June 2021 Stock Market Outlook

Review

For the year ending Mar’21, Nifty closed at 15,582, around 62% higher than last year. In the last 3 years, Nifty is up 45%; ~13% CAGR.

The last 1 year saw a massive shift in stock performance versus the prior 2 years where only Nifty stayed flat while the rest of the market saw correction. In the last 1 years, every segment of the market, small, mid, value, cyclical did better than Nifty. Low interest rates globally and high investor participation in the global market have led to good gains in stocks.

Performance of small/mid-cap, capital goods, and PSU was encouraging and playing a catch up with the rest of the market.

Incremental macro data was improving but has hit a pause to fresh lockdown across key states. Company activity has stopped and many manufacturing firms have taken maintenance shutdown. However, companies are in better shape to handle lockdown versus the past as they learned from experience to operate under such circumstances.

Outlook

Nifty 50 index trades above its fair value while there are pockets of extreme overvaluation and undervaluation. Nifty – led by a concentrated portfolio of Top 10 stocks – is around 31% higher than its fair price, while the same is not true for all stocks. (Nifty@MRP 11,864 Dec’20 numbers). The next update will be done after the June Quarter results.

If we see growth improving next year, we may see an upward revision in our estimates. We have made upward revisions in sectors where we are seeing a sustained recovery in earnings and cash flows. This can bring down overvaluation down by ~5-10%.

As of date, the average upside of our coverage universe is likely to be closer to 10% CAGR over the next 5 years basis based on a current estimate. Similar to Nifty, the average upside of our universe is low due to few stocks showing < 0% CAGR while the rest showing > 15% CAGR upside potential. Pockets with higher upside have been moving up and adding to our portfolio returns.

MoneyWorks4me performance was strong last year as we saw the market recognized undervaluation in pockets where we were invested. Even if we return before Covid correction, there are good versus Nifty’s performance as the market rally was broad-based.

Our 3-year performance is 15% CAGR versus 13.5% CAGR for Nifty. The difference in returns looks small, as Nifty was quite a stellar performer in FY18-19 backed on 10 stocks when the rest of the stocks went nowhere. If one sees outperformance over the last 7 years, MoneyWorks4me has delivered 18% CAGR versus Nifty’s 11% with a multi-cap portfolio.

We expect our margin of outperformance will only increase in the future as Nifty’s concentration in few stocks and lot of overvalued stocks versus our recommendations in diverse sectors and reasonable valuation.

Today, we are looking at opportunities in infrastructure, building materials, export-oriented capital goods, PSUs, and import substitute ideas. We have incrementally added stocks in capital goods and logistics as we started seeing sustained growth versus volatile growth earlier. We continue to remain positive on existing companies that are delivering good growth. Stocks in IT and Pharma have moved up ahead of their earnings growth, we will be reducing our allocation over time.

We look at companies that have good earning triggers over the next 2 years. We are investing in companies i) coming out of sector consolidation/debt reduction, or ii) introducing new products, or iii) commissioning new capacities, or iv) executing orders in hand. v) Export-oriented companies as economic recovery is better in western countries. This gives certainty of growth rather than plain anticipation.

We recommend avoiding stocks/sectors that have run up much ahead of their earnings growth over the last 3-4 years. While the company may continue to do well but stocks may not earn good returns or turn into losses over a 3-year holding period.

Risks

Indian Economy

GDP data saw two-quarters of year-on-year decline, while the recent quarter was more reasonable 7.5% versus the previous quarter decline of 23%.

The second lockdown has dampened the sentiment for industries and consumers alike. However, the expectation is that economy will recover faster than before as lockdown opens up. Lockdowns are being lifted partially or fully depending on the positivity rate. We will monitor signs of turnaround by looking at volume growth/capacity utilization/inventory-sales ratio. Vaccination rate is another metric to track as it means faster normalization of economic activities. The current vaccination number is 23 Cr which is 18%, as it approaches 35-50%, we may see rapid economic recovery.

This time opening up may not see a U-turn in discretionary spending, unlike last year which was linked to pent-up demand. We remain cautious in Consumer stocks including Auto, FMCG, and Durables. Also, fully priced valuations have kept us away from these sectors.

Banking and financial services are again at the forefront to face the brunt of slow economic recovery. Leading private sector banks and NBFC both have warned of delinquencies over the next few quarters. We remain cautious and recommend owning only selective ones where we can estimate the worst-case scenario and still earn reasonable returns over the medium term. As the dark clouds get clear, we will see good wealth creation in banking stocks.

India’s corporate debt profile is very good versus the world. Most sectors have few strong players and highly indebted companies are already written off. This reduces risks in the country and financial system.

The Indian corporate sector is in the best position to gain pricing power and balance sheet strength. The majority of the sectors have seen consolidation.

We are seeing this across sectors: Power, Telecom, Cement, Banks, NBFCs, Real Estate, building materials, Paper, pharma, capital goods, consumer durables, etc. This will give strong profitability for incumbents due to the high barrier to entry for the next few years.

Inflation from rising commodity and oil prices can spark fear in economic recovery. However, with lower utilization in various sectors, inflation might not be passed on completely to take advantage of higher volumes and favorable operating leverage.

Global Economy

Western countries are reporting better outlooks as vaccination is picking up pace. This can lead to economic recovery over the next 6 months. Large stimulus checks are handed over to citizens has led to cash flowing into bank accounts. As people get vaccinated, they will spend this on shopping and traveling. This will help in economic recovery. We are already seeing huge pent-up demand causing shortage and inflation. Tight logistics and raw material supply is causing a spike in commodity and widgets prices. It is still uncertain whether inflation is transitionary or structural. We have recommended Gold as allocation in a recent post to our subscribers.

There are signs of large speculation in US markets and Cryptocurrencies. A lot of trading activity has led to an increase in leverage and higher trading volume. This is a risk to the market if not the economy. It may happen that the market comes off as the economy recovers as the benefit from fiscal stimulus will fade off. Also, a new draft on widening the definition of corporate tax can lead to revising earning growth downwards globally can cause volatility.

Frequently Asked Questions

How have MoneyWorks4me Thematic Portfolio performed?

Depending on the opportunity set available with Analysts, we recommend a thematic portfolio. This can be over and above recommendations mentioned in Core or Booster Superstars.

Analysts come across few stock opportunities, at times riskier, so can’t be part of a Long-term portfolio but only tactical. We share our take on these stocks for our aggressive clients either in detailed or capsule format.

We recommend investing only a portion of investable surplus in one theme and not hold beyond few years. Returns from these themes add up to overall portfolio returns. Use our Thematic portfolio tool to buy/sell portfolios in one shot on a number of broker websites.

Few stocks are making big moves why are we investing cautiously or selectively?

Today we are seeing run-up not-so-good quality stocks. These stocks are inferior quality or cyclical in nature. These are not great buys for the long term and only trading plays. We believe these are not good buys for retail investors and must be avoided at all costs.

If you come across any stock recommended or rallying, check our 10-Year X-Ray and you will notice that the color code of companies is either RED or mostly Red cells. If you genuinely want to earn good returns for a long which can materially change your corpus, you wouldn’t want to get greedy in short term. This can lead to accumulating poor stocks in exchange for quick returns.

We rather recommend owning good companies at slightly higher prices versus bad quality. We have been adding companies in our Core-SIP which are good quality and reasonably priced. This is a very good strategy for them who add savings to their equity portfolio each month.

Is it a good time to invest in Gold?

We recently wrote an article to our subscribers on whether it is the right time to add Gold and sell Equity.

Spike in commodity, asset prices, and rise in headline inflation has once again questioned the current monetary regime. While the low cost of funds helps economic recovery, it has side effects like inflation percolating in the real economy and asset prices.

We are seeing a persistent rise in prices of metals, basic commodities, raw materials, etc. Part of it is from supply chain issues as many producers couldn’t get their production back online, also there is ample cheap money to speculate on margin trading on commodity futures.

With fears of inflation and asset price rise, one question comes to mind naturally, is it the time to sell equity and buy gold?

Gold hedge against hyperinflation?

This is a 1-year rolling chart of inflation and gold % change. Whenever inflation shoots up, gold prices rallied. US inflation has more influence on Gold as it is trading in USD.

But even if India has higher inflation, gold will do well as INR will depreciate versus USD and gains would come from depreciation than gold alone. So even for Indian investors, Gold can be a good hedge for inflation.

How is gold valued?

The value of gold is often compared to M2. It shows that Gold has not exceeded M2 so may not be very overvalued. M2 is a measure of the money supply that includes cash, checking deposits, and easily convertible near money. M2 is a broader measure of the money supply than M1, which just includes cash and checking deposits.

The rest of the article can be read here.

Shall we stay invested or sell equity?

Odds are highly in favor of staying invested rather than exiting or delaying fresh addition.

For fresh funds, we recommend 50-75% investment into stocks/funds that will do well over the next 5 years. If your time horizon is long-term (5 years+), the current valuation will matter less.

We do not find any merit in second-guessing what’s going to happen in the next 6 months-1 year. If we look at past data, there was an 85% chance of beating FD return and a 95% chance of positive returns on 5 year period. With such favorable odds, we believe investors worry too much over interim correction instead of keeping long-term optimism.

By booking profits (term used by speculators, not investors), you will park funds in Fixed Income. But chances are very high that Equity will beat Fixed income over 5 year period. While Fixed income is not the right benchmark, it is just to show the worst-case scenario for Equity in the medium term.

We recommend equity investing only for long-term savings so that near-term events become irrelevant. This doesn’t mean one throws caution to the wind. Shortlisted funds and stocks must be of good quality and diversified correctly, such that they will deliver returns over the long term. Picking the right stocks or funds is easier than predicting the market direction.

Avoid any type of regret while investing. Regret can come from either missing a winning stock or not adding enough to a winning stock. Rather focus on long term process versus short term outcome. All great investors have missed several stock ideas in their plain sight, but still, their track record is quite good because they stuck to their process.

Do not disturb equity allocation in your asset allocation. Changing you’re with asset allocation will only reduce long-term returns or increase the risks of missing one’s target corpus. 

We have diversified our stocks portfolio, we have diversified assets and we have a long-term horizon. Together this takes care of all potential risks in investing.

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