Investors have seen the wind getting taken out of a few themes that were very hot going into the election. Political and policy continuity have played out as expected, but the much expected rally fizzled out post June. Kind of describes most heated up runs in the market, if you’ve seen enough cycles play out you will buy the rumor and sell the news. What everyone expects and knows will be priced accordingly, there are no outsized gains to be made in a crowded trade.
What has instead played out is a flight to the safety of reasonable valuation in proven themes like IT, Consumer and a few other pockets that haven’t done much since 2022. For the record, we aren’t yet convinced that these pockets will deliver business outperformance anytime soon, but the market is known to discount numbers well in advance. If mean reversion to normal growth and margin is all that will play out, there isn’t much juice left in hopping onto these broad themes anymore. Buying will need to be bottom up in these segments rather than a sectoral allocation call. One can pull out Relative Strength indicators to show that early positioning has made money, but without healthy growth to back it up it cannot be relied upon to take medium term investing decisions.
We have a deluge of domestic capital flowing into the equity market, to the extent that bankers are worried about deposit growth for a few quarters. This also shows up in higher ULIP sale proportion within the life insurance segment. At an average cash holding of 4-5% of AUM, the MF industry is sitting on more than 1.5 lakh Cr of cash ready to be deployed at the right time. Incremental SIP inflows of 23k odd Cr are only shoring up this cash balance every month. But does this mean that the same old favorites and proven businesses will outperform handsomely again? Post the initial jump driven off institutional investor positioning, unless growth for these name starts hitting the 12%+ revenue growth mark it is tough to see further gains from rerating.
What some of us are failing to take into account is the breadth of business models available to investors today. While a few IPO’s hog all the limelight in the media, there are many interesting businesses that have listed over the past few years. Just look at the breadth of names within the consumer discretionary segment – today we have many options outside of the limited names that were available till 2017. Within the financials space we have multiple life insurers, general insurers, wealth managers, asset management companies, exchanges and processing/financial infra players available. Is it really any surprise that the mad rush to pick banks has abated over the past few years? We have a bunch of HFC’s available today outside of the usual choices like HDFC and PSU backed HFC’s. You can even pick and choose an HFC based on which part of the country you want exposure to and the customer profile you prefer (self employed, salaried).
You will see a similar trend in many other sectors too. Within the IT pack you have some differentiated names in addition to the services behemoths and engineering services players. In addition to API and formulation players in Pharma, we have three contract manufacturers listed today (Windlas Biotech, Innova Captab, Akums Drugs). One can even pick a horizontal theme like contract manufacturing that cuts across multiple verticals and build a portfolio today (EMS, Pharma CMDO, Agchem contract manufacturers, the odd Hindustan Foods in the consumer sector). Within services we have options like Indegene (marketing services for global pharma behemoths) and Updater Services (Facilities management + business services) that have recently listed. Some of these businesses can easily grow at 15% p.a. for a reasonably long time without needing too much capital infusion from here.
Today’s market is turning out to be a different animal in terms of the breadth and quality of options we have outside of the Top 100 companies. While the mid & small cap segments will always have greater volatility compared to the Top 100, some of them can clearly deliver better growth over the next 10 years. As a retail investor, this is a good time to build differentiated portfolios in addition to the core of index funds and proven mutual fund schemes. The approach we are taking is to get busy with research and have a well researched view on many of these businesses we like. The valuation may not be very favorable today but at some point of time in the next 12-24 months the market might present more favorable entry points. Capital will eventually look to have piece of high growth businesses helmed by good managements that can deliver healthy capital efficiency (average of 20%+ ROCE) across cycles. We are firmly in the camp that the profit pools of the Indian economy might have a different construct in some years. We will learn from history but the future is likely to be different – especially in terms of the profile of the winners from here. The big might get bigger but they may not necessarily be the real winners in the stock market. As investors we are more concerned with the latter category, not the former one.
Instead of obsessing over just the stock market and valuations, we also have other proxies to track and read. The highest absorption of commercial real estate space in India is not in any of the four well known metros anymore. Rents in pockets of Bangalore now equal the rent in well developed parts of Mumbai (leaving aside South Mumbai). The IT Services industry hasn’t been the hiring leader in urban India for more than 20 months now. Walk into any co-working space and you will see that the hot seats are running full but the dedicated spaces for bigger companies have vacancies showing up. Interact with any of the focused investment groups and you will observe that people with a net worth > 50 Cr are starting to take a keen interest in investing. And some of these folks are willing to do the grunt work too.
While we need to have an eye on what has worked in the past, we also need to be open enough to see the changes happening around us. Some of these changes are durable and are setting in as habits, not all of them are transient changes driven by the current bull market. One should not be surprised if real estate in smaller cities grows at a faster pace for a few years from now. There is a real possibility that the manufacturing, engineering & infra cluster could lead job creation for a few years rather than the knowledge economy. The implications of this happening (if it happens) will be immense and lead to many new opportunities. If discretionary consumption has more legs to drive off rather than just the top 3-4 Cr Indians, many of the consumer businesses of today that are urban centric can sustain their growth rates for many more years before they hit the inevitable ceiling.
Real change happens at a pace that is tough to spot on a QoQ or YoY basis. We investors should not be guilty of using the QoQ/YoY lens to observe the operating world. Some trends take time to cement themselves but once they do, they can dominate the business world for a few years. Catching the inflection point right will take a lot of proactive work. Time to get busy researching as many business models and businesses as we can, this might pay off handsomely over the medium term.
If not the stock market, you might recognize a few opportunities in other asset classes like unlisted companies and real estate. If you are in your 20’s you might even recognize a few budding career opportunities. Not every new career field starts off by offering the best pay packages, many businesses quietly grow for years at a healthy rate before they start making it to the front page of business news. Observing these trends early can tell you where the puck is going to be in a few years.
Every successful individual investor in my personal network today was putting in long hours for almost a decade before the deluge of domestic capital into the equity market started and made them who they are today.
Being at the right place at the right time is usually a process, not an event.