Cooling your enthusiasm

The previous post had some questions on how to handle over-optimism on a stock, especially when one is analyzing it for the first time.

I think it is human nature to be over-optimistic during bull markets and pessimistic during the bear phase. Even if you think you are immune to it, I personally think there is some impact of the surrounding environment. I have seen in my case that my fair value estimates are on the lower side when the market is dropping (being too conservative) and on the higher side when the markets are shooting up.

The first step in managing this situation is to acknowledge that you are not different from others and could be getting impacted in the same manner. If you don’t acknowledge the problem, then there is nothing to resolve.

I typically remind myself of these points when faced with rapidly rising or crashing markets

Cannot predict markets
I cannot predict the markets. Period! I cannot divine the future and care two hoots if others can or cannot. If that is the case, then my decisions are based on what I know as of today and not what may or may not happen. As a result, I have lesser tendency to beat myself up for a decision at a later date.

The next logical point is that the future may prove me right or wrong. However if I make rational and intelligent decisions, luck evens out and I should do fairly well. Till date, I have seen that happen.

I try to note down my thoughts and reasoning when buying or selling a stock. This helps me in checking back on my thought process at a later date.

Cooling period
I have also accepted the fact that I am like everyone else – nothing special. So I will be swept by emotions from time to time. The best antidote to it is to have a cooling period when making a decision on a stock.

I start analyzing a stock and if I get too excited, I will create a small position to temper the urge or itch. I leave the analysis for a few days or weeks and will then come back to it with a fresh mind. A lot of times I have been surprised with my decision (what was I thinking!). The downside is that during a bull market, such an idea can run away from you. I think that’s an acceptable risk.

Search for negative opinion
I try to force myself to look for negative information which goes against my thesis. This helps in countering the optimisim and hopefully improves the analysis.
There are no magic bullets or set formulae in managing emotions. It comes down to our individual makeup and what works for us.

Watch list of stocks
I am analyzing the following stocks these days
Noida toll bridge
Facor alloys
HDFC bank
Patel airtemp

And a few others. The idea of analyzing these stocks is to understand the business and calculate their fair value. I have been building a list of ideas with my estimates of fair value. Most, or almost all the stocks are not in my buy range. However it is important to analyze these stocks in advance, so that when the opportunity comes, one can move fast and create a decent size position