Is this the right time to invest in Indian equities? This is what I am doing…

Summary: India is the worst performing of all the markets across the world, and we deserve it. Any other way would mean that life is unfair. As things stand, we have a perfect storm of headwinds facing us, and many of these headwinds have been our own doing. I believe that the situation will be the same for a quarter more, at least, and in this time an investor will be well advised to try and develop a shortlist of companies he/she wants to invest in. Personally, I am saving up my cash for the same. I am planning to do so until I can go for a big bang and invest all of the cash in organizations best poised to make use of improved conditions, thereby getting the biggest bang for my buck.

 

 

Context Of This Article

With an intention to make sense of the world we are living in and how it is shaping our present and immediate future, I am writing this article. It is meant for folks who want to know what is happening around the word but are not keen to look at hardcore business news on the same. This is the third article in the series of 3 articles on:

  • Just what is happening in Europe? (It is posted here)

  • What are the other major themes in the world economy right now? (It is posted here)

  • Given all of the above, what is in store for an Indian investor

 In this article, I am mentioning my point of view on what we should expect in India over the coming months, and how do I plan to play out my investment strategy to make the most of the situation.

A quick Recap… Where we were with world events

A month ago, I had mentioned in my earlier articles that Europe will have a prolonged period of tough times for Europe (which is the wealthiest region of the world), a prolonged period of near zero to very low growth for USA (which is the growth driver in the world from the demand side) and a slowing growth of China (which is the growth driver in the world from the supply side). In the past month, since the articles were written, nothing has happened that has made me change my beliefs. .

  • Europe had another Brussels summit where in the leaders met another time and came out with another promise to fix the situation by revisiting the European treaty. Like each previous similar occurrence, this too looked more like a strategy to buy time. Aside from the story of Great Britain shooting itself in the foot by isolating itself,  the only significant thing was that the rating agencies have put the entire Euro zone on downgrade watch. That, irrespective of your point of view on the efficacy of these agencies, is a bad thing to happen.

The situation will continue for months before normalcy is restored.

  • USA, on the other hand, has been the flag bearer of good news in the recent times. Its retail sales numbers are better than expected and that means that people have been willing to buy stuff from their income. The number of people filing jobless claims in that country has reduced, indicating that more people may be getting their jobs back. Their currency is surprisingly resilient as the whole world is seeing the US currency and US government backed treasuries as the safest option on the planet.

I believe this happiness will be short lived. I hope I am wrong, but I don’t believe I am. The key driver of their growth has been the real estate industry, and that is not showing any new signs of improvement. That means that the people are saving to buy holiday items but are not confident that they will have long term earning prospects. USA is having presidential elections next year and like any other country on the planet, it means their government will continue to dilly-dally until a new leader is in place. All of this will mean that the economy may dwindle along at snail’s pace for the next year. If it outperforms the rest of the world, than it will be solely because the rest of the world will be going to dumps.

  • China already has the rumblings of a real estate bubble that may slow the economy to a large extent. Its biggest export partners, Europe and USA, are nowhere hear sound health and so it has to slow its growth to a large extent.

The coming months will see China slowing down further. This will lead to slashing of commodity prices.

The train wreck that is India

 We were shining once. But then we got blinded by our own luster and have now collided head-on with a perfect storm of incoming disasters. In the last year (many in last one month alone) we have done the following:

  • Started on an ill advised policy of FDI in retail (my thoughts here),
  • Then back tracked on it and along with it froze on all important policy issues
  • Contrived to pass the  Food security bill that will doom our finances
  • Confirmed to the world that we had actually exported less than what we had earlier claimed
  • We have fooled ourselves into believing that a double digit inflation is worth sustaining for single digit growth
  • Contrived to reduce our growth by increasing lending rates many times more than required
  • By opposing Lokpal and suggesting Internet pre-censorship made sure that the entire world sees the India story as one of false promises, both on democracy and governance.

Combine the above with the fact that the rest of the world is sharpening the axe on which it is going to jump, we know that we have managed a near perfect storm situation for ourselves. We are going to get beaten on economic, fiscal and governance fronts in the coming few months and there is no hiding from it. As Ravi Shastri puts it… we are under the pump.

In order to make a sound investment decision of what needs to be done next, it is important to understand which factors come into play from an investor’s point of view. Below I am mentioning what matters to the investor (and not to the sociologist) in me.

How to sort through the wreckage

In order to understand what is important, we need to remember what is important in any financial decision. Any company is profitable when:

  • It borrows at a cost that is less than the return it gets after investing those borrowings
  • It is able to do this over and over again.

The analysis of our investment future has to be done in the light of above two points. We need to know, what is impacting the borrowing and purchase costs of the companies we plan to invest in, how much money is generated from the core business functions of these companies and how much of the eventual profit the company can afford to reinvest in its own business.

If one looks at all the above external and internal headwinds above and tries to relate those to these financial parameters, one can mention the following broad level correlations. Based on this analysis, it is not difficult to understand why we are being pummeled left/right/center across industries.

Headwind Category Why it is happening Who does it Favor Who does it punish
India is spending more than it is earning Government is spending on a lot of subsidy/social welfare schemes, many of which are ill advised.

 

On the earnings side, government was hoping to make a lot of money on exports and by selling stakes on state owned firms. None of that happened

None, except bears in the market Nearly every firm/transaction that is backed by GOI in terms of guarantees. World thinks that Indian companies are operating in an unstable/unreliable market, and so think that their Indian investments are risky. They, thus, demand more bang for their buck and hence borrowing costs for companies in India increase
Food Inflation is high Our agriculture is still not modernized and our public distribution system is not functioning properly due to inefficiencies and corruption No one, except agriculture commodity companies and FMCG companies who can pass on the cost to consumer. Nearly everyone where sales are dependent on customer confidence. This include retail and auto segment.
Non-food or Core inflation high Oil prices are high in rupee terms that increase the cost of raw materials and more than offsets the reduction in commodity prices worldwide It should favor companies in commodity business, but it does not if the inflation is high for a long time in continuum. It punishes all companies relying on debt as RBI increases bank lending rates to counter this inflation, and that means less business activity in the economy
Rupee is weakening Our inflation is high and profits are low. People think there are better places to invest, and so are selling Indian rupee in favor of other investments Anyone who is into exporting business Anyone who has to pay in dollar terms. This payment can be for goods or loans.
Bank interest rates are high RBI believes that to counter inflation we need to make sure that people buy less stuff and that will reduce the seller’s bargaining power. So it makes the borrowing costs higher so that any business will think twice before making any new acquisition on borrowed money.

 

To counter inflation in India, RBI has increased the rates and won’t reduce them until inflation eases

Banks! This will happen only if the affairs of the banks are themselves sorted and they have customers who are willing to borrow from them Infrastructure companies, real estate companies, heavy engineering companies, auto companies and anyone else who either borrows itself or whose customers borrow money to purchase the product
Anti corruption sentiment very strong, but real corruption is not ending Stakeholders with vested interest are not willing to end the corruption, but have to pay lip service to the citizens No one. Any company that wants to operate properly will be stopped by corrupt forces. Any corrupt company will be stopped by anti corrupt forces. Everyone who is not benefited due to the stalemate. This means everyone!

What happens now?

As mentioned above, each and every sector of the economy is facing one type of headwind or other. In order to understand if we have any reason to be hopeful, and by when that hope will come into fruition it is important to consider about what we think of our immediate future. A point of view on this future is going to shape the point of view of any investor.

Below is my point of view on the future of each heading.

Headwind Category What is going to happen? By When is this going to happen?
India is spending more than it is earning I don’t think we are going to be able to put any cap on our deficit. The present government has turned a blind eye, according to me, to all notions of fiscal prudence and that will mean that we will have to struggle with this problem until the world is willing to accept Indian products. Europe/US/China are not going to improve for another 6 months, at least. I think India will have expanding deficit until 2013 and only when the exports grow will the situation improve for us.
Food Inflation is high Food inflation will come down, the prices will not. We will have a situation where we will have to subsidize the food to the poor to a large extent, and apart from increasing deficit it will also compromise the socio-economic balance in the country. Worker productivity will be further compromised. Effects to be seen in 6 months, after the Food Security Bill goes live.
Non-food or Core inflation high This will go down as soon as commodity prices spiral down. Inflation will go down in about 3 months and we should be seeing the effects on company financials in about 6 months
Rupee is weakening This will weaken further, unless India is able to give confidence to the world that we are worth investing, or until the world gains confidence by itself that we are worth investing We will see rupee weaken further and for another 5-6 months. By then, US economy would have stabled, China would have slowed and Europe would have gained sense. Present UPA govt. in India would have seen its results in UP elections, and irrespective of whether they are good or bad it would be in a better position to act on policy decisions.
Bank interest rates are high Since RBI increased rates to counter inflation, it will reduce rates when inflation comes down In about 3 months time we should see start of reduction of rates by the RBI
Anti corruption sentiment very strong, but real corruption is not ending I think we will have a version of the Lokpal bill that is not going to be as strong as the supporters want. This will lead to further consternation between the government and the citizens. Also, there will be the Swiss black money issue that is going to haunt the government. The agitation will intensify in Jan, but in 6 month’s time the UPA government will see what kind of effect it has on the state elections. Depending on whether it is good or bad, a solution will be arrived at.

So where does that leave us?

As per the above table, I believe that both the domestic and international situation is not going to improve anytime in the next 3-6 months. After 6 months, we will see signs of some improvement in the emotions of the rest of the world and only after 12-18 months will we actually see some improvement on domestic side.

I can be considered a pessimistic in believing that world will come to its senses earlier than we do, but I believe I am not wrong in that assumption. I have again read my list of headwinds to affirm what I am saying here. I will be happy if I am proven wrong, but the present government leaves us with no reason for optimism.

What is my investment strategy?

I believe that equities are not going anywhere for the next 3 months. They are not going up, that is. However, this prolonged period of low levels are going to create tremendous opportunities for investors like me. In the light of this, I am doing the following:

  1. Saving my cash for a big bang: I am saving all my money to invest as soon as I get my 1st cue that the tide is turning. To me, that cue has to come from within India rather than outside India. It could be a major policy decision by the government, or could be a change of fortunes for the government after the election season or could be the something else that will change the fortunes for the domestic consumption story for the better.

  1. Investing in fixed income: I am not good in making much sense of fixed income markets. I understand the relations between bonds and equities and how they signal the future of the economy, but I do not profess any expertise here. I know that right now buying bonds of highly rated bond issuers is a safer bet than equities for the coming few months. Since I don’t know what to buy on a short term, I have lent money to a firm I have confidence on with a promise of a fixed rate of interest and payback when I want it.

  1. Short listing candidates from the equity market:   In the coming weeks, the exclusive criteria will be to look at companies with good earnings prospects (to guarantee operating profits), with no loans from foreign issues (to limit repayments in rupee terms), with no convertible options (to limit dilution of equity), with capacity improvement investments already made (to make use of business uptrend immediately) and with investments made in similar lines of business (to prevent negative synergy). Such companies are going to be the biggest jumpers when the stocks rebound, thereby helping me with my big bang approach.

Conclusion

This is a time when the headwinds are for all to see and it is very easy to be either very pessimistic or over confident with respect to our investment strategy. I am saving my money to go for a big bang, so as to make the most of my investment thus made. The idea is not to catch the bottom of the market. The idea is to see what is causing the problem and by when the problem will be sorted out. According to me, we have a breathing space of about 3 months until which we can analyze the market and firm up the investment prospects. After that, we will head into a territory that will contain more optimism than pessimism.

If someone wants to follow my strategy, that person has to have the same conviction on how our future is laid out in front of us. If that is not true, the investment thud made will create dissatisfaction.


  • Shubhasis Pattnaik

    Fantastic analysis…

    • Anshul Mishra

      Thanks Shubhasis

  • krishna

    Anshul,

    Dont you think all the factors you have mentioned have already been factored in stock prices and we are close to bottom? I feel it is the time to buy in a staggered manner of some blue chips that have been beaten down like Reliance Industries, M&M, ICICI etc.

    • Anshul Mishra

      Hi Krishna,

      They have been factored. That is true.But I believe not everything is factored yet. For e.g., I believe that 2 factors are not yet taken into account:

      1) Cases where companies have to repay their debt in the next one year, esp if the debt was taken in foreign currency or if the debt was floated with a convertible option. In either scenario, the companies have to pay much more than what they had planned for and we will see organizations raise fresh debt/equity to pay old commitments. This ways bad companies will be further punished.
      2) Companies with mixed lines of business with limited synergies will be forced to prioritize one over the other. If they prioritize, value will be unlocked. If they don’t, they will be further penalized w.r.t. competition.

      In the coming few months, I don’t see anything changing in the macroeconomic environment. Since companies cannot stop functioning, we will see better companies differentiate their financials from bad ones in the same industry, and that is where our opportunity will lie.

      As i said, my point of view is based on my perception of the future. If you believe things will change sooner than later, you need not wait as in that case waiting more will be lost opportunity.

      Anshul

  • Ramandeep Kaur

    Hi Anshul,

    I am going through your blogs after just watching you in KBC (as you know the show comes late in US) ! Congratulations !! :)

    I was so impressed by your personality and knowledge in the show that I even remembered your website name. ‘Hapahap’-when you said that word, it brought a big smile to my face…The range of your GK amazes me. Ranging from old Hindi music to Engineering to IT and now I am on your blog reading about Economics…You have done such a fantastic analysis and the way you have presented your work in table is astonishing. Very good job. Keep it up!

    I have always wanted to learn a little more about finance and World Economics, but being in Science background, my brain doesn’t work too good in that direction…:) But I think your blogs will be a good start !!

    I would love to add you as a friend on facebook. My id is:

    facebook.com/xxxxx
    (Please delete the id if you wanna put my comment in your blog).

    Wish you all the best in your future endeavors !!!

    Ramandeep

    • Anshul Mishra

      Dear Ramandeep,

      Thank you for your extremely kind opinion of me and for visiting my site. My endeavor is to present my thoughts in the simplest of terms so that we get into conversations on matters of importance without the need of technical knowledge. That ways even I get to learn a lot and develop my own opinions. Pls do share your feedback. It would be very encouraging.

      Regards
      Anshul

      P.S. I have deleted your FB ID now. A few minutes ago I’d blindly approved your comment and for a few minutes it was visible to all. Sorry about that. I have also sent a FB request to you.

  • Simone

    Hi Anshul,
    I am also writing on this after watching you on KBC. Have gone thrugh Your website as well(Its really Amzing).

    All the best! :-)

    • Anshul Mishra

      Hi Simone,

      Thanks a ton for your kind words and for the feedback on my website. I am truly humbled.

      Anshul

  • nakul chauhan

    Hi Ansul ji, i m wathed u in kbc n i am vety intresting in econocal atmosphiar. actuly i am not inteligent like u and also dont know more about economics, but now i always read ur blog, in dis website. nice to know u.

    Thank you.

    • Anshul Mishra

      Hi Nakul,

      Thank you for the very kind words. Please do not say you are not intelligent as for this country you are as important as I am. The biggest injustice we can do to it is to discount our own worth!

      I try to write my articles in the language we use on a day to day basis, so as to encourage conversation. I do not think technical knowledge should be a requirement when 2 citizens are discussing matters of national importance with true hearts.

      Pls keep on visiting and let me know your feedback.

      Anshul

  • sidhnath verma

    Dear Anshul ji, congratulation for participating in KBC-6, Sir, you are intelligent and also a good looking and state forward speaking person, sir I am a stenographer in a central govt. department I want more knowledge of investment in simple way. where I invest of money as recurring mode so that I will more benefit during my retirement and during my daughter marriage. at presently, my daughter is about 3 years. please sent reply in my e-mail. again congratulate for participation in KBC. yours truly, friend

    • Anshul Mishra

      Dear Mr Verma,

      Thank you for an extremely generous opinion of me. Though I am not sure if i deserve your kind words, I must admit I am deeply humbled.

      I have send you and email to the address you provided, but that bounced. Assuming there was a typo, I have sent an email to the corrected address. If you have not received my email, pls reply back with the correct email address.
      Anshul