- Nifty has corrected 13% and midcap index by 17% from the top. Most individual stocks are down >20% and many >50%.
- Foreign investors have been relentless sellers for the time immemorial.
- Russia Ukraine War seems to be never ending.
- China is loving lockdowns, disrupting the global supply chain.
- Inflation is going through the roof.
- Interest rates have started going up.
- Business profits are shrinking.
- Liquidity is tightening, especially in the private markets.
- Economic pundits are forecasting recession in the developed economies and muted growth in the developing economies.
Every investor’s portfolio is bleeding and a question everyone is looking an answer to –
“Is it just a start and should I exit before it becomes worse ?”
If I look at the pointers above, let me accept that there does seem to be too much uncertainty…
… but isn’t that has always been the case ?
World in general is always saddled with the uncertainties and my job as an investor is to go past the headlines, look more closely and associate probabilities to what can or cannot happen.
With this background, here are my thoughts on the key current concerns.
1. Indices have corrected but given the mother of all bull runs that we had, it can go down much further
“Mother of all bull runs” is an overhyped statement.
In a typical irrational bull market, anything and everything goes through the roof, earnings don’t match up and excesses get created.
That in turn leads to sharp overall crashes.
Current market doesn’t seem to share that trait.
Yes, there have been excesses in some pockets including new age, Covid tailed and story stocks but then equally there have been many strong business that have not done anything e.g., Hero, HDFC, Britannia and lot many more.
One can surely give reasons for their underperformance but then that’s not what happens in an excessive bull market.
Ask any active seasoned investor and he will tell you – some stocks have done well but equally many have under performed.
So why this general view about overheated markets?
One key reason – people are looking at performance only since the Covid lows. Normalised for that, picture is very different.
From Covid lows in March 2020, Nifty increased by 148% to it’s peak in October 2021 (116% now). However, from Pre Covid highs in January 2020, the increase to peak was only 50% (31% now or 12.5% CAGR).
Long term returns are also not exorbitant – 12% CAGR in the last 10 years and 11% in the last 5 years.
Other key reason – as mentioned before, there have been excesses in some stocks and sectors. Their performance got amplified on TV channels, newspapers and social media. This has resulted in everyone sharing a general view that equity markets distributed free easy money in the last 2 years.
Reality is very different.
I therefore don’t agree with the general perception that markets are extremely overheated. Hence, I don’t expect any significant weakness due to this factor alone.
2. Unprecedented inflation, increasing interest rates, constrained business margins, tightening liquidity, economic forecasts – everything is pointing towards recession
I hope economic predictions were so easy.
Actually, they are easy…. but rarely accurate.
- Poor inconsistent measurements (as per convenience); and
- Absence of any clear cause and effect relationships between the indicators (and hence implications)
I therefore avoid to put much importance to the economic forecasts and instead try to form my views based upon prevailing and expected consumer and business sentiments.
This approach has allowed me to own my decisions better – allowing me at peace rather than getting worked up seeing some random forecasts.
(Whether it has worked – relatively yes… my regular readers maybe able to comment better)
Current economic situation in simple language…
- World was flushed with liquidity over the last two years.
- That along with people’s frustration with Covid led to a demand boom across products (pent up as well as extravagance).
- Russia-Ukraine War (oil and other supplies deficit) and China’s obsession with lockdown (motivated?) squeezed the supply chain
Result – very high inflation impacting the business margins and now gradually also denting the consumer demand.
Central banks across are left with no choice but to take some quick rate increases to try hasten the pace of demand moderation and hence the threat of recession.
My observations on this related to the Indian economy –
- With Covid normalisation, pent-up and extravagant demand is significantly over, except in businesses related to tourism and entertainment.
- Covid resulted in revival of certain core sectors including auto and real estate. They are structurally positive for the overall Indian economic prospects, atleast over the medium term. (related previous article)
- Income levels are back to normal and I don’t see any reason for a significant dampening concern around the same.
- With supportive income levels, significant decline in demand is unlikely.
- Along with increase in the interest rates, government has also started announcing measures to try mitigate the supply side inflation e.g., reduction in fuel taxes, duties on export of certain metals, relaxation in imports of edible oils etc.
Some other factors worth taking into account –
- Current inflation is a global phenomenon and not unique to India. When everyone is faced with the same issue, in general the solution is more coordinated and less harmful.
- Much of the current inflation is due to Russia-Ukraine war and China lockdowns
- Russia-Ukraine War – when will it end? No one knew in February and no one does now. However, every passing day seems to be getting more and more complicated for Russia and it’s people. World is too interlinked. Status quo cannot continue for very long.
- China lockdowns – difficult to guess true intentions. However, as it’s hurting Chinese economy and frustrating people – I am hopeful.
- Indian general elections are less than 2 years away. I believe government will hate to go into these elections with poor economy and hence will try it’s best to do whatever it can.
Taking into account everything mentioned above, in my view we should be ok on the Indian economy – actually much better than the excesses of some developed economies. Yes, there might be some moderation but broadly we should sail through with the least damage.
One risk that I will closely monitor – what steps the government is taking to increase it’s finances – to compensate for the lost revenues due to cut in fuel taxes, moderated demand and expected higher spends on the social schemes.
I hope they are measured and do not result in any widespread dent in the consumer sentiments – a key to me for the economic assessments.
3. Why foreign investors are selling? Domestic investors cannot counter balance that for ever
Why and till when?
I don’t have an answer to this.
However, what I know is – they work in a very different fashion and have a very different aptitude than you and I.
They exit quick and they can come back equally quick. Neither can we really justify their moving out, nor we will be able to when they decide to come back.
But yes, continued selling from them can take the markets further down. How you decide to handle that – depends on your strategy.
I have no particular strategy to match their steps.
Actually, the bigger risk is if the domestic institutional investors (DIIs) decide or get forced to sell.
Whether that will happen – in my personal view, unlikely in the normal course. Some black swan event can surely force them to sell due to the redemption pressures – but that is something no one can predict and there is no choice but to face it when it comes.
Point worth nothing though is – black swan event led corrections are generally sudden and sharp, but they also get reversed very quickly.
As you would have guessed from the above, I am staying put albeit with a more cautious focus – companies that have low debt, generate decent free cash flows, run by the reliable managements, have reasonable business prospects and are trading at reasonable valuations.
However, given that I do expect economic moderation, I might end up doing more churn vs what I was doing previously. Reason – I am assuming volatility rather than a clear momentum !
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