I am touching on an investment strategy that is fraught with risks. It is meant for those who have money as well as stomach for this. If you don’t have financial cushion, this strategy can be injurious to your financial health.

This exercise stems from the belief that direct equities give the highest returns. It also carries the highest risk. When we invest through an SIP in a mutual fund, in essence we are buying the “market” in instalments. Over a period of time, it will give us the stock market returns because he does not normally take the risk of going outside the index stocks.

In my opinion, if we choose a good company of high quality, it is likely that we get better than market returns over the long term. Here are the ingredients of a good stock:

* A track record of growth for at least 20 years
* Annual return on shareholder funds must be above 20%
* The company’s business must be easy to understand
* Its industry must survive for the next few decades
* Good and reputed management
* Averse in going to the capital markets frequently
* Minimal debt on its books.

One can keep increasing the filters, but the idea is to get a short list of one or two stocks that will not give you sleepless nights on a continuous basis.

Just to check what the outcome would be, I assumed that I buy the stock of a particular company shortlisted on the abovesaid criteria and invest between Rs 5,000 to Rs 6,000 a month in buying the same stock. I limited the amount to Rs 5,600 per month. Depending on the share price, I buy as many shares as the amount permits. For instance, if the share price is Rs 100, I can buy 56 shares. If the price goes to Rs 50, I can buy 112 shares. And over a 10 to 20 year period, my buying cost would average out the excesses and the dips in the market. My basic premise is that the company I have chosen is good and will continue to be a great one.

Just to check, I picked up ITC as the company I would have invested. I started my investment in an SIP fashion from April 2000 and assumed that I kept buying till April 2012. I bought ITC in 145 monthly instalments spread over 12 years. When I started to buy, ITC share was quoted at near Rs 750 levels. I assumed that I bought ITC shares on the first trading day of every month, come rain or come shine. During this period, ITC gave two bonuses and one stock split. So over the last 12 years, I would have accumulated 16,954 shares with an investment of Rs 7.78 lakh. However, the market value of the shares is Rs 37.69 lakh, which translates to an annual rate of return of nearly 22 per cent.

This return is exclusive of dividend income and is an annualised return over 12 years. This beats the return on the indices and mutual funds by quite a margin. Am I lucky that I chose ITC instead of some other stock which has tanked? Maybe yes. But I am sure that if I choose other quality stocks, the result would have been better than the broad indices.

If I invest decent money in to two or three stocks, there would be a great pool of quality stocks. This can form an estate that can be substantial. I can easily build a basket of half-a-dozen stocks for the next decade. Timing to start is not material at all, but investing discipline is a must.

(The writer is an independent analyst and can be contacted at balakrishnanr@gmail.com)