The smartest way to invest in the stock market

There cannot be a smarter way to allocate capital to stocks than long term investing. (File Photo: AP)

3 min read . Updated: 01 Sep 2022, 12:20 PM IST Equitymaster

There cannot be a smarter way to allocate capital to stocks than long term investing.

What if you slowly and steadily become 1% better than what you were yesterday, every day? The results are staggering over a year, if we take into account the power of compounding.

1% improvement compounded every day can be shown this way:1.01^365 = 37.78.

This means if you make a 1% improvement per day, you are 37 times better off after a year. As opposed to 4.65 times on a simple interest basis.

Now that's a world of difference!

I'm sure you have heard of the Chinese bamboo.

After lying dormant for four to five years, the Chinese bamboo tree grows 80 feet (nearly 30m) in just six weeks.

The question is, did the tree lie dormant for four years only to grow exponentially in the fifth?

Or was the little tree growing underground? Was it developing firm roots and a stable support for its exponential growth in the fifth year and beyond?

Small progresses are highly underrated in investing.

And the ability to do nothing after you have made an investment is probably the most underrated qualities of an investor.

Investing gurus talk about buying the right stock. Some talk aboutselling stocks at the right time. But hardly anyone talks aboutholding stocks for years and decades.

This is why these words ofCharlie Mungerare like words from an investing bible to me...

The big money is not in the buying and selling, but in the waiting.

But with numbers, the truth behind this forecast becomes extremely hard hitting. Consider this chart of Titan.

Let's assume you bought the stock ofTitanat the peak of the market cycle in June 2017. Over the next two years, until June 2019, the stock would have fetched 151%.

Again, let's assume you bought a year later in 2020, after the market crash and held on for a year, only to sell it in March 2021. The stock of Titan would have again fetched a very healthy return of 78%.

Finally, say you bought and held the stock for just nine months from April 2021 to January 2022. The resulting 80% gains would be commendable.

You would have done well on all three occasions. But the real kicker is the compounded 392% gains on the stock over three years.

The nearly 5x gains would make the stock eligible to be called amultibagger.

But the profits don't end there. Take a look at the taxes paid on profits.

By the end of the fifth year, if you sell the stock, almost 20% of thecompounded profits, would be due to the government as taxes.

Saving taxes each year, year after year, tantamounts to interest free loans from the government.

By that logic aren't you better off keeping the interest free loans for yourself for years? Why would you want to hand over taxes on short term sales day in and day out?

Imagine the long term investors in Titan who amassed immense compounded wealth over decades.

They did not just see their portfolio swell. They enjoyedmouth-watering dividends consistentlyover the years.

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And they also reinvested the taxes on the notional gains year after year at zero cost.

There cannot be a smarter way to allocate capital to stocks thanlong term investing. Like Munger says, the big money is in the waiting.

Happy Investing!

Disclaimer: This article is for information purposes only. It is not a stock recommendation and should not be treated as such.

 This article is syndicated from Equitymaster.com

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