Module for Beginners
Investment Analysis 101
3. Interest before Invest: understanding industries
How to invest in the share market? Well, at this point, you’ll find it interesting to note that Warren Buffet does this thing – he only invests in businesses he understands. When you look at it closely, this is such an ingenious investment strategy, isn’t it? But before you delve into finding out how a business functions and even before you conduct stock market research, you need to first understand the industry it operates in. Here’s where industry research comes in.
When done right, industry analysis can help you identify promising areas of the economy easily. Combine this with business analysis and share market research and you’re pretty much in a good position to make an informed investment decision.
To get to the bottom of industry analysis, let’s begin at the basics.
What is an industry?
The term ‘industry’ is used to collectively classify a set of companies that provide similar products or services. Let’s look at an example to better understand this term. What is the one common thing between these companies - TVS Motor Company, Bajaj Auto and Hero Motocorp?
Yes, you guessed it right! All these three companies manufacture two-wheeled and three-wheeled automobiles. So, these three companies are collectively referred to as belonging to the two and three-wheeler automobile industry.
Is an industry the same as a sector?
Although the two terms are used interchangeably in common parlance, they’re not quite the same. A sector is effectively a group of related industries. For instance, the three companies in the example above are part of the two and three-wheeler automobile industry. Maruti Suzuki, on the other hand, is a part of the passenger car automobile industry and Ashok Leyland belongs to the truck and LCV automobile industry.
Although these companies manufacture different sub-products, they’re still related because they’re all engaged in the production of automobiles. So, we use the term ‘automobile sector’ to collectively refer to all of these companies from related industries. The automobile sector also includes companies that manufacture ancillary automobile parts such as tyres and batteries.
Getting started with industry analysis
Now that you’re aware of what an industry and a sector are, let’s try to understand how you can analyse an industry before determining whether to invest in it or not. The main reason behind this kind of analysis is to identify the industries that offer the maximum potential for your investment to grow. It’s also one of the key steps to learning about how to invest in the share market.
Here’s a step-by-step approach that can help you analyse an industry and its future prospects.
Find the right sector and industry
To begin the process of industry analysis, take up a sector that you’re particularly interested in. Take some time to get to know the various industries within that sector. While you’re at it, it would also help to take a broader look at how the sector is performing in comparison with the other sectors in the economy.
Once you’ve identified and analysed the sector, it’s time to focus on an industry within that sector. For instance, if you take up the healthcare sector, you could perhaps focus on the pharmaceutical industry as a part of your analysis.
Examine the reports and statistics
After picking the right industry, you need to read and review all the relevant literature concerning that industry. Going through industry reports and statistics are a great way to get started here, since these sources offer a ton of detailed information and in-depth analysis. You can use this data to gauge the current state and the future prospects of the industry.
That said, it is always a good idea to focus more on the recent reports rather than the historical ones. This is because the performance of many industries is volatile and keeps changing frequently. So, the more recent your information is, the more relevant it will be.
Analyse the demand and supply
As we’ve already seen before, demand and supply are two of the most important economic forces. Since they are primarily responsible for the movement of the markets, it is essential to look into the demand and supply scenarios of the industry you’ve chosen . This way, you can get a fair insight into the future outlook of the industry.
You could start off by reviewing and analysing both the past and the current trends in the demand and supply of the industry. To get a better perspective, you could also compare the demand and supply trends of the industry you’ve chosen with that of other related industries.
Assess the industry’s life cycle
Industries have a distinct life cycle with five different stages:
- Embryonic stage
- Growth stage
- Shakeout stage
- Mature stage
Since industries do not generally remain stagnant, they evolve and experience changes over time. By identifying and analysing the life cycle of an industry, you can, to a certain extent identify the threats and opportunities that it faces. You can also find the right time to invest in that industry.
For instance, when you invest in an industry that’s in the growth phase of its life cycle, that industry may have a higher potential to fetch you handsome returns. On the other hand, investing during the mature phase and the decline may erode your investments.
Identify the roadblocks and drivers of growth
Growth drivers and the roadblocks are a couple of other important things that you need to factor into your industry analysis. Identifying these two factors can help you determine how the industry will pan out in the future. The growth drivers and roadblocks for an industry could range from governmental policies and technological advancements to macroeconomic and social factors.
Take the electric vehicle (EV) industry, for instance. The government of India offers a subsidy scheme (FAME) for boosting the use of electric vehicles. This is potentially an excellent growth driver for this industry. However, the lack of charging infrastructure is a potential roadblock. So, if an industry faces more growth drivers than roadblocks, you may find more reasons to go ahead and invest in it.
So, this is the crux of industry analysis. And it’s always a good idea to pair industry research with company research and stock market research/share market research. We’ll learn more about these concepts in the upcoming chapters.
A quick recap
- The term ‘industry’ is used to collectively classify a set of companies that provide similar products or services.
- A sector is a group of related industries.
- To get started with industry analysis, find the right sector and industry.
- After picking the right industry, you need to read and review all the relevant literature concerning that industry.
- Then, review and analyse both the past and the current trends in the demand and supply of the industry.
- Industries have a distinct life cycle with five different stages: embryonic stage, growth stage, shakeout stage, mature stage and decline
- Identifying the roadblocks and the drivers of growth is another important aspect of understanding industries.
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