Investment Shastra

May 2020: MoneyWorks4me Outlook

May 2020: MoneyWorks4me Outlook

This article covers the following:

Review

On May 29, Nifty was closed at 9580, 20% lower than 1 year ago. In the last 3 years, Nifty is down 1% translating into ~0% CAGR.

Except for Healthcare, no other sector gave positive returns over the last 1 year.

Nifty has bounced back 32% from its lows as aggressively selling abated. The announcement of Fiscal stimulus by the US government and quantitative easing from the central bank across the world may have caused a break on selling pressure in equities.

FII purchased Rs. 14,500 Cr worth of shares in May’20 versus sales of Rs. 6880 Cr in Apr’20.

Retail inflation, based on Consumer Price Index (CPI) fell for the second consecutive month to 5.9% in March 2020, from 6.6% in February 2020. April numbers are not available.

Equity inflows from domestic investors were quite high in the last 3-4 years which means that an average investor’s portfolio hasn’t earned good returns from equity for a long time.

The very risk in equity investing is that returns don’t come in a predictable fashion.

The overall sentiment is low in the consumer market and the stock market. The economic impact of lockdown is worrying policymakers and businessmen.

A lot of liquidity has scaled the market higher from low which has led to some hope of revival in the economy. Beaten down stocks have rallied however, the economic indicators do not point to V-shaped recovery as of now as many large provinces are still under lockdown mode.

Outlook

As on date, the average upside of our coverage universe is likely to be more than 14% CAGR over the next 3 years.

Just a handful of companies will be delivering earning growth due to existing slowdown and further lockdown to contain Covid-19 spread.

Some pockets of the market like consumer staples, chemicals, insurance/AMCs are trading at stretched valuation.

We find that the Nifty 50 index now trades around its fair value or slightly higher than fair value while there are pockets of overvaluation and undervaluation.

While the last 3 months were quite volatile, the returns generated during that period have been surprisingly quite good. If you had invested in any of the weeks, you would have earned good returns till Jun’20. Select individual stocks have given even better returns (50-80%). Our clients have earned these returns on the incremental amounts invested during this period. While we cannot predict the market movement, but even at this time buying companies in our BUY zone will earn good CAGR returns over 2 year period.

We are looking at companies that have good earning triggers over the next 2 years as we are not certain whether broad-based recovery will happen immediately. We are investing in companies i) coming out of sector consolidation, or ii) introducing new products, or iii) commissioning new capacities or iv) executing the order in hand. This gives some certainty as to why there will be growth when things go back to normal post lockdown.

For now, most of these opportunities lie in Pharma, Telecom, Power, and Chemicals sector. In sectors like cement, autos, banking, etc. stocks are quite cheap but recovery and growth look uncertain in the near term. We are selectively considering only Bluechip stocks in these sectors to take advantage of mouth-watering valuations.

An investor can consider investing in value and reasonably priced growth stocks in sectors like Power, Telecom, Pharma, private sector banks. We are actively tracking agro-chemicals. Not only the domestic growth but also export opportunity looks quite exciting to select agro chemical stocks. Since many stocks in various sectors have corrected, we will recommend them as we see earning growth coming through or if they reach our desired price.

We are avoiding sectors or stocks that may have become cheap but they have high debt or they operate in highly cyclical sectors.

Our reasonable exposure to pharma stocks, high dividend yield stocks, and liquid funds have helped to restrict drawdown lower than the market. Use our portfolio manager to account for dividends/stock splits and computing portfolio returns.

In every correction, we always kept buying until we were fully invested. This time we find most sectors will be affected, if not business strength wise but from growth prospects over the medium term. Hence we are buying less aggressively. We would advise retaining a small cash position. This will help us to accumulate stocks that have already started showing signs of recovery, they might be existing ones or a new set of stocks.

Risks

US Economy

The focus has now shifted to Economy versus Virus. Economic indicators do some signs of rebound but uncertainty will remain over a timeline for returning pre-COVID business volumes. US markets have rallied sharply versus global markets due to proactive stimulus and Fed liquidity infusion.

US market rally has surprised many veterans, especially when the Nasdaq index went on to make new highs last week. In a market crash, 40-50% correction is unwarranted as 1-2 bad years do not wipe out 40-50% business value. Such steep correction usually happens due to liquidity squeeze from risk-averse behavior leading to the unavailability of funds. The early liquidity infusion made it easy for funds to be available for needy companies towards expenditure/refinance. This would have also arrested further market correction for time being. However, US markets have once again rallied back to high valuation making it unattractive for investment.

Source: https://twitter.com/VrntPerception/status/1268811796111974405

Indian Economy

Indian economy will be impacted by extended lockdown as many labor-intensive sectors are not operational. There is a risk of sustained job losses and salary cuts.

We find that lot of sectors in India were running at lower utilization. The current dip in demand will come back strongly as soon as the economy resumes due to pent up demand.

Post that, the growth will take its course depending on consumer sentiment, government stimulus, and reforms. We expect certain sectors to come back to life immediately while others take longer. Economists and corporate expect/demand fiscal stimulus of ~1-3% of GDP to get back the economy on its feet.

While every sector operates in the same economy, the effects of Covid-19 would affect them differently depending on the change in consumer behaviour.

Example, some people expect people to reduce visiting cinemas as they may have gotten used to OTT content. Auto sales will grow faster as personal transport will be preferred over public transport for a commute. International travel might be lower for the first 2 years due to fear of getting contracted with Virus. Focus on Health & Hygiene may alter eating behaviour like eating less outside food, lowering the intake of processed food.

Beyond a point forecasting, macroeconomics is tough. We remain optimistic that the pandemic will affect only near term economic parameters but it won’t dampen demographics of the country nor can it stop the long term momentum in GDP growth and rising consumerism.

Where do we go from here?

Overall markets may remain subdued until the time earnings growth kick in. But this doesn’t mean individual stocks won’t rise.

It may appear that stocks have become expensive as Nifty has rallied from March lows, but do not anchor to March Low prices. Many stocks are still cheap and trade at 12-15x FY22 P/E ratio. In India barring 10-15 stocks, other stocks had already corrected from Jan-18. So they were already quite cheap.

We expect superior returns from stock picking as average stock today is trading cheaper than Nifty itself.

Near term uncertainty in structural growth, story spells an opportunity for long term investors. Stocks are beaten down from fear of short term slowdown and the cuts are much more than actual impact on business.

We do not find any merit in second-guessing what’s going to happen in the next 6 months-1 year. We leave this field open for speculators, fear mongers, and punters.

We had written in our previous outlook that “after such a sudden fall, the rebound could be equally sharp whenever it happens. We recommend to stay put and not worry about looking at prices.”

We are managing only long term money and predicting near term events is futile.

We continue to recommend Gold Fund/Gold (up to 5-10% of the portfolio) as a hedge from contagion risks and some allocation to safe liquid funds/Fixed Deposits (10-20%) within in equity portfolio for capturing new opportunities.

Act on our calls and restrict your allocation to 3-5% in each stock. And not more than 25% in each mutual fund. This will keep you at peace, and not significantly dent your portfolio performance.

Beyond this, tinkering asset allocation will only reduce long term returns thereby missing one’s target corpus. We have diversified our stocks portfolio, we have diversified assets and we have long term horizon. Together this takes care of all potential risks in investing.

Happy Investing!

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Ketan Gujarathi

Manager - Equity Research; Based in Pune, a Total of 7 years of work experience ranging from equity analysis, credit rating and banking. MBA in Finance and a Bachelor's degree in Engineering. Passionate about studying companies. Likes reading history & business books. Spends free time with friends and family.

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