Now that we have established the ground rules one needs to understand in order to build a successful stock portfolio for the long term, the next step will be to understand what businesses should you be investing in. An important factor to understand here is that when you buy shares of a company, you are really owning a part of it. In essence therefore, if the company performs well and increases in value, your investment in it will also grow.
Over a period of time, the most reliable indicator of a company’s worth it it’s market capitalization. You need to multiply the Number of shares currently in the company by the share price to arrive at this figure. If the company is doing well, logically it will have an increased worth and that will be reflected by a growth in market capitalization of the company. Obviously the share price movement is based on multiple factors and you may want to read my earlier posts on this to get a better idea.
However, let us first try and understand what are the businesses that one should consider when you are trying to build a long term portfolio. One way to look at this will be to understand the current state of the Economy and demographics to decide which types of businesses are likely to do well now and in the future. Note that this has got nothing to do with reading Balance sheets or other financial statements of a particular company, it is at a far more generic level. There is no guarantee that your thought process will be correct, but if you are aware of things happening around you, read good business newspapers regularly and apply your common sense in an intelligent manner, you can come to pretty useful conclusions.
If you look at the trends today, you will probably see some of these that are listed down below:-
- We are having an ever increasing middle class that is becoming more oriented towards consumerism than before.
- Any business that is providing goods and services to cater to these demands are likely to do well.
- Societal norms towards dining out, travel abroad and owning assets such as cars have undergone a sea change, if you just compare them to what used to be there merely 20 years back.
- Though opportunities are significantly more today, a lot of people are chasing these. Education, therefore becomes a very important differentiating factor.
- As the general economy expands services such as financial and health services will need to scale up for catering to more people and therefore increased demand.
- As convenience of access becomes an important factor, new types of businesses will get started to cater to the newer set of customers who do not want to buy things traditionally.
- With rural India getting more prosperous there will be huge demand generation on certain goods and services.
Now, look at each one of these trends and think of the types of businesses that will benefit from these trends. For example, Banks and Healthcare will need to expand rapidly to take care of increasing demand. As people need more and better types of cars, Auto companies will increase their production and this will, in turn, cause the auto ancillary companies to grow rapidly too. More prosperity of rural Indian households will mean much greater consumption of FMCG company products as well as a higher demand for consumer durable such as TV, Fridge etc. I could go on but you need to complete this on your own. It is your portfolio so it is important that you have conviction in your own thought process.
Remember that we are talking of a long term portfolio, so do not get swayed by short term factors. For example, a poor monsoon this year may well depress rural demand for FMCG companies but over the longer term the demand is bound to grow well. Also, at this stage think of businesses and not individual companies. We will come to these later on.
The end result of this exercise will be for you to identify anything between 5-10 business types that you would like to invest into for the long term. There can be changes to it over a period of time but when you are starting off you must be absolutely clear as to why you are wanting to choose these businesses.
Once we are clear about the business types we can then get down to selecting the specific companies to invest into.
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