Among equities, one can adopt a barbell strategy, i.e., own a
mix of high-quality growth stocks at the one end and buy beaten down 'relative
value' or 'mean reversion' plays such as Corporate Banks, PSU companies, Pharma
and Utilities at the other end.
In the current situation, the stock market
fall, in the global markets and India, is mainly on account of Fear of the
Unknown
The world has suddenly become a different
place in the last two months, with Coronavirus or Covid-19 taking
a host of nations by storm.
It all started
with China, and for some time the rest of the world was looking at China, the
most populous nation of the world, with curiosity, at what had suddenly erupted
within the region. While China was battling with the fast-spreading virus and
the Chinese markets started tanking, other markets (including India) initially
distanced themselves from the problem, considering it topical and restricted to
China and a few other Asian countries.
Markets in the
US, as well as India, were quite resilient for some time. Corporate India
seemed to be quick to draw conclusions about how some Indian companies and
sectors could benefit from trade and manufacturing orders potentially shifting
out of China to other countries, including some to India. Little did anyone
anticipate that in a few weeks our country too would need to contend with the
virus.
The scenario
changed, however, when, totally unanticipated, the virus engulfed the world and
WHO declared the Covid-19 as a pandemic, followed by various countries issuing
travel bans, emergencies, lockdowns, and other restrictions. Capital markets
across the world tanked miserably.
The market
fall has been a financial tsunami that has washed away faith and stability in
spite of a slew of liquidity injection measures announced by central banks
across the world.
The speed with
which markets nosedived shook the earth, this intensity has never been
witnessed by market participants in the last 3 decades or so. Some likened the
current crash to that of 1987, when many young traders who are currently
thronging their screens in despair and frustration were not even born.
March 2020
will be recorded in capital market history as an unforgettable month.
A
historical perspective
That markets
dislike uncertainty is well known and whenever they sense that coming, they
shed some weight. Looking back at some of the major stock market corrections in
India, most of them were driven by financial market excesses or economic
disruptions of some sort, with a prolonged impact on the market sentiment. And
along with the global market correction, Indian markets too paid a heavy price
on every such occasion.
Until such time, however, markets may continue to be
volatile and susceptible to daily news-flow and hypothesis with respect to the
pandemic, a stage which possibly traders and arbitrageurs will dominate.
What should Indian
investors expect from the markets?
Firstly, take the market
fall seriously. Markets are worried due to lack of clarity on the immediate way
forward. With efforts around containment rising drastically across the board
since the last few days, if the corona situation comes under control soon, we
could see the markets retrace some lost territory. Else, we stand the risk of
markets slipping into a longer bear phase.
Economic recovery and
earnings growth in India are likely to be a bit derailed, as the corona scare
has a real impact on economic activities in India - travel, tourism, hotels,
manufacturing and services having global dependence and now even the larger
corporate sector starting to scale down operations and productivity with
work-from-home contingencies triggered.
Moreover, structural issues
still persist, although improving on the margin. The financial sector has been
rocked by one scandal after another, shaking the confidence of investors as
well as lenders. For a sustained economic recovery, it is imperative that
credit growth picks up.
Some green-shoots are
however visible
The recent fall in oil
prices is beneficial overall for India's current account, as we are a net
oil-importing country. Even if a settlement is reached among the oil majors, it
looks pretty likely that the average oil price for this year will be lower than
the previous year. Though one must keep in mind that very low oil prices would
also mean a lower global economic growth which could adversely impact India's
exports, remittances from overseas as well as FPI flows.
A lower current account
deficit and lower imported inflation will provide the necessary legroom to RBI
to be more liberal with monetary policy. The RBI is anyway committed to
maintaining sufficient liquidity, and given the prospects of a delay in economic
recovery, a rate cut in the near-term cannot be ruled out.
Global central banks are
fast acting to provide liquidity, through rate cuts, purchase of bonds and now
a cut in reserve requirements (China). This should hopefully provide some
cushion in the current volatility and reduce panic among investors.
Valuations of Indian
companies were on the higher side for quite some time, given (a) lack of
earnings growth and (b) flight to quality large caps, making a part of the
market quite expensive. The recent fall seems to have corrected valuations of
several companies, presenting an attractive entry point for long term
investors.
And unlike in the previous
market falls, the earnings cycle of Indian companies (prior to the Corona
shock) was on a path to recovery and not peaking out. The current re-rating of
the market is factoring in the possibility of some growth being shaved off
owing to the virus effect; but post that, markets will look for growth starting
to recover towards the second half of the coming financial year.
Investment strategy
While investors should be
cautious to prepare for the long haul, not to rush in (should things worsen
from here), a 'buy on dip' strategy may be suggested, given that valuations are
far more reasonable now than a month back. Investors should stay within the
discipline of their asset allocation and use the market falls for portfolio
rebalancing. Any excessive leveraging is best avoided in such times.
If we look back into
history, we find anecdotal evidence to suggest that very sharp market falls do
present an attractive opportunity for long-term investors to accumulate
equities in their portfolios, provided they are willing to extend their
investment horizon and ride out the intermittent volatility.
Nifty fell by more than 8% on 12 March 2020,
depicting the panic and fear on the street. As seen from the table, barring a
few exceptions, such sharp falls of the Nifty (6% or more in a single day) in
history have usually been followed by a meaningful return over 1 to 3 years.
Among equities, one can
adopt a barbell strategy, i.e., own a mix of high-quality growth stocks at the
one end and buy beaten down 'relative value' or 'mean reversion' plays such as
Corporate Banks, PSU companies, Pharma and
Utilities at the other end.
Among mutual funds,
allocation to large-cap and multi-cap funds in the current fall is a better
approach and later adding mid-cap funds once the volatility reduces.
A prudent strategy would
also be to use a combination of index funds or ETFs + aggressive hybrid funds
and balanced advantage funds (which have partial hedge).
In fixed income, given the
overall fiscal pressures as well as the fact that long-dated government
securities have already rallied quite a bit, investors may explore high quality
(predominantly AAA-oriented) short-to-moderate duration strategies, which will
serve as a safety play (in the midst of credit concerns) + provide some scope
for capital appreciation should the RBI use its monetary tools to bring down
rates further at the shorter end of the yield curve.
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Opinion