Stocks to Riches by Parag Parikh

30 May 2022

The author of the book is Mr. Parag Parikh. He is the founder and chairman of "Parag Parikh Financial Advisory Services Limited".  He has over 25 years of experience in the business of investment and broking.

Top 5 learnings of this book

The first lesson of the book is that we should not be influenced by loss aversion:

Loss aversion is a psychological bias where the pain of loss on doing something is greater than the pleasure of making a profit.

That is if we talk about 2 cases, where in the first case we have a profit of Rs 100 and in the second case, there is a loss of Rs 100.

So we will feel about 3 times more pain in the second case than we would be happy in the first case. Due to the bias in investment, investors sometimes make wrong decisions.

 As investors invest only in fixed income investment options like bonds, FDs, etc. of equities due to fear of loss. Or sometimes, investors even book their profits early or hold on to loss-making stocks

As they feel that these loss-making stocks will also become profitable and they will not have to book those losses. To avoid losses, investors want to avoid tax, but they end up investing in products that offer very low returns just to save on taxes.
So the conclusion is that during investment, we should avoid loss aversion.

The second lesson from the book is that we should avoid the “sunk cost fallacy” when making investment decisions:

Let's first understand the Sunk Cost Fallacy by an example.
Suppose you bought a movie ticket for Rs.1000. But if it is raining heavily on the day of the movie and the weather is very bad.

Will you go to see the movie?

In another case, suppose you got that movie ticket for free and on the day of the movie, again it is raining heavily and the weather is bad.

Will you go to see the film in this case too?

Maximum people will go to see a movie in the first case and not go to the second case. Why does this happen?

This psychological bias is called the Sunk Cost Fallacy. When we change our present decisions because of some decision taken in the past.  Your past decision cannot be changed by the decision you take in the present.

If you go to see the movie or not, you have paid the amount. And now if you go to see a movie then it can be harmful to your health. But still, we always try to make our present decisions in such a way that they can support our previous decisions.

Even while investing, investors make many wrong decisions due to Sunk Cost Fallacy. For example, when a stock goes into loss, some investors try to average out to buy more shares of that company.

Because they feel that the decision they have taken in the past will be correct. Yes, you can definitely buy if the stock is valuable and fundamentally strong.  But if you are doing this just to correct your past decision, then you should definitely avoid it.

The third learning in this book, we will talk about some financial mistakes that we should avoid:

For example, if you win a lottery of Rs 1 lakh today, you might spend that money aggressively. But when you get this 1 lakh rupee as salary, then you will spend it wisely.

But quantity is the same in both cases. In the first case, the money you get is treated by your mind as free money and so you do not use it wisely. But we should spend our money wisely in both cases, irrespective of the way we earned it.

One more classic example of this can be that whenever we shop with credit cards, we usually do more shopping. But when we pay in cash, we spend comparatively less. But in both cases, the money will go out of your pocket.

Therefore, whatever be the mode of payment, you should spend your money according to your budget and needs only.

The 4th learning of this book is that we should always keep the risk-reward in mind while investing:

While investing, we should keep in mind that if our decision turns out to be correct then how much return we can earn. But if our decision is not correct, then how much loss we could potentially suffer, and whether we can bear that much risk or not.

For example, investors who had invested all their money in Internet companies suffered huge losses after the dot com bubble was burst. So you should invest keeping in mind your risk profile. And one must diversify their investments to reduce their risk.

The last and fifth lesson of the book is that if we want to generate wealth, the only way out is to invest our capital in assets. In the last chapter, the author explains with a flowchart the difference between the cash flow of a middle-class person and a rich person.

If you want to achieve financial independence, then you should avoid liabilities and invest in assets. You should also learn how to manage your capital efficiently.

The author has given examples of many such film stars, celebrities who had a lot of money at one time but later they went bankrupt. This happened because they did not invest and manage their money well.

Coming to investments, you must invest some amount of your total investment in stocks. Because historically, stocks have given better returns than all other investment options.

So, these were the top 5 lessons from this book.

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