On the face of it, the two rules look pretty obvious. So, let’s delve a bit deeper and examine and crux of them.
People invest in the stock market with the intention of unearthing multibaggers but the problem with this approach is that we usually take more risks than required in our extreme greed to get rich quickly. This is an erroneous approach to investing in the market. The investor’s primary goal should be to avoid bad companies, if an investor is able to do that, he is bound to receive handsome returns in future .This is because it is the inherent nature of the stock market to rise perpetually in the long run. So, if you have a Portfolio in which you have protected the downside you can be rest assured that great times are ahead.
Focus on buying stocks in which the downside risk is limited
This attention to buying stocks with downside protection is also important because of the Peculiar mathematics involved. Suppose you buy a stock that was trading at rupees 100 and it falls to rupees 50 (loses 50% of its value). In order to recover your losses, the stock needs to rise not 50% but 100% just to get you back your invested capital. The “Rabbit vs tortoise” story is tailor made for investing. If you keep compounding at a decent rate year after year, you’ll end up creating huge wealth so what is important is that you are at it all the time just like the tortoise.
Let’s understand it this way, if you compound Rs 100 at 15% for 2 years, you will end up with Rs 132.25 , whereas if you compound at a glamorous 50% in the 1st year and -15% the next year, you’ll end up with 127. 5 rupees. Consistency is invaluable !