Widespread but totally irrational is the behavior of many a
lay investor on the stock market. They
buy high and sell low, totally opposite to what commonsense demands.
Greed and Fear, the twin internal ghosts that had remained
unexercised, is at the root of this sad malady.
Anyway it is a long and different story; let us focus on the subject at
hand.
Lay investors usually enter the stock market very late,
nearly by the end of an enthusiastic price surge – a Bull Run. They know very
little about investing, leave alone investing in shares. They enter out of greed, lured by chances of
making a fast buck. Mostly they borrow money – at high interest – and
invest. The prices they pay for the shares
they buy are invariably high and unsustainable.
While the lay investor can be excused for their judgmental
error, the mutual fund managers, who are supposed to be experts, and on whom millions
of ordinary investors repose their trust also end up in the same situation, not
out of ignorance, but due to circumstances.
During enthusiastic market conditions, a large and different kind of lay
investors, again drawn by the desire to make fast returns and aware of their
ignorance of financial markets, pump money into mutual funds, a relatively safe
and prudent bet under the circumstances, in their view. The fund managers are now faced with a sudden
and a very serious problem of plenty. In
the financial world, money cannot be kept idle even for a second; it has to
invested immediately, in order to generate a return. The market being high and prices being
unreasonable, and yet burdened with excess funds that need urgent deployment,
fund managers end up committing the same mistake as lay investors - investing at
very high, unjustifiable and unsustainable prices.
In the mean while, the print and television media pour fuel
to the fire, by generating relentless noise in support of perpetual advance in
the market – meaning prices of shares - like how the market is unstoppable on
its march, predicting still higher market levels, and so on, roping in brokers
and experts, who mouth similar platitudes.
Such a market condition provides a great and unique
opportunity for the value investor to harvest his crop. He sells his shares he had accumulated over a
long period, at very low and attractive prices, during market lows, to the
optimistic recent entrants.
As can be expected, following the general law of
gravitation, which postulates that whatever goes up has to come down, the
market rapidly melts down and eventually crashes. There is a worldwide, general carnage. The lambs are being slaughtered mercilessly,
and there is nowhere to hide.
Greed is replaced with fear.
Both the lay investors and the fund managers panic and push the sell
button hard. The same media and experts,
who till yesterday were praising the market, change tack and start spreading
gloom, by highlighting the crash in horrific and graphic details, making
references to the Great Depression of the 1930s, and so on.
In the process of the market’s rollercoaster ride, thousands
have destroyed valuable capital, decimated lifetime savings and their ancestral
properties, and ruined their lives and those of their dear ones.
Market at this juncture is unjustifiably low and shares of
blue-chip companies are available at throwaway or very attractive prices. The situation presents yet another unique
opportunity to the value investor. He
pounces at it, and buys the same shares at very low prices from players who are
extremely pessimistic about market. The
value investor might even have purchased from the very same pessimistic
investor, to whom he had sold at very high prices, when that investor was very
optimistic, not very long ago!