Fear & Greed

in this episode, Avnish Bajaj (Founder & MD, Matrix Partners india), talks about the investment cycles of fear and greed with reflections from his first exposure to the high's and low's of the cycle. From Peter Lynch to Warren Buffet, he touches upon the investment philosophies that helped shape his own strategy and approach to the cycles, how to avoid the most common mistakes made in investing and navigate your way through a bear market.

Fear & Greed

Salonie: Hi and welcome back to Matrix Moments, this is Salonie and in today’s episode we’re going to be talking about the investment cycle of Fear & Greed, with Avnish Bajaj, Founder & Managing Director, Matrix Partners india. So, “Be fearful when others are greedy and greedy when others are fearful”, as Warren Buffet famously once said, how many of these cycles Avnish have you personally gone through and what have your reflections been on this?

Avnish: Thank you Salonie, for inviting me again for this session. i think it’s very topical right now though i’m not sure by the time we air this what the situation will be, but i think we’re clearly in the middle of a fear cycle now. See, in my view it’s not about necessarily- obviously there’s a cliché about fear and greed cycles. My first exposure to cycles and to not go with the flow, essentially fear and greed is about not going with the flow, was when i was- way back, when i had just gone to the US in 1993/1994, i had just started working and i got a call, and when you watch these Wall Street movies you see all these trading desks where people are calling and hustling people and i was clearly one of those who was about to get hustled. i get a call and the guy says you know, and remember that i’ve just gone to the US maybe a year or two ago so i didn’t have as much exposure to all of this, and the guy says, “let me tell you a secret, what is your annual salary?”, let’s say it was $50,000 or $60,000, he said, “For $5000 dollars i’ll get you $50,000 in the next 3 months” i was like wow that sounds really good but i was not that naïve so i said that sounds too good to be true, it doesn’t work etc, and he goes, “here’s the logic in the US in winter oil prices go up because the winter is very strong in the mid-west so the heating oil prices go up” and he gave me this whole schpeel that sounded very logical, and i said that makes a lot of sense everybody should figure it out and he said no but this is just normal cycle like when you have seasons when something is in more demand the price goes up and the price goes down so the markets are still early oil futures have just started trading in deep volumes in the Chicago exchange so you buy futures with $5000 when the price goes up i will call you and i’ll tell you when they’re supposed to go down again, and you’ll sell at the top you’ll make 10x. i said okay, i didn’t have $5000 but i figured it out, maybe i took a credit card advance or something and i invested $5000. That year was a mild winter so the prices didn’t go up they did go up a little bit but didn’t go up that much and this whole futures and options trading is about very tight and narrow bands and you have to take certain calls right, that’s when i learnt for the first time that if it’s so obvious it’s obvious to everybody so that was the first exposure, made me a little bit vary.

From that point on just out of personal interest even though i was a software engineer i read every investing book that was out there from ‘93 to maybe ‘96 around that period, whether it was Peter Lynch, Charles Schwab, Benjamin Graham, Warren Buffet, everybody’s books and i understood this whole philosophy of bottoms up investing, like Peter Lynch for example literally used to say look what is happening around you and if something is doing very well, that’s what your edge is, the other people are not out there their just reading stuff their not out here, which is what we today call primary dd, between ‘94 and ‘97 i think i did a very good job on this stuff and investing well with hardly any net worth built a few $100,000 portfolio, which was through business school and then the dot com bubble bust happened and i got wiped out and this is why fear and greed cycles are important typically, when a rising tide is lifting all boats you start becoming more and more confident and you make the biggest mistakes close to the top of the cycle, so i had gone back to never trading options and futures between ’95 and ‘97/‘98 and then because i felt i was so good and everything was going up i started saying okay now i can do options and futures and basically got wiped out in that cycle, so that was the second cycle. After that i’ve seen a number of sectoral cycles in india, the internet has had multiple false starts there was a cycle in 2007 there was a cycle in e-commerce in 2011-12 there was another cycle in 2015-16. i think we’re just entering another bubble on certain sectors within the indian internet but at the same time you have other sectors that are blowing up.

i think what people need to understand is why are there cycles, cycles are actually normal, if you have to start any industry and if you have to innovate and you have to disrupt, you have to attract capital to it, you have to attract people to it, you have to attract media buzz to it and that’s what happens, every sunrise sector goes through a boom and bust and the reason is that first people see something very fundamental like today in NBFCs what did people say - hey india is underserved and then more and more resources start coming to it and then those resources start getting carried away and then the opportunistic people start coming into it and that’s when a bust happens and then it cleans it all up but a fundamental shift and innovation would have happened and you would’ve gone to a different level. Even though it is very, very painful to actually live through those cycles of the up and down, in my view i call it creative destruction you actually need it for the bust to happen after the boom but without the boom if it was simple linear movement from left to right the amount of creation and innovation that happens would not happen so its normal but its nerve wrecking.

Salonie: So if things eventually all pan out and fall back into place then why bother at all and not just ride the cycle out?

Avnish:The key is to recognize where you are in the cycle if you don’t recognize where you are in the cycle that’s when all the money is lost, right? And if you recognize where you are in the cycle often all the money is made because of that. Now there is a different point of view on being able to time markets and stuff like that, i don’t believe beyond a point you can time markets but where people make a mistake and where people would’ve made a mistake over the last year probably with NBFCs or some of these Fintech companies is to buy very close to the top because you may go from a 100 to 200 and somebody who got in at a 100 has doubled their money somebody gets in at 160 goes to 200, 30% correction happens, they’ve lost money. The person who got in at 100 is still in, the key is to be thoughtful and understand where you are in the cycle, is my view, i know people think it’s a correction and it will bounce back, i’ve taken some wagers on it and i’m willing to go out on a limb and be wrong about it, my view is this is the beginning of a- we haven’t hit bear market yet but it will be a bear market in india, could even be globally i don’t know because globally there’s more liquidity than there is in india, and i believe that this phase is going to be deeper than people think and there’s a classic term in the stock market called ‘dead cat bounce’ which is things bounce back one day and they go back and they say never catch a falling knife.

So in the chart we show that this has just passed the top where caution and fear are taking over and whenever a situation comes about because of the financial services sector, it generally plays out faster and deeper than people think because the financial services sector is a very, very core sector of the economy and there are a number of things that are connected, and i can give you one example, just because i’m in the market to buy a home because of this situation with NBFCs my bank is raising the interest rates on me, it may well bust my budget it may or may not, but it may bust my budget i may not buy that house, if i don’t buy that house the developer doesn’t get the cash flow, if the developer doesn’t get the cash flow he’s not going to buy more cement, so this is very tightly connected generally plays out longer and deeper than people think. Actually faster and deeper than people think not longer, because the other thing about your question why bother there is something to be said for the fact that worldwide in the history of financial markets or any assets the bull markets last much longer than the bear markets, right? People are feeling good for a much longer period of time than their feeling bad, the problem is therefore that they forget the bad times and the severity of it also, but the way to play it is to recognize that the bull markets are much longer but one should be thoughtful about when to sell somebody said it very well to me that, money is made when selling not buying, right? so you have to sell but most importantly don’t buy at the wrong time that’s the core reason of why bother.

Ultimately it’s a business of buying and selling and i’ve been telling our team as you know internally, in my view now is the time to invest in financial services with a time frame of 6 – 9 months of letting things settle down, the last 1 year was not the right time to invest in financial services. So that’s the key. On a lighter note i’ll tell you a joke or it’s a reality i think, i heard from Paul Ferri who is the founder of Matrix, he said there was this very successful investor in the US, and he would come in and he had a massive mahogany desk, he would open a drawer look inside close it and then make his decisions for the day, he was very, very successful. Once he died people said lets go figure out what the secret is and they opened the drawer and it said buy low sell high that was the secret and i think people forget that through the cycles and that’s the main reason to understand where one is in the cycle.

Salonie: But how would you say one should exercise control over emotional investing and what is the right strategy to adopt at a time like this?

Avnish: So first of all – go read! There is a ton of literature out there whether its Warren Buffet there are a whole bunch of these- bull markets are not the time or favour for value investors whether its Charlie Munjal who is Warren Buffet’s partners or Warren Buffet, but the value investors, the fundamental principles that they teach you apply across cycles. My view and my advice is go read a lot because in bull markets one would say why would anyone think about value when there is so much growth and stuff like that. The number one thing in investing is to be cynical, what you see is not what you get and there is you know all the sayings are out there, there are no free lunches, just having that cynical point of view which to me, i try to practice in the fear cycles also. Today like i said i think it’s a good time to invest in financial services in my view the last 2-3 years after there was some e-commerce disruption and people thought Flipkart and Amazon will win everything in my view last 1.5-2 years has been a great time to start e-commerce businesses. Essentially best businesses are built, best money is made counter cyclically, Apple we had discussed once was built in a recession, well the main come back was through the dot come bust, Google is a recession company, Facebook is a recession company because people do things on first principle basis, one has to separate fundamentals and sentiments and often people get carried away by sentiments whenever you’re feeling that it’s not easy, but you have to understand that emotions are sentiments their not fundamentals.

The other thing i think about and talk about and i know it sounds a little bit cute but i truly believe it, which is separating bubbles from froth when you prick a bubble there is nothing left, when you remove froth there is still substance so if you ask me today if e-commerce bubbles go high up again that’s froth not a bubble, 2010-11 was a bubble 2015-16 was a bubble now there is real consumers. NBFCs started with froth which is high valuations and went into bubble territory where there was no fundamentals on which they’re giving 3rd/ 4thloans, same thing happened with microfinance in 2010. So one has to separate whether there is a fundamental structural secular growth in the sector and that valuations have gotten carried away which is froth or there are just no fundamentals and it’s all sentiment.

Salonie: Thanks Avnish. Thank you for listening and you can find the transcribed version of this podcast on www.matrixpartners.in. You can also follow us on Twitter and Linkedin for more updates.