The prime objective of an investor is to generate return and create wealth. There are various asset classes one can invest in such as fixed income, real estate, equities, gold. But when it comes to wealth creation, equities outclass other asset classes because of the power of compounding associated with it. Other asset classes somehow get around inflation but equity manages to beat inflation by a wide margin. Returns from equity as an asset class may not give linear, but if one picks up stocks prudently, the returns from a portfolio of stocks would eclipse the returns from any other assets class in the long run. So, the crux of returns from equity as an asset class lies in stock selection. When you are selecting stocks, do not focus on the market as a whole. It’s not necessary to analyse all the stocks that are coming your way, instead of identifying a few sectors that look interesting and have better growth potential for the future. To start with, look at what you understand and don’t follow the herd. Investing is a serious business and wealth creation takes years together, it cannot be created overnight. Your penchant for a sector will develop competence in understanding businesses, which you plan to invest in. To put it in the legendary Charlie Munger’s words “I don’t think it’s as difficult to figure out competence as it may appear. If you’re 5-foot- 2, you don’t have much of a future in the NBA – and if you weigh 350 pound – you shouldn’t dance ballet. If you can hardly count cards at all, you shouldn’t try playing blackjack. But competence is a relative concept. What I need to get ahead is to be better than idiots… and lucky for me, there were a lot of them.” If you are a civil engineer by profession, it will be easier for you to understand the real estate and construction or infrastructure business. Similarly, a medical professional will draw comfort in understanding the pharma or pharma aligned business e.g. hospitals, path labs etc. I am fascinated by growth or an idea of growth, be it plants or businesses that I invest in. Growth is the prime pillar and instrument of wealth creation. Growth stocks, if all other variables are aligned, could be multibaggers and trade at premium valuations irrespective of market conditions. Let’s define what a growth stock is. These are well-managed companies growing at an accelerated pace compared with the broader economy and inflation. These companies have the potential to achieve high earnings growth, but do not have a history of strong earnings growth. Major characteristics of growth stocks are >> High price to earnings multiple compared to market or sector in general >> Significant potential for long term price appreciation >> High ploughback ratio means limited or no dividend in early part of growth story >> High price volatility Growth when coupled with economic moat can do wonders to a business. Economic moat keeps the competitors at bay, protects margins, ensures longevity of the business and in financial parlance ensures sustainable returns on the capital invested. The moat can be in any format, be it intellectual property or any other intangible asset, the cost advantage, customer reach, brand recall or switching cost for the end user. To quote legendary investor Warren Buffet on economic moat, “The key to investing is not assessing how much an industry is going to affect the society, or how much it will grow, but rather determining the competitive advantage of any given company and, above all, the durability of that advantage. The products or services that have wide, sustainable moats around them are the ones that deliver rewards to the investors.” Finally, an important aspect of identifying a stock is its management. When you buy a stock, you are partnering in the business, hence it is of utmost importance to know about your associates who will be managing the day to day show. The value of the business is determined by its investment decisions (allocation of limited resources), financing (combination of equity and debt utilized) and dividends paid (returns to be offered to the owners of the business). These decisions are made by the management. A competent and visionary management with requisite qualifications to run the business adds to the investor’s confidence in stock selection. We look for three basic qualities viz., integrity, intelligence and energy in the management of a company. Integrity defines the character; integrity means doing the right thing at all times and in all circumstances, whether or not anyone is watching, while intelligence and energy recognises the vision and capability to reach that goal set by the management. Stock selection is fundamental to wealth creation. Proper stock selection will enable creation of wealth irrespective of market conditions. For example, the pharma story unfolded between 2009 till 2015. In 2009, both Nifty and the pharma index traded at around 2,500 level. By April 2015, the pharma index had touched 18,000 where as Nifty was trading at near 9,000 level. Thus, if one was invested in pharma index or stocks from 2009 to 2015, his wealth would have been multiplied seven-fold plus vis-à-vis just past 3.5 times if invested in Nifty50. Going forward, we are of the opinion that the stocks in auto ancillary, infrastructure & textile sector offer promising future for investment. Auto ancillaries have great business opportunity with growing domestic as well as global OEMs i.e. domestic as well as export opportunity. The infrastructure space is beaming with order books in road and bridges construction, metros, railway infrastructure etc. while the Indian textile industry is becoming competitive against the Chinese industry in the global market on account of rising labour cost in China. We feel investment is quality stock in these sectors would offer substantial returns over next couple of years, thus creating wealth for the investors. (Views expressed in this article are his own and do not represent those of ETMarkets.com. Investors are advised to consult their financial planners before taking any investment call based on these views)