What are Multi-Bagger Stocks, and should you invest in them?
American ace investor Peter Lynch coined the term ‘multi-bagger stocks’ in his 1989 book ‘One Up on Wall Street’. What are these stocks he referred to?
Why do you need to invest in them?
Multi-bagger Stocks: Overview
Multi-bagger stocks or multi-baggers are equity shares that generate a return of more than 100% of the initial investment. In other words, they generate returns multiple times greater than the cost of acquisition. These shares have an extraordinary potential for growth, and they embody sound management techniques. A multi-bagger share indicates that the underlying company may be undervalued or has superior fundamentals compared to its peers. However, multi-baggers may also be a sign of a speculative bubble building in the market which may have dire consequences for investors in the long run.
Identifying potential multi-bagger stocks
The solution to the quest for multi-bagger shares lies in understanding the company and its growth potential. Such stocks are often found in high-growth or sunrise industries, which have a long runway for growth. The key features of a stock that indicate its potential to turn into a multi-bagger are:
1. Market leadership: A company that dominates its market usually will command higher valuation given its influence on market trends and prices.
2. Sustained Growth: A company delivering sustained growth over a long period of time indicates potential for its stock to turn into a multi-bagger.
3. High earnings potential: Growth may not always be sustained but a company having consistently high earnings over time could birth multi-bagger shares.
4. Keeping up with trends: The economy and the market give birth to ever-changing trends. Companies and investors that foresee or keep up with these trends do well. For example, an impetus on environmental sustainability today is giving rise to the stocks of companies engaged in green businesses.
5. Great profit margins: High profit margins indicate a company’s sound financials and these companies turn into multi-bagger shares more often than others.
6. Strong management: A sound management team running a company gives investors the indication of the company’s performance over the long run, especially through crises. Companies with sound governance practices and policies have a higher chance of turning multi-baggers.
Thus, the key to identifying these shares is perceptivity and thoroughly researching companies and their performance.
Should you invest in multi-bagger stocks?
It is obvious that if you can identify a multi-bagger stock and invest in it at the right time, it will significantly add to your wealth over time. However, such companies don’t always give dividend income given their focus on growth. Thus, investors looking for fixed income through investment should keep that in mind while investing in them.
These stocks also tend to have a low entry barrier for investors because they tend to be small-cap stocks at low prices. However, the investment must be made for a minimum time period to realise high returns.
What are the risks associated with multi-bagger stocks?
Multi-bagger shares may seem like a golden ticket to wealth, but they come with their own risks. Investors must evaluate these risks before investing.
1. Uncertainty: Not all stocks with the potential to turn multi-baggers yield those returns. There is always a risk of losses if one makes a mistake in identifying these stocks. There is also uncertainty in how future trends shape, affecting the prices of these stocks.
2. Patience and low liquidity: Investing in these stocks requires patience to stay invested for long periods of time, especially through volatility. They also tend to have low liquidity and investors must make calculated capital allocation to such stocks as their wealth could be stuck in the market for a long period.
3. False information: Companies may falsify reports on their growth or market manipulators may spread false narratives around a stock. When not researched thoroughly, investors may fall prey to false information and incur heavy losses.
Multi-bagger shares in India are thus ideal for investors looking to increase their investment by multiples and ready to undertake the associated risks. However, investors must invest in these stocks only after thorough research and shouldn’t fall prey to false narratives. Once invested, investors should also have the patience to hold the stock through market volatility to eventually realise the gains.