Buy stocks which are being sold for less than their intrinsic value. At that point, you have basically just restated the central tenet of Value Investing, which was more or less invented by Benjamin Graham in the 1930s. The events of October 25th do not add anything substantial to our understanding of value investing.
However, reading various reactions to October 25th in the mass media as well as social media, it becomes obvious that it is possible to draw remarkably misguided conclusions too. For example, PSU stocks are good to buy because the government may do something that will suddenly boost them. Which is true, but it's just as likely that that they will get ignored and wither away. PSU banks are/were a unique case because of the extent of the undervaluation and an obvious first step in rescuing them.
There are many investors and fund managers who never lost faith in the better PSU banks. Their logic was straightforward--eventually, the Indian state will have to find a way (or should I say 'find the will') to recapitalise these banks. Realistically, there is no alternative. Ergo, they were a huge value investing opportunity. Of course, the Narendra Modi government has started off the process with a characteristic flourish which has generated a giant bump in these stocks' price curve. If the same gains had accrued over say, two years, they would just have been routine good news.
If 25th October strengthens your belief in buying undervalued investments, then that's great. However, there are even more dubious lessons to draw than to look for PSU bonanzas. The worst generalised conclusion to draw is that stock investments are about anticipating one-off investing bonanza and then watching the news hawk-eyed, ready to play fastest-finger-first on the trading terminal. If that's what people have taken away from these events, then they couldn't be more wrong. As an input to investing, most news, breaking or otherwise, new or old, exciting or boring, is useless. It's a completely wrong idea that it's vital to stay informed up to the minute with what is happening and to react immediately to whatever is happening. This notion is not only wrong but actually quite harmful.
Remember, on 25th October, those who were buying PSU bank stocks were not the ones making money. They were buying stocks at a much higher price than they were available at just 24 hours ago. The smart ones were the ones who had already bought these stocks over the last couple of years. So the ones reacting to the news are definitely not the smarter ones.
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