Memo 26 – Market View: The Litmus Test – Over for India, but Continues for You!

It would be an understatement to say that a lot has happened between the previous article dated 18th Sep, 2018 – Memo 25: Market View – Who Shall Pass the Litmus Test? and this one Memo 26. The stock market decline that started in Feb, 2018 reached its nadir in October, 2018, with the panic spreading to bond markets as well. Interest rates spiked; currency went into free fall, touching almost Rs75/$; petrol prices touched an all-time high of Rs. 90/litre. Timely government intervention & sharp decline in global oil prices resulted in restoration of normalcy by end of November, 2018.

What was the panic attack & how did we come out of it?

It has been highlighted in the previous two memos that Indian stocks were going through a weak phase since Feb, 2018. The situation got exacerbated in September, 2018 when IL&FS, a large infrastructure financing institution with debt outstanding of Rs. 90,000crores defaulted to the bond markets. Lot of Indian institutions had exposure to IL&FS, either through direct loans or investment in their bonds:

• IL&FS has to repay ~Rs. 60,000crores to 37 Indian Banks

• IL&FS has to repay ~Rs. 6,000crores to India’s debt mutual fund

• IL&FS has to repay ~Rs. 8,000crores to HNIs and corporate investors

Clearly, this is India’s largest ever bond market default. Apart from the primary impact on the above banks, mutual funds & HNIs, the secondary impact was that bond markets completely froze for few days, with no one lending to no one. The log-jam was broken with SBI announcing an indirect liquidity window of Rs. 40,000crores to NBFCs. This is not to say that the crisis is resolved; the investors in IL&FS will still lose 40-50% of their money; but bond markets have started lending to good companies and business is getting back on track.

What are the trends that have emerged?

Worst for India seems over: We witnessed a perfect storm over the past three months – Trump trade wars resulting in intense FII outflows, bond market crisis, currency depreciation, oil price shock, melt-down in FAANG stocks and correction in US markets. The fact that we weathered it and bounced back in three months is testimony to our belief that India is a strong economy and an island of stability.

Pain may linger, but pockets of opportunity are emerging: As we take stock of the damage caused in the storm, some clarity is emerging – interest rates on home loan or car loan will inch up. Another casualty is the real estate developer community – non-customer centric & unscrupulous developers will find the going very tough; many may default, causing further pain to home buyers, banks & some NBFCs. Folks in financial services industry will have to brace for lower salary increments and bonuses this year. Good NBFCs, good developers and good banks will emerge stronger from this storm.

Stock specific is the way forward: Given that we are just recovering from bond market crisis and bracing for national election in five months, it’s unrealistic to expect a secular rally in stock markets. However, stock prices of many good companies have fallen to attractive levels and there is high probability of making good returns over next few years.

What should you do?

It’s only natural to be scared when you lose money in every possible investment at the same time – your investment in debt & equity mutual funds might be in losses, stocks would certainly be lower by 20%, real estate continues to remain very slow and crypto currencies have miserably failed in their objective of being a global alternative currency, leave apart the fact that Bitcoin has declined 85% from last year.

We have seen many have held back investments in the past few months and continue to hold it back for the fear of elections. To us, it seems that the worst for India is over and it’s a fantastic time to re-start or step-up your investment activity. India is bigger than a single political party or a personality and will do well irrespective of the election outcome.

Trivia – Mickey Mouse vs. Snow White & the Seven Dwarfs

For most of us, Mickey Mouse is synonymous to Walt Disney. However, you will be a bit surprised to know that 90% of the Mickey Mouse short cartoon movies didn’t make profits for Mr. Disney despite being popular! Even after producing over 400 short cartoon films by 1935, Disney was barely breaking-even. It was his venture into full length animated feature film that actually began improving his fortunes. The high production cost (US$1.5m) of “Snow White & seven dwarfs”, their first full length movie forced Mr. Disney to even mortgage his own house. The film went on to create history by grossing US$9 million in 1938! This not only helped Disney pay off all his debts but left enough surplus to buy his own production studio and experiment more. Disney is a $167 Billion corporation today.

There are a lot of parallels in life, sports & investing in the above story. It’s only natural for all of us to crave for early success – an actor hopes for blockbuster in his debut movie, a cricketer hopes to score a century in every match, a start-up wants highest valuation in the first fund raising, a fresh B-school graduate wants to make big impact in the first year and stock market investors desire multi-baggers in the first year of their investing life.

But life is not designed to work that way. An actor has to keep making movies to deliver a few blockbusters,a cricketer has to play hundreds of innings to score a few centuries. Similarly, if you are an investor, you have to be in the stock market long enough to get a few multi baggers. Being long enough in an activity significantly improves the odds of getting the reward due to two main reasons:

• Over the years, you get better at avoiding obvious mistakes

• More opportunities present themselves in front of you in a longer time span

• The “timing” factor of investment becomes less significant

Friends & colleagues who started investing prior to 2010-11 will clearly understand the above analogies. After the tough phase of 2011-13, the bull phase of 2014-16 created huge wealth (Similar to Disney’s SnowWhite moment) which enabled them to not only diversify into other assets like high yield bonds & start-up funding but also digest the losses of 2018 with no significant impact. For those of you who started investing post 2016, situation would be very similar to Walt Disney of 1935 i.e. hardly any profits! If you chose to stay for long enough, it’s only a matter of time that you will get your “SnowWhite” moment.

Feel free to reach out in case you need professional help with your investments!

P.S: Equity as an asset class in extremely rewarding in the long term, however, only individuals who can bear interim volatility should invest in stocks. Kindly consult your investment advisor before acting on advice provided here.