Investors step into stock markets intending to grow their wealth manifold. Every new investor wants to invest in the next multibagger. As soon as one finishes with their demat account and trading account opening process, they are in a rush to make investments. The issue is that everyone wants the next multibagger, but many fail to distinguish potential multibaggers from the pack. In fact, the term multibagger is used so colloquially that many do not even know what they are looking for while looking out for multibaggers. So first, let us understand what a multibagger is, and then let us learn four ways to spot multibaggers.
What are multibagger stocks?
Peter Lynch, one of the most successful fund managers, coined the term multibagger in his book One Up on Wall Street. As per the definition, a multibagger stock generates returns several times the initial amount invested, at least 100 per cent, in a relatively short period. So, if your stock doubles in value, which is a 100 percent return, over a year, it is a multibagger.
You must be thorough with fundamental analysis if you wish to find stocks that can give you double or triple your initial investment amount in a year or two. Fundamental analysis involves analysing the company’s financial statements, business direction, and management. It also constitutes evaluating the stock’s valuation and comprehending the industry to which the company caters. So after you finish your trading account opening, learn to analyse stocks fundamentally.
For a stock to become a multibagger, it must garner interest from the broader market. In the short term, various factors can put a stock in the spotlight. However, if you want a multibagger, the company’s earnings growth is the main factor. Companies that can generate robust earnings growth eventually become favourites in the market. So now let us look at how we can identify such companies.
The 4 Ways to Pick Multibaggers
1. Spot Industry Tailwinds
When a business goes through tailwinds, it witnesses favourable factors that can result in solid growth in profits and revenue. Likewise, when the industry sees tailwinds, most companies catering to the sector will likely come out with a robust set of numbers. Many winners emerge, and one may find multiple multibaggers in that industry. For instance, during the pandemic, numerous companies around the globe focused on improving the technological infrastructure and increased their IT spending. As a result, many multibaggers emerged in the IT sector in India. To spot industry tailwinds, you must be up to date with the economic, industry, social trends, government policies, etc.
2. Look for Competitive Advantages
For a company to emerge as a sure-shot winner over its peers, it must have a significant competitive advantage. Only then will it bring in higher sales and profits than its peers. For instance, a manufacturing company could be the lowest-cost producer or have its factories near its customers, reducing logistics expenses. Likewise, a consumer retail company could have a strong distribution network or brand value, giving it an edge over its competitors.
3. Evaluate the Management’s Future Plans and Previous Execution
Now, if the company has to grow its earnings, it has to scale up its operations successfully. For example, suppose a retail brand with 1000 stores delivers a profit of around 100 crores in the financial year. Furthermore, the management plans to set up 250 additional stores in upcoming quarters. This means that if the management successfully executes, the additional stores will bring in more sales and profits in the future. However, to successfully carry out expansion plans, the management must be competent. Hence, you can always visit past records to examine how well the management executed previous projects.
4. Buy at the Right Valuations
Lastly, even if the stock meets all of the above criteria, it may still not deliver multibagger returns if it is overvalued. That is because the stock market is always forward-thinking, so the factors that can lead to earnings growth may already be factored in. Avoid those overvalued stocks. Instead, look for companies that trade at an attractive valuation, where the factors leading to the boom in earrings are still to play out. For instance, when a company is undertaking intensive capital expansion plans, earrings may be temporarily suppressed. That is when it trades at an attractive valuation. As soon as the capacity becomes functional, the additional capacity leads to higher earnings. Then, the stock becomes the market’s favourite child.
Now to identify industry tailwinds, understand the competitive advantage and track the management’s execution, you can refer to different data available at your disposal. For instance, you can follow business channels, read the company’s annual reports, and listen to management commentaries. To assess valuations, you can compare the company’s current valuation to its past valuation. At the same time, you can compare it with the valuation of similar companies. Furthermore, a trading account opening with some specific brokers gives you access to detailed research reports.
Lastly, when finding a multibagger, you do not need to run behind and search for the next Titan or Bajaj Finance. Finding such companies that become 20-30 baggers is rare. Moreover, it will take several years to deliver such returns. So instead, be satisfied with a 2-3 bagger you make within a year or two.