Why retail (small) investors should stay away from SME stocks?

By     |     June 10, 2018     |     7 Comments

Since 2010, I am in the stock market. Since 2016, I was also investing in SME stocks. Many times, my name popped out in the shareholding pattern or bulk deal in few SME stocks. Thus many investors ask me about those stocks sometimes in the email, sometimes on Twitter and sometimes on Facebook. For multiple reasons, I try avoiding to answer. Many investors believe that as I am investing a significant amount so the stock must turnout as a multibagger. Yes, it is true that from few SME stocks I made a multifold return, but you don’t know about losers and the potential risk of investing in SME stocks!

How I lose 100% in one of the SME stock?

First, let me clarify that the stock I am going to discuss (or any other SME stock) was not recommended to any of our advisory service members due to very low liquidity and low free float, it was purely for my personal investment.

During August 2017, I had visited Gujarat for meeting the management of three SME companies. Among 3 investment, 2 stocks are doing good till now and another stock resulted in 100% loss. Here are the event flows –

  1. I had invested between July to September 2017. There was unrealised profit till March 2018, peak unrealised profit was around 60% in the month of December 2017.
  2. Suddenly, in April 2018, the company notified BSE about a major fire breakout in their factory premises. As per their report, although there was no loss or injury of human life but the entire factory was hugely affected. Till then, it was acceptable. Nobody can do anything in the event of the real fire accident.
  3. Within 10 days from the fire reporting incident, the real shock came. The lead banker classified their loan account as “Non-Performing Asset” (NPA) due to the non-repayment for the last few months! After this announcement, the stock was in continuous lower circuit. Being in SME platform, there was no traded volume for most of the days.
  4. If it was the only fire breakout then I had no issues. However, NPA declaration by the banker means, there was some serious trouble for the last many months that the company was hiding. Stock exchange disclosure of NPA just after fire breakout means the entire fire accident is itself doubtful. No investor can ever know whether it was a real accidental fire or something incidental. Is the fire really caused serious damage or the fire is just an excuse to washout their previous misdoing?
  5. Moreover, SME companies are not required to declare the quarterly result. They are required to report only half-yearly result. It means, after publishing April-September 2017 result, investors need to wait for another 6-8 months to know their present financial state. The financial number for October 2017 to March 2018 was expected to release before May 2018. Instead of the result, the company reported fire incident, NPA and also notified to the BSE that due to the fire they are not able to publish result! All documents are damaged so it will take another 5-6 months from May 2018 to publish the result for the period of October 2017 to March 2018! In the meantime all independent directors, compliance officers etc resigned!

Needless to say, there were no buyers for the stock since April 2018. I was also trying to sell since April 2018 but being an SME with low float the selling was actually not feasible. If it was some mainboard BSE/NSE stocks then at least there would be some exit opportunity even at a heavy loss but as it is an SME so no exit option even at a heavy loss. The shares are still in my demat but I marked it as 100% loss due to no exit opportunity. (I am not disclosing the name because still, I have my holding the shares and trying to sell.)

The stock (or any other SME stocks) were not recommended to any of our members because due to low liquidity it is actually not feasible for the public recommendation.

How I reacted to the 100% loss?

Remember, inspite of management visit, inspite of maximum possible due diligence from the publicly available data, I ended up with 100% loss in my personal portfolio. I was wondering whom to blame! I have the mobile number of the CFO. Should I call him for the suspected misdoing? I actually did nothing. I didn’t find any big fault from my side so I just smiled at my own and moved ahead.

The lesson that I want to communicate that no matter how great equity analyst you are, no matter how much research you do, no matter how many times you meet the management, while you are investing in the stock market there is always a chance of losing money. If you can’t accept losing money then stay away from the stock market. You can never know exactly what is going on in the mind of promoters, this why in the recent days we noticed a huge number of corporate governance issues and sharp fall in the stock price. Vakrangee, PC Jewellers, Manpasand Beverages, PNB, Atlanta to name a few in which even big fund houses and reputed investors got trapped.

Another interesting recent incident on SME stock (12 Lacs Loss) –

I had invested in another SME Jhandewalas Food during January 2018. (Disclosing the name because I have no position left in the stock). Here are the event flows –

  1. During mid-April 2018, I have some fund requirement so thought selling Jhandewalas at loss. It took around 3-4 days to gradually sell my entire holding around Rs.43-45 with the overall loss of approx 12 Lacs.
  2. Just after my selling, over the next 2-3 days, the stock price jumped from 45 to 65. There was no result announcement, no significant development from the company end. Actually, two entities purchased the shares from the open market (as reported in the BSE Bulk deal) worth 60-70 Lacs and thus the price moved up by 44%+ in a matter of just 2-3 days.
  3. It means if I started selling after 2 days or if those entities purchased before 2 days, my loss would have been reduced from 12 Lacs to 6.5 Lacs (approx)! Imagine, a difference of just 2 days and my loss would have been reduced by 6 Lacs!

You might think that it was just a case of “bad luck”. To be frank, I never blame my luck because in the many past incidents stock price dropped just after my selling due to some random events. So, if random events can happen in my favour in the past then someday it must happen against my favour too. I can’t consider myself “unlucky” in that case. I just introspect myself and realised that my purchase price and time itself was wrong and just moved ahead after learning the lesson.

The point that I want to communicate is that in the stock market many times you can actually earn money just because of some random events so be prepared to lose due to another random event in future. Unfortunately, many retail investors blame others even if the loss is due to some random events. Sometimes you will lose money without any mistake or without anyone’s fault.

What am I doing now after suffering such huge loss?

Within just two months from April to May 2018, my realised loss was approx 42 Lacs only from 4 stocks. Additionally, there was an unrealised loss of another 45-50 Lacs (approx) in the same period from multiple stocks (mainly SME stocks). One might think that my overall portfolio must be huge enough for such loss but in reality, considering my overall portfolio size the loss was significant and good enough in percentage terms. (Due to obvious reasons, I can’t disclose the portfolio size) If any retail investor experience such percentage of loss, then he might left (90% chance) the stock market.

Being an equity advisor for the last 6+ years, I have noticed that whenever small investors suffer loss, few of them criticise/blame, few say “I lost confidence etc”, few silently follow everything and few can actually learn and become stronger. Our members never actually suffer the loss of this magnitude because SME stocks were not recommended to them. I think it is important to know what your advisor is actually doing after suffering such huge loss-

  1. Being in the stock market since 2010, I have now no emotional attachment to the stocks and the money invested in it. In spite of my huge personal monetary loss, I am perfectly fine, having in good health and having perfect sleep. Even my family members can’t imagine that magnitude of loss (I am from a middle-class family and started with Zero). Moreover, I have a running business having monthly fixed cost (employee cost, rent etc). In spite of a huge dip in revenue, I faced no big problem to pay my employees on time and covering the daily business expense. (maybe stock market also taught me prudent cash flow management to sail through even in the most difficult time)
  2. In spite of such big loss from SME stocks, during April-May 2018, I was actually investing in another two SME stocks because I know very well what I am doing. (booked loss from Jhandewalas Food for re-investment in another SME stock) As those stocks are highly illiquid so it generally takes 20-30 days to complete my investment. My name was even popped out in BSE Bulk deal section in recent days for one such stock (although I try avoiding that)

You might wonder, how can a person keep investing big in the same stock market (SME segment) just after losing big. After losing few lacs many small investors left the stock market. So, what’s my secret? It is actually very simple – I am 100% confident that no matter how much money I lose in the stock market, I can earn 100 times of my loss in the future using my own knowledge and skill provided I am sticking with my personal ethics and values. I did it in the past and will repeat again in the future, no doubt on it!

However, we are catering retail investors since 2012 and realised that although every small investor is eager for 100%+ return but the majority of them can’t even tolerate 30%-40% realised loss. They got so much emotionally attached to the stocks (invested money) that repeatedly they make various mistakes. Many times I receive requests like “Sir, I am a small investor with only 10k-20k amount. So give me some multibagger stocks (for free).” If I offer few stock names with multibagger return potential to them then I will do more harm than any benefit. If you are investing with few thousands then looking for multibagger return (100%+) should be a big “NO” (unless you can research on your own).  Even investors with huge investable surplus should avoid looking for 100%+ return unless they are knowledgeable and emotionally strong for the stock market. Remember, there is no “easy and quick” money anywhere from the world.

Related Article – Investing in SME companies – Is it your cup of tea?

By     |     June 10, 2018     |     7 Comments

7 comments on “Why retail (small) investors should stay away from SME stocks?

  1. This is one of the example of expert investor who is confidently sharing his failure stories. Not only in investment, one can learn a lot of things and apply the same in their jobs.

  2. I have been with you for the post four years and know what you are talking about. We really appreciate you for posting this now at the most appropriate time. Buy do you think small and mid cap will bounce back to normal after this crash soon or still a massive correction is pending on the cards?

    1. “Whether smallcap and midcap will bounce back or a still a massive correction is pending” – it is something that nobody can say. Predicting overall market or overall midcap/smallcap segment is a futile effort.

  3. My experiment with the truth a autobiography of Mahatma Gandhi remindes me this article.
    Thank you

  4. For small investors like me our main barrier is the emotional attachment to our invested stocks and booking a loss if required. But slowly that mindset is changing thanks to your strategies and sharing your views. The big picture is that at the end of the day we can make profit from our portfolio in the long run, we can surely book a few losses if required. Virat Kohli dosen’t score century every match but his average is above 50.

  5. Dear Mr. Paul, That for the write-up. I have been associated with you now not more the 6 months and I have seen some recommended stock having unrealized loss around 20-25% (hahah My bad) But I have full trust in market and fundamentals. I have zero doubt the good quality stock will recover back after dust settle down and recovery may be sharp too. I am in the market since 2017 and have seen the bull and bear run. I can proudly say I am very much inspired by your working ethics. I am huge fan for Mr. Buffet but as no one is perfect in market even Mr. Buffett made failures causing some of his investment decline by more the 60% in life cycle. But I always remember his saying the “Unless you can watch you stock holding decline by 50% without panic stricken, you should not be in stock market”. But provided that you must know what you own, and know why you own it. I have read many books on investing and your book also a good one and mostly simple. Since I am in the market form 2007 thus I have seen may equity advisers and I learned the fact that there is no perfect way to evaluate an adviser just like there is no perfect metrix to evaluate a best doctor, a teacher or an attorney. The most important thing for anyone to do is set realistic expectations early for what is to be expected, How the relationship and trust should evaluate, and over what time period the evaluation is appropriate. If everyone agrees on those items, then the relationship is far likelier to be success for both the client and adviser. We must know that any returns in market dose not just happen in vacuum, It comes with some level of risk and that needs to be evaluated by individual by knowing his risk appetite framework. In the end I would like to say thanks for the work you are doing and your ethics. However no body in perfect I am looking forward form you also as continuous improvement willingness should there to make the process better. As a customer I have some suggestion for your website and the way we get recommendation. I do not want to write here on public forum. I shall email you the suggestion and feedback after reviewing my next two more recommendations left. Thanks again for all your services.

  6. Great article Paul.It is essential to have a Zen-like calm in the face of rising ‘unrealised’ losses.
    Thank you for sharing your perspective.It takes great courage to admit to one’s ‘losses’

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