investment strategy: what can be the right investment strategy now? Jinesh Gopani responds
It looked like the perfect start to the year – global signals were strong and supportive, flows were back, we were gearing up for a good earning season and suddenly things look shaky! NASDAQ is down, crude is up, volatility is back, FII selling is intense. Are we in a sticky situation now? Could it get worse?
Everything depends on the evolution of inflation and US yields. We would have seen a sudden spike in the US yield from 1.5-1.6% up to 1.8%/something. There’s some fuss around passive flows in a way that’s normally more of a non-active kind of money. This leads to a lot of volatility in the market and it is also seen across the world where more ETF type money is leading to this selling. The flow-based rally that was there I think seems to be stalling for now and it all depends on how well inflation gets under control and how US yields react from here on out.
As yields rise to 2.25-2.5%, what happens to the market and what if yields don’t rise? Build both scenarios for us.
It all depends on how the yields increase. If it increases very quickly, we are obviously in trouble. There could be a bigger sell off that may occur and on the other hand if yields stabilize at this level and trend lower or inflation trends lower over the next two to three months then the market will find some stabilization at a certain level and flows will start to come back. It is very difficult to take stream calls because a large portion of stream calls are passive, dumb money that comes and goes without any fundamentals.
What is the prudent strategy at this time? We have seen a sharp reversal in US tech stocks; we have seen a very sharp reversal in global mid-cap stocks. Should we be aware of a very different scenario in 2022?
If we dissect the midcaps, smallcaps and largecaps, we will see a very different view of how flows keep stocks up or down. Midcaps and smallcaps are where there are more big domestic flows where the markets are holding, stocks are holding even if they are at 40, 50 or 60 PE and it is thanks to the flows coming back to this segment whereas on the largecap side, if you really analyze Nifty, most of the selling is done by foreign institutions that are big shareholders in Nifty shares.
So there is clearly a significant divergence in terms of how flows drive markets. That said, the focus should be on companies with a resilient earnings growth profile that are able to surprise the market going forward. Me too businesses will struggle given inflation and the ability of the business model to pass costs on to the end consumer or customer. So go for bottom-up stock picking. Companies that are able to pass on the cost structure and navigate a tough inflationary environment are where you should invest your money.
When you talk about surprising the street, we’re still waiting for that kind of revenue to come in and one space that really grew and where people made a lot of money in the last year was, of course, the tier IT companies intermediate. How to approach a space like this where we also talk about the rise of valuations and is it the moment of the compression of the PE?
Like I said, unless you’re surprised from now on, you can’t justify the rating because we’ve already started to refresh ’23 and in some cases ’24. Even the new IPOs that are coming have started to justify themselves on numbers 24-25. Unless the short-term surprise in terms of earnings growth materializes or the other measures materialize, it will be difficult for these companies to maintain these valuations. So it’s going to be tricky. The 2,000 or more companies that are listed won’t give all those surprises and you have to be extremely specific about what you want to own for a longer period of time. If you’re looking for B2 companies, then you’re looking for trouble. If you like leading companies, I hope they should pass this phase in a much better way.
Looking at your portfolio, if I look at the top five sectors, finance has a weighting of over 30%, IT has a weighting of 16%. Is it time to lower the exposure on IT and increase it on banks or to play with the profit cycle and the recovery of capex with industrials and manufacturing stocks?
It is a tough decision at this stage as even the domestic economy will be under pressure due to rising oil prices and a higher inflationary scenario. So to answer your question whether banks are better than IR or IT is better than industrials it’s hard to say at this point as both sides are faced with the conundrum of a scenario inflationary and flows are not favourable.
From a two to three year long-term trajectory perspective, we still like technology as a space; obviously some correction is good and should keep stocks healthy and there should be a resurgence in buying at some point. Like I said, maybe not all tech stocks are doing well, but we’re seeing a lot of momentum on the corporate side and if we’ve heard some of the conference calls, that’s not kind of quarter or two quarter growth they are talking about. .
Obviously there’s a growth track and as long as they’re able to deliver it, I don’t think there’s a need to completely exit these stories. Obviously, we can reduce the portfolio and turn to banks or something else that have not participated in a significant way in this rally.
In textile retail, you like Trent as well as Aditya Birla Fashion. How are we supposed to look at these stories when they’ve been multi-baggers.
Companies that have been able to survive the onslaught of the economic downturn or lockdowns over the past two years will reign supreme in the future. After going through such a bad time and coming out of it without a significant scratch with a strengthening balance sheet, these companies will come out on top. We have faith in the economy, if the economy is going to grow at 6-7% of real GDP for, say, the next five, seven, eight years. All of these would definitely show good growth. Patience is the game now. The flow-fueled rally is over and so one has to be very mindful of short-term volatility versus long-term visibility.
The other space is pure play consumer theme. As raw material cost pressures build up again, is it time to be a little cautious on a high valuation sector like FMCG as well as the paint segment?
If the economy does not support the transfer of the cost, then there will be a challenge in terms of generating volume growth. We really need good economic growth to sustain inflationary pressures and if demand stays strong due to good economic growth then we can pass on say 75% of cost inflation and the rest can be managed by l internal efficiency.
But if demand itself is disrupted or disrupted because of this higher inflationary scenario, then there will be a challenge. For now, at least the comments from the companies do not seem very worried about the demand side. In fact, they are looking at good fiscal 23 and 24 in terms of economy and hopefully sector. There is no need to worry about that, as all large companies are able to pass on their costs over a period of time. We have seen that despite a 25-28% increase in costs due to inflationary pressure, they were able to pass on 18-22%, which is a very significant push in a cost inflation scenario. Despite this, they were able to demonstrate volume growth and this testifies to the quality of the company’s leadership and its ability to withstand this type of shock.
In the short term, let’s wait a month or two. Let’s see how the economy is doing and if the momentum continues despite rising oil prices, we shouldn’t be worried. But in the short term, this is going to be a bit tricky.