Memo37- All time high; What next?

Over the last 50 days, Indian stock markets have been hitting new lifetime highs almost every alternate day and there is palpable excitement among the investing community. Not just India, but
the stock markets across the globe have been hitting 52-week highs or life time highs. While it is surely a time to rejoice and celebrate, it is also the time for the ritualistic contra thinking, some of which is useful and some of which is only for the sake of satisfying one’s intellectual curiosity.

Is the current rally justified? India has not only recovered well from the Covid shock, but has also been able to capture benefits in the manufacturing sector arising out of the geopolitical war between China & US. Record number of new factories are coming up; record number of new trains, aircrafts, power & defence equipment are being ordered; record numbers high end homes, cars, airline tickets and hotel rooms are being booked. The banking system earned more than 300,000cr in profits in FY23 and is in best ever health in 15 years.

A closer look at various global markets also tells us that there is a noticeable difference between the market rally in India and that of developed countries like US, UK and Australia. The Indian markets have decisively crossed previous life time highs and marched ahead, while the other markets, although at 52-week highs, are still some distance away from previous life highs. Another big difference is that the rally in US (Nasdaq) is driven by only 7 or 8 large stocks. In India, the rally is very broad based, spread across 10’s of sectors and 100’s of stocks. All these are technical factors that point to the fact that Indian rally is stronger than its peers.

On the macro front too, there is one major difference between India & the developed economies – India has always lived with 6% inflation and 8% interest rates and grown despite that. On the
contrary, US & Europe have been addicted to low inflation & interest rates since early 2000s and the younger generation there is getting their first taste of elevated inflation & interest rates. In such an environment, India’s economic growth can significantly outshine other developed economies and attract decent FII flows for many years.

All the above factors lead us to conclude that the current rally is resting on solid foundation. Some of the internal risks are – uneven spread of monsoons, drastic climatic events and the possibility of adverse outcome during the 2024 national elections. Beyond these, the risks to Indian economy are
mostly external i.e. global volatility and commodity inflation.

Should one stay invested or book profits? The temptation to sell and book profits after an elongated market rally is generally high. It’s almost as if there is a subconscious fear that markets will crash and you will lose your profits. But before doing so, one must ask this question – In a growing country like India, is this the last time that markets will be at all-time highs? If we look at the history of our markets since 2008, the index has made new all-time highs on more than 500 of the 3750 trading days (Sensex has moved from 15,000 to 66,500).

There is high probability that such a pattern will repeat over the next 10 years as well, that Indian markets will keep marching forward as our economy keeps growing. Indian markets are not like
Japan or UK or Australia, where markets haven’t made lifetime highs in a few decades. The only kind of stock selling that makes sense right now is to get out of the frothy pockets, where share prices have gone far beyond the fundamentals. In the current context, some PSU stocks, SME stocks and low liquidity stocks fit the bill for booking profits.

Should one invest additional money at these elevated levels? We all are tempted to invest more money when the going is good, and hold back when the tide changes. While one should continue their regular investments, one can wait for a cool off period to deploy big capital. Do remember that there will be a flurry of negative news when market cools off – if you wish to time the markets, you should have the emotional grit to during such times.

Another point is that even in such markets, there are pockets of opportunities – certain new age companies, chemical & pharma sector, banks & NBFCs, manufacturing, dairy & real estate sectors fit the bill in the current context.

Trivia – Home (not so) sweet home!

Owning your house has been a universal dream from times immemorable. So intense is this desire that lakhs of Indians have pursued it over the last decade despite it being an economically sub- optimal decision (we have written many times over 2014-20 that the Indian real estate market was extremely over-valued and that renting is an economically better decision).

Residents in countries like US, Canada and UK were luckier – buying the house & making mortgage payments was more economical v/s renting. And thanks to the declining interest rates over last 20
years, housing prices have steadily increased and created lot of wealth for the home owners until 2022. Things seem to be changing since mid of 2022, as the 30yr mortgage rates have increased from 3% to 7%. The simple mathematics around income & mortgage payments suggests that housing prices in US need to decline by 40% in theory as explained below.

While an existing home owner in US continues his old mortgage at 3%, the new buyer will have to shell out 7% on his mortgage. That translates into an additional annual payment of US$30k for the
new buyer vs. the existing owner for a house costing US$1 million. To reach parity levels with existing owner, the new buyer needs to buy for US$600k i.e. a whopping ~40% discount! Of course, no one is going to sell their US$1 million house for US$600k since that would mean going back to 2012 prices. Hence, as it stands now, it’s upon the buyer to shell out a lot more for the same house. Not many would have the additional disposable incomes or the loan eligibility to do it. Thus, in the near term, the number of transactions in the housing market will start drying up.

If the interest rates stay high for longer, it is getting clear that either US housing prices will have to crash (less likely) or they will go into a decade long period of time correction (more likely). The same could be the case for US stock markets, given the peak margins, peak valuations, the tight labour markets, and the un-anchored inflation expectations. Most fund managers in US are looking to diversify their investments in emerging markets and India is the only market with size & depth! If foreigners are singing the Indian song, why should Indians be left behind!