Estimated reading time: 5 minutes, 9 seconds. Contains 1030 words
Understand your risk appetite at an all-you-can-eat buffet of the Indian stock market
Consider an all-you-can-eat-buffet, the basic economics of a buffet is that for a certain fixed charge say Rs. 1,000 a person can eat as much as they want, it could be worth more than or less than or as much as Rs. 1,000. Now for those people who happen to have an appetite for food worth more than a thousand bucks, this deal seems like a valuable deal or perhaps you may call it a Reward. However, sometimes the person accompanying the person who can eat more than a thousand bucks is someone who might not have a similar appetite, that’s how the restaurant offering an-all-you-can-eat-buffet makes money.
Now imagine, you are the person who can consume your money’s worth of food, more commonly referred to as your appetite. Let’s just say that your appetite is as good as consuming Rs. 1,000 worth of food. Consider an all-you-can-eat-buffet A, B, and C worth Rs. 500, Rs. 1,000 and Rs. 1,500 respectively. Concerning the value you are getting in exchange for your money specifically, A and B sounds like a valuable deal and buffet C looks like an expensive deal.
But while eating at a buffet, we might want to consider external factors, always check that the food to be eaten is hot, covered, and stored at the right temperature, fresh food to be replenished regularly, plates and cutlery to be clean and dry, etc., etc. Usually, all eateries and establishments are required to follow a certain health standard, it’s highly unlikely for all restaurants to serve any same type of food under the same conditions, hence we use standard ratings provided by users on Zomato/Swiggy/Yelp whatever you may use. These ratings contribute to the popularity of the restaurant, the more popular the establishment the more premium the restaurant can charge, basic demand and supply economics here.
Why do these factors matter so much: because you want to consider the repercussions of your actions; anytime you take any sort of risk the first thing to ask is, “is it worth it?” Going back to our buffet scenario; sometimes overindulging at a buffet may cause an upset stomach which in turn may lead to wasted days and/or a doctor’s visit, medications, etc., etc. all of which may have monetary or emotional repercussions which could be added to the cost of the buffet.
Assumption: Chances of falling sick at buffet A, B, and C are 20%, 10%, and 6%
Now, where would you want to eat? The extra price that buffet C is charging is the premium for maintaining higher quality standards, perhaps using better ingredients or replenishing the food quickly or for better ambiance, either way, now Buffet C doesn’t seem too bad either.
This is exactly how the stock market operates!
There is a whole buffet of valuable companies looking to raise capital to grow their business. The trick is to find a buffet C type of company before all the popularity strikes up the pricing and the company starts charging obnoxious prices (we find that out by looking at the P/E ratio of the company, the higher the ratio the more premium it is, more on that later)
While we look for valuable companies that offer lower risks to our investments, we are trying to look for them while maintaining a valuable price vantage point. This is called value investing. The first thought that anyone associated with investing in the stock market is that it’s risky. True. It is but so is eating out apparently. It’s risky to drive but we still do, because it gets us to where we want to go. We take precautions, we drive at the speed limit, we keep our cars serviced, we fill them with fuel so we avoid any unfortunate circumstances. Similarly, with proper knowledge, understanding of the fundamentals of the stock market, we can mitigate risks and increase our rewards by starting to invest early.
A young investor is at an advantage. An investor’s age directly affects how much risk they can take on. A younger investor is generally open to seeking bigger returns by taking bigger risks. This is because if a young investor loses money, they have time to recover the losses through income generation. This may seem like an argument for a young investor to gamble on big payoffs, but it is not. Instead of gambling or taking highly speculative risks, a young investor should look to invest in companies that have higher risk but greater upside potential over the long term. These are smaller, less established companies, but many of them go on to become household names with long-term rising stock values. Young investors could invest in a diversified portfolio, or index fund, of small-cap stocks; which wouldn’t be recommended for older investors nearing retirement given the high risk.
The cherry on top is to find a group of young investors whose thought process is similar to yours, who want to grow, learn and attain financial freedom early on in life, to explore the wonder that life has to offer.
YWCO is a platform that encourages personal finance, promotes self-growth, and provides opportunities that support young India’s ambitions. Our programs are specifically designed for today’s generation-Z by industry experts.
A Young Wealth Creator starts to invest early and regularly to achieve financial independence early on in life with a clear vision of their goals set to perfection in compliance with the SMART goals, they consider the path they are on based on the merit of happiness and passion, they are exposed to ultimate techniques of opening the window to the soul within and align it with the window of opportunity to experience the careers that speak to them hands-on, before investing their money, time and efforts towards that career, to make the most informed decisions. They network with a “network that builds net worth” while being mentored by real-time industry players.