Rakesh Jhunjhunwala's Real CAGR

I have always wondered about the real CAGR achieved by the big investors. Stories are created and floated in the market to make their achievements look much bigger than what they actually are. Rakesh Jhunjhunwala is unarguably the most successful investor on Dalal Street. I was always interested in knowing his real CAGR. The problem is that the stories created around him make it almost impossible to gauge that. It requires some glimpses into his early years as an investor/trader to know the approximate CAGR achieved by him.

As per the fable, he came to Dalal Street with 5000 Rs in 1985.  And now considering that his net worth is close to 2 billion dollars(12000 crores), the CAGR achieved will be closer to 77%. For a 30 year period, achieving a 77% CAGR looks almost impossible, and I never bought into the story.

Recently, RJ was interviewed by Ramesh Damani and N. Jaikumar (of Prime Securities fame in which I successfully managed to lose two thirds of my original capital in 2008 in just 3 months. Sometimes, I will write a blog on phony, nice sounding, TV-appearing people and their investment (mis)achievements but for time being let us focus on their interview). A good portion of the interview was spent around the early years of RJ in Dalal Street. Some facts were stated about his early years, which make his story much more clearer to us. As per the story, even though RJ came to Dalal Street with 5000 Rs in 1985, in 1986 he made 25 lakhs. This is a very very important fact and takes us much closer to the real achievements of RJ.

Being investors in the market for long, we all know that by no means one can convert 5000 Rs. to 25 lakhs in a single year. So, assuming that RJ started his investing journey with 5000 Rs is either false or only partially true. At least, the fact that RJ started his investment journey with only 5000 Rs should not be interpreted as "he had only 5000 Rs and all his net worth was created out of these 5000 Rs by investing them in the stock market" as most of us do. Based on the facts stated by him, it is highly likely that he had at least 10 lakh Rs to invest (assuming that his networth jumped by 3.5 times (highly optimistic) in the first year). So, a much more realistic scenario is that RJ started his investing journey with 10 lakh Rs in 1985 and now in 2015 he has 12,000 crores. This is a CAGR of close to 48%, which is great by all standards but much more realistic.

The other way to calculate his CAGR will be to ignore the first year and go by the fact stated by him about his networth in 1986. So, if we remove the first year and start from 1986, his networth has jumped from 25 lakhs to 12,000 crores in 29 years. That will still be closer to 45%. So, based on all the realistic facts, RJ has achieved a CAGR of 45-50% for 30 years. That is a great achievement, but not very unrealistic. All of us can target for it, and probably many of us will be closer to that for a shorter period of time.

The most important lesson of this fact is as follows. "If one can compound his networth at 45% for a 30 year period, he can easily become a billionaire starting from a modest sum of 10 lakhs". Another important fact that we should not ignore is the drop in CAGR rates with the increase in the corpus size. So, in the same interview, RJ mentions that his networth was 20 crores in 1990. That is an increase of almost 100 times in the first 4 years of operation. That will put his CAGR for first 4 years at 200+%, which is truly remarkable. But this also points to the fact that RJ has achieved only 30% CAGR since 1990 which is remarkable but not very far from what many investors have achieved on Dalal street for a shorter period of time with smaller corpus sizes.

Based on all these facts, it appears that RJ's journey has been great but not an impossible one. Many of us can try to emulate his journey and hope to do equally well.

Please find the link to the interview below.

http://www.moneycontrol.com/news/market-outlook/grab-opportunities-buy-first-research-_1329409.html

Some Risk Management Lessons From Guru Warren

The blindness to risk in the buoyant environment of 2003-07 and the subsequent fall in 2008 (67% down for the year) taught me a lot of useful lessons. Some of those were captured in my earlier blog on Risk Management here. Those lessons still serve as guiding principles to me. From time to time, reading books like "Black Swan" and "Fooled by Randomness" also helps in emphasizing the importance of risk management in investing. But, there is a continuous need for improvement, esp. in an environment where stocks are becoming costlier by the day. Reading the latest letter from Warren Buffet to Berkshire's shareholders gives some good insights into the risk management strategies practiced at BH. Interestingly, whatever is applicable to one of the biggest corporations in the world is also applicable to small investors. Here is what Guru has to say.

Financial staying power requires a company to maintain three strengths under all circumstances: 
(1) a large and reliable stream of earnings; 
(2) massive liquid assets and 
(3) no significant near-term cash requirements. 

If one pays attention, it is not difficult to understand that individual investors must practice these mantras as well.

A large and reliable stream of earnings -  This statement simply means that we should own many sources of earnings(diversify) and the companies that we own should have reliable earnings(Consistent). At some other place in the letter, he mentions the criteria that Berkshire applies before purchasing a company.  One of the important ones is as follows.

Demonstrated consistent earning power (future projections are of no interest to us, nor are “turnaround” situations).

Above mentioned criteria clearly tells us what kind of companies we should own and what kinds we should avoid.

As far as diversification goes, everyone has their own criteria and comfort level. Too much diversification leads to leniency in stock selection, while too less diversification exposes one to black swans. One needs to find his comfortable mean and stick to his principles. But definitely owning one or two stocks is ruled out.

(Massive) liquid assets - Many individual investors utilize leverage. It really works well in early stages of a bull market. I myself used 10% leverage for generating higher returns in 2014. But, as the market matures, we should definitely move towards liquid assets. Remaining invested only to the level of 75-80% and keeping 20-25% as cash in a matured bull market should be considered by every serious investor. In challenging times like 2008, it helps us in keeping nerves calm and allows us to invest in some really good businesses at reasonable prices. After all, longevity in investing is far more important than a great performance in the short run. In Guru's words:

At a healthy business, cash is sometimes thought of as something to be minimized – as an unproductive asset that acts as a drag on such markers as return on equity. Cash, though, is to a business as oxygen is to an individual: never thought about when it is present, the only thing in mind when it is absent.

No significant near-term cash requirements - This is directly related to the liquid assets. If you are debt laden elsewhere and you have obligations to pay, then your liquid assets will be of no use in bad times. All the lenders will want you to pay in the bad times. And, liquid assets are useful only when the times are really bad. So, if you have an obligation to pay in near term, please don't count on your liquid assets as they might get utilized for near-term cash requirements. Actually, to reduce risk, we should try to remain debt/obligation free at all the times.

There are many important nuggets of wisdom in the letter and I would recommend all of us to read it. But, if one could only take this risk management part and practice it, his investing life would be much more satisfying and fruitful.