Wealth creation - past and future

Surely, the goal of any equity investment is to create wealth. Therefore, a hunt for the greatest wealth creators must be for the most profitable stocks. What's so special about wealth creation, you might ask? If a stock makes you money, then it's creating wealth. What else is there to wealth creation?

To answer that question, think of what the word 'wealth' implies, in contrast to being merely well-off or even prosperous. Wealthy means someone who has a lot of money and has had it for a long time, generally spanning more than one generation. Or, to use a more contemporary term, it means seriously rich.

Therein lies the difference between just choosing stocks that have made money and those that can create wealth consistently. Unlike most such analyses, 'Wealth Insight' looks for India's most consistent wealth creators. In our selection and analysis methodology, we give heavy weightage to consistency. If two stocks generate the same returns over a decade, but one of them has a lower 'best' year than the other, then guess what, it will be considered better in our way of looking at stocks. You heard that right - a better 'best' year means that it's a worse stock! Why so? Because it implies higher variability and lower consistency.

This leads us straight to the question of why consistency is so desirable. The reason is simple - what happened in the past is useless, unless it can serve as a guide for the future. How does it matter to me as an investor that for some reason, a company did well for a couple of years here and there? Even if a great year or two makes the average performance pretty good, it serves as a poor guide to the future. Consistent past performance can be a guide to future performance, but flashes in the pan cannot be. Every experienced investor understands that. If the experienced investor is also a cricket fan, then the understanding is even deeper, but that's a separate story.

That's the reason that our quest in Wealth Insight's November 2022 issue's cover research (I think 'cover research' is a more suitable term than 'cover story') is centred around consistency. Some of my more astute readers may have noticed that so far on this page, I seem to have fudged the issue of what this performance is that I'm speaking of. Is it stock performance, as in the returns delivered to the investor? Or is it fundamental corporate performance? The answer to that is sort of both. We have what I would call a blended methodology, which looks at stock performance but is tempered with an element derived from the companies' financial fundamentals.

For investors to make money out of a stock, many elements have to come together and none of them can be ignored. My favourite (a little extreme) example of this comes from the time two decades ago when tech companies were flying higher than anyone else. If you had invested in Infosys in early 2000, you would have found yourself in negative territory for almost a decade. The stock rose above that high in 2006, but the 2008 global financial crisis happened and the story started again. Infosys decisively and permanently moved above that 2000 high only towards the end of 2009. That's a very long time indeed.

However, there was nothing much wrong with the company and the business. The industry evolved somewhat, but within that context, Infosys did very well by any fundamental measure of corporate health. And yet, investors had a 'lost decade'. This is why the blended approach that 'Wealth Insight' takes is the only sensible way to approach equity investments. As investors, we need to pay attention to everything and get everything right. That's the nature of the game.