The last 18 months have drawn interest in stock markets with significant collapse due to the pandemic. A near 40% decline in markets during February-March 2020 was followed by the “mother-of-all-bull-runs” with Nifty appreciating 140% from 7,700 to about 18,700.
Capital market adoption and digital adaptation to capital markets are not new in India. But when these long-drawn trends combine with sharp fall in interest rates, higher savings and liquidity and work-from-home, we see greater interest in equity markets. In such a scenario, it’s natural for market participants, commentators to worry about the well-being of new investors.
I do not think the markets have peaked. Going by earnings and cash flow growth of Nifty companies, one can see that 17,000-18,000 today is cheaper than 12,500 of February 2020. Let me explain. When the Budget was presented in 2019, we projected 4-5% GDP growth for FY20 and reported a 3.6% fiscal deficit. With barely 4-5% projected growth, we were trying to cut the deficit. By doing that, we would have ended up with lower growth and deficit resurgence. We had no choice because even as India was in the trough, the U.S. was booming with 3.5% growth and almost nil unemployment. It was a recipe for capital flight, currency weakness and sovereign downgrade. Cut to 2021—forget 4%, we had negative growth and over 7.5% deficit. But we are no longer talking downgrades, there is no fear of capital flight and currency is stable. There are murmurs of a possible upgrade and we are witnessing capital inflow by the truckloads. Government investment, exports, consumption and private capex are showing signs of traction.
Coupled with this, capital market adaption, digital tailwinds to adaption, production-linked incentives for manufacturing and vaccination coverage have added to positivity. Lastly, Nifty EPS, an indicator of corporate profit, has broken the 400-450 range after half a decade. We could go as high as 900 in next two years. This rally has legs, and they are still fresh and long.
But easy money, undervaluation and many positive surprises are out of the way. From now on, one can expect markets to deliver only in line with corporate and economic performance. In such a scenario, any negative surprises, bouts of excessive optimism followed by periods of scare and profit-taking cannot be ruled out. In the big bull run from 2003-‘08, there were at least seven corrections of over 10% from previous highs. The Bollywood adage, “Waqt har zakhm ko bhar deta hai”, applies to equities. All highs are preceded by a series of new highs and will be succeeded by numerous new highs.
Why take the “zakhm”?
Be clear why you are investing, and with what time horizon. Have realistic expectations. Being patient in a downside is non-negotiable. If recent experience was bad, you can “always believe something wonderful is about to happen”. If it was good, “remember trees don’t grow in the sky”. When markets are falling, remember the original plan. When markets rise incessantly, brace for the other side of the coin.
It is important to have investments across asset classes. So, when one or some are not doing well, do not lose sight of the overall portfolio. It is impossible for all stocks and funds to do well. If you cannot handle market extremes very well, your risk profile is not what you thought. When thinking about risk profile, do not determine your risk profile with memories of a 100% appreciation in one of your fund NAVs. Determine it based on how you felt on March 23, 2020. If your risk tolerance is low, then you are better off in funds with mixed asset classes. Giving up liquidity to preserve or recoup capital is the norm when investing in capital market products.
The best way to avoid zakhm is to ensure you invest and disinvest regularly. Always keep some dry powder to put in each time the market is 10-15% down from its peak and withdraw some money after making much more than what you thought you should make. Investing and disinvesting systematically, along with regularly rebalancing asset allocation, is the best way to avoid entering at a peak. Calibrated entry and exit is the way to go.
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