Earning profits from stocks isn't a game of chance; it’s a tactical endeavor where insight and information serve as your most valuable tools. Historically, equities have emerged as the top asset class, and they are poised to continue outperforming in the future. However, achieving success in the stock market is not easy. Since the lows experienced during Covid, the Indian Stock Market has delivered impressive returns, yet numerous stocks have not fared as well, with some even leading to significant losses over time. Consequently, the question of "What to buy?" becomes the most crucial aspect of equity investing. Let's explore the GRPD Strategy, which can guide us in stock selection.
Growth
We invest in equities to enhance our capital. For this to occur, a company must exhibit growth in both sales and net profits. It is often said that "history tends to repeat itself," implying that companies with a track record of growth are more likely to expand their profits in the future. Thus, we should focus on companies that have achieved a 12% annual growth in sales and net profits over the past decade. Therefore, a 12% CAGR in sales and net profit serves as our primary criterion for stock selection, with consistency in growth being equally vital.
Return on Equity
Return on equity (ROE) is a metric that offers investors insight into how effectively a company is utilizing the capital contributed by shareholders. In essence, ROE evaluates a company’s profitability in relation to shareholder equity. Investors should consider only those stocks that exhibit a 5-year average ROE exceeding 12%.
Price to Earnings Ratio
The price-to-earnings (P/E) ratio assesses a company's share price in relation to its earnings per share (EPS). The P/E ratio aids in determining whether a stock is undervalued or overvalued. Presently, the post-tax return on Government Bonds is around 5%. Thus, we can deduce that a P/E multiple of 20 (100/5) is reasonable. We should seek stocks with a P/E multiple below 20. It’s crucial to verify the P/E ratio only after confirming compliance with the first two criteria.
Debt to Equity
The debt-to-equity (D/E) ratio compares a company’s total liabilities against its shareholder equity, allowing for an assessment of its dependence on debt. A higher D/E ratio indicates greater risk. Many stocks that have resulted in investor losses had high Debt to Equity ratios. Therefore, we should avoid stocks with a Debt to Equity ratio greater than one.
Comments