I go to various shows and lectures and I am asked “what will happen to the market” or “where will the index go in ….time frame”. Honestly, I do not have any answer to that.
To be able to predict the Sensex (or Nifty) one has to be able to predict the price of all the 30(fifty) shares, their PE, and the Earnings and the PE of the fund. Not at all easy. In my view, too cumbersome, and too painful. Even worse, completely useless for me.
However, I know how to value a single share. I do that or get some kid to do that for me. More of the latter these days.
The value of a share is the amount of cash that it can bring to you (an asset puts cash in your hands). So what all are important for you as an investor?
a) Dividend and b) Growth of dividend -i.e. the rate of growth
The first element is the starting yield or annual dividends divided by share price currently about (say 1%) Second is earnings growth, which historically has averaged about 13%. Together those sources constitute the “investment return,” because they are based on the cash that company generates . If you have not guessed, the company is Cholamandalam finance.
Next is the “speculative return,” or any change in the psychology of how much investors want to pay for this share. The share is priced nowadays at about 15 per 1Re of earnings per share, or a price/earnings ratio of 15.
If that ratio rose to 30 over the coming decade, that would be roughly a 100% increase — boosting returns by about 7 percentage point annually. On the other hand, if the P/E fell to 10, that decline of more than 10% from today’s level would lower the next decade’s returns by about one-half percentage point per year.
That 1% dividend yield, plus the 10% earnings-growth rate (I do think 13% per annum is not sustainable for 10 years) equals a 11% growth . If market valuations rise one percentage point annually, that would take average returns up to about 12%; if they fall the same amount, total returns would drop to about 10%.
So if nothing goes wrong I should expect to earn about 11% in this share, assuming that the starting point of Rs. 159 is correct.
This is of course pure theory. In real life things could go very different..but my expectation from this share is around 11% every year for 10 years. This gives me a long term view.
Then I project the price on a year to year basis. If the earnings keep growing – say by 11%pa on a Q on Q basis, I have no reason to sell.
If it grows by say 18% in one year, I assume that my next years return is already captured. If then it declines by 10%, I am still fine, because in the previous year it has exceeded my expectation.
When would I sell?
I would sell if it moves too far ahead So if I see my 2025 price in 2021, I will sell.
If I need money to buy something else at a faster growth rate, I would sell.
Would I sell now? NO.
I do think the fair starting price for Chola is about 300. So till it reaches that price, I will not sell.
then of course the numbers will change!
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