Is Your Investment Profit Skill or Luck? Investment Checklist and How You Can Create One

For the last few months in NEPSE, investors engaged in stocks without knowing much about the company, its operating profitability, its capital structure, and so on. They were actively investing their hard-earned money in stocks because either their peers suggested it on Facebook or they saw the stock soaring. Some of them might even have made massive gains, as almost everyone is lucky in a bull market.

However, luck feels just what it sounds like. An investor can't get lucky every time. An inconsistent investor with a defective strategy will fail big sooner or later. So, what is the right way to invest?

One of the most important processes you can go through before making any investment is to go through your investment checklist. Some of the investors might have heard about the investment checklist and some of them might be hearing this word the first time.

An investment checklist is nothing but a series of questions you ask yourself about the company before making an investment. Consider this example; suppose you are willing to buy a laptop but you have little idea on which laptop to buy. Now, the first thing you do is google the best laptops for business, gaming, or whatever your purpose is. Then you look at its specifications and discuss with your peers. Only then will you make a purchase. Buying stock should involve the same process. In fact, your due diligence should be more detailed since your investment is worth many times more than the price of a laptop.

First, you look at different companies, then you look at their sources of revenue, the major cost which is eating much of a company's revenue, and what the company is doing to cut expenses. Due diligence also involves looking at a company's future plans, its returns on shareholder's funds over the period, etc. Then you look at the macro scenario. If there are no negative scenarios, you consider buying the stock for the time being.

If that is not what you do before buying a stock, then your money might be at great risk in the stock market. Remember, an investor is as good as his strategy. Stock markets are also a place to lose money, just like they are to gain.

Now, let's look at an investment checklist of one of the most successful investors; Mohnish Pabrai.

Most of the investors might not know about Mohnish Pabrai but he is one of the most intelligent and successful investors. Pabrai is also the author of the book “The Dhando Investor: The Low-Risk Value Method to High Returns”. He runs his own fund management “Pabrai Investment Funds” which has returned a cumulative 517% net for investors VS 43% for the S&P 500 Index since its inception in 2000. So, what are the factors that made him a successful investor?

If we watch his interviews, he always talks about going through an investment checklist before investing in any company. In one of his interviews, he says that he didn’t create an investment checklist just for the sake of creating it, but he created an investment checklist based on real losses successful investors faced when they missed something elementary. So, in this article, we will be dissecting his investment checklist which might hopefully help us build our own.

• Circle of Competence

What circle of competence really means is whether you understand the business you are going to invest in or not. In Pabrai Investment Fund, they quickly pass those companies which they do not understand. They don’t give a second look at it.

For the most part, it is true; why get on a horse if you can't ride it.

• Quick Valuation metrics:

What he goes on to describe is that, if he finds a business that interests him then he gives a quick scan of its valuation metrics. So, in this what he is basically looking at is the discount (in his case, a minimum of 50%) he is getting at a current price compared to its real value. For example, if a stock is trading for Rs. 100 but the value of the stock is worth Rs. 200, then he moves on to further process. However, this kind of deal is hard to find which is why patience is key for those who aim to gain a better deal.

• Try to get to a “No” ASAP

Now, this might sound like trying to reject their own process but what it really means is they are trying to find something from the business itself which might tell them that the business is not investment-worthy. They try to look into the business model, its information from the annual report; the moat of the company, its management, how leveraged the company is. He is basically applying his personal biases. During this time, if they do not get a clear-cut reason to say no, then they move on to a further checklist.

This is nothing new when we really dive into it. If you ask why he is so successful today, it’s because he stuck to this philosophy while other investors were trying to find the next big thing.

Thus, having a series of a checklist that fits our investing philosophy gives us a roadmap to building a portfolio that allows us to have a conviction to our investments and not worry much about how the market is doing. 

Article by Prajwal Shrestha