This rally has set a scorching pace. Many professional fund managers have a YTD alpha of more than 10% to show for, this is after the BSE 500 itself has delivered ~34% over the period. There are some periods in the market where making money feels easy and linear, this is surely one of those periods. The last time it felt this easy was through the first 7-8 months of CY21; and we know what followed next.
In such periods it is common to see projections that either sound too bearish or too bullish. Nobody gives a rat’s ass about a 15% return prediction, it is outlier projections that always catch the eye. And most market professionals who have the inclination to make public projections are clearly treating it as a marketing gig. Take all projections with a pinch of salt; keep a tub of popcorn handy too if you can. It usually gets very entertaining before the eventual bout of sanity hits.
The state election results of Dec 2023 have induced a steep rally that was expected to materialize only after policy continuity was ensured in 2024. Simultaneously, the US Fed has signaled that rate hikes from here will need a lot of justification and may be uncalled for. The perfect concoction to take our equity market higher, the very mention of a better rate environment towards H2 CY24 sent IT stocks higher as a positional trade. The actual environment will take more time to reflect the sanguine mood, numbers getting better might take even longer.
We still continue to believe that the macro environment could look good and bad alternatively in pockets through the next few quarters. While we do believe in the long term India story, we are wary about the nature of the Indian market – we folks are very fast to both build up and smash down business valuation based on a few quarters. Observe the price chart of Mayur Uniquoters from the mid of 2014; ~10 years of below average returns if you bought into the hype at the wrong time.
Now then, what should bottom up equity investors do?
For a start, have clarity on what you are doing and your reasons for the same. It is easy to get carried away when stocks run up 20% in a month. Clarity usually comes down to answering a few questions for yourself
- Do I understand the business well enough to get the near term earnings trajectory right?
- What are the triggers for the business, how certain are you about them playing out?
- How long do you think they will take to play out? Do you have the staying power it needs?
- What bucket would you slot this into – value bet with limited downside or trend following play?
- What are your exit triggers?
Depending on the style, execution can either be spread over tranches or accelerated. If it is a value bet that is seeing the first signs of life, one can afford to take time and nibble. Early positioning can fizzle out as quickly as it starts in the market. Numbers in the chemicals and large cap IT services sectors are nowhere close to being good, yet stocks are up 20-25% on the back of better expectations. For a value focused style, one doesn’t want to be too early in the trade given that prices can drift meaninglessly for years. In a trend following style, the risk to be wary of is the one where your money gets in too late. Strong, sustained momentum both in the price and in business numbers indicates a lot of consensus in the market. You don’t want to be the guy getting onto the train after it has already hit peak acceleration in this cycle.
There are times to be aggressive, and there are times to be conservative. This time right now fits into neither pocket in our opinion. Prices aren’t so high across the board that we are worried about gravity, business numbers for many sectors are likely to be good over the next 12 months. What we find ourselves doing is to systematically prune exposure to overvalued pockets in tranches proactively, rather than waiting for the market to give us a clear exit signal. Incremental capital is allocated to businesses where we see both valuation comfort and better earnings prospects over the medium term. Happy to ride trends higher in the existing bets but not willing to put money to work there.
Through CY23 we added 5 new stocks to the portfolio, these haven’t come from the best performing sectors of the year. We ended dipping into an auto ancillary, a couple of building materials plays, a chemicals play and a large bank. The bulk of our economy facing plays (infra, capital goods, proxies) were added in CY22. Time will tell if our sector rotation approach is the right one. For the time being we are happy with the numbers we’ve churned out for CY23 given that we run a multi cap portfolio with some obvious, well discovered names like ITC, Larsen & Toubro, Divis labs and Axis Bank.
We will continue to steadily add to our coverage universe, all it takes to ensure market breadth is to research two new ideas every month. In addition to being on top of the numbers in the existing coverage universe. Our experience has been that it takes 3-4 quarters of real time tracking of 4-5 businesses in a sector to get a good sense of any new sector. The risk of getting carried away by the current narrative is very high in the first few months after initiating coverage.
We will continue to prefer dabbling in stories that we already understand well, resisting the urge to load up on some of the hot themes of CY23 turned out to be a good decision. If we can keep up this discipline through the rest of this run, we would have done well for ourselves and our investors.