The power of growth in Wealth Creation

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This article is Part 2 in a 2-Part Series.

Biggest Wealth Creator Key notes

In continuation of the SQGLP framework discussion, some key points from the Motilal Oswal 2014 study are summarized in this post. You can read the 1st part of the post here :

Market folly is one of the biggest sources of multi-baggers

Market Volatility is excellent opportunity to grab good businesses at low prices.

In end-2008, global stock markets crashed given the US sub-prime crisis. In India, businesses like IT and Health-care (where India enjoys competitive advantage) were also hammered – a great opportunity to pick up stocks like TCS, Wipro and HCL Tech at P/Es of 10x or less.

High-quality midcaps bought at low valuations are potential multibaggers

Despite their small size, many mid-cap companies enjoy competitive advantage in their respective business, a key factor for high earnings growth (e.g. Eicher is a market leader in leisure motorcycles, and has Volvo as a partner for its commercial vehicles franchise).

Combination of high earnings growth, low valuation and small market cap, leads to high Wealth Creation at a rapid pace.

Consistent Wealth Creation = Sustainable & Profitable Growth in companies

Sustainable and Profitable growth in companies is a function of :

  1. Quality of business, and
  2. Quality of management.

Superior earnings growth = Superior Wealth Creation

Major change in valuations is rare and even unsustainable (e.g. global IT sector valuations during dot-com era in early 2000s ). Hence, in the ultimate analysis, it is superior earnings growth which drives superior Wealth Creation.

Small is big in Wealth Creation!

Two broad themes of above-average Wealth Creation in stock markets are:

  1. Large but unpopular
  2. Small but high-growth.

The former is rare, and typically found in a prolonged bear market, or due to temporary downturn in earnings. However, the latter is more common and hence a happy hunting ground for growth investors.

The quality v/s growth conundrum

Should one buy companies with high earnings growth or high RoE? This is the typical quality v/s growth conundrum which investors face .

The short answer is : Quality alone does not guarantee growth and, in turn, Wealth Creation. But quality accompanied by growth gets very handsomely rewarded in the markets.

Low price alone is no guarantee for Wealth Creation; earnings growth a must

An interesting observation is that in each of the above-average price out performance categories, earnings growth has also been above average. In fact, more often than not, it is sustained, high earnings growth which triggers valuation re-rating, creating a multiplier effect for Wealth Creation.

Will the tide turn for some of them?

Most of the Wealth Destroying companies and sectors are deeply cyclical and/or those affected by policy paralysis during Government. Major policy reforms coupled with economic recovery, can be hugely positive for many of these Wealth Destroyers.


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