Even as the midcaps continue to reel under pressure, tanking by more than 3% on Monday, Motilal Oswal’s Raamdeo Agrawal says notes that midcap stocks have fallen by more than 25% in a matter of just 6 months. In a letter to investors, Raamdeo Agrawal, co-founder of Motilal Oswal Financial Services says that investors must learn to distinguish between permanent loss and quotational loss. “Permanent Capital Loss refers to a massive fall in stock price because the value of the underlying business is significantly eroded. The proxy for value is a company’s profits and profitability. Value erosion (i.e. lower profits), and hence, Permanent Capital Loss in a stock may happen due to a variety of reasons, both industry-specific and/or company specific,” he wrote in the letter.
And what is quotational loss? “Unlike Permanent Capital Loss, Quotational Loss is merely a short-term fall in the stock price with the underlying value broadly intact. Some reasons for Quotational Loss are Fall in the broader market itself; and very high valuations,” he explained.
Elaborating further on the concept of quotational loss, Raamdeo Agrawal explains that quotational loss in a stock offers an excellent buying opportunity due to unilateral lowering of valuations. However, buying during the quotational loss phase demands two things from the investor, a high level of conviction that the setback is temporary; and a high level of courage and patience, he said. “It requires going against the popular saying, “Don’t catch a falling knife!,” he noted.
So what should investors do to overcome the current carnage in the stock market? Agrawal says that the investors must evaluate their portfolio and discern if the investments have resulted in a permanent loss or a qoutational loss. “Evaluate the likely reasons for the price fall. If there are signs of a Permanent Capital Loss, cut your losses and run. However, if it is just a Quotational Loss, back up the truck and load. You will most likely end up with a Permanent Capital Gain,” he writes.
