Instead of waiting for the next bull market, it is advisable to build equity portfolios for the long term by staggering investments over next six to 12 months, Virendra Somwanshi, Managing Director & CEO, Motilal Oswal Private Wealth Management, says in an interview to Moneycontrol’s Kshitij Anand.
Q) We are just two months into a bear market and expecting a bottom (at 7,500) could be too optimistic. Could we be looking at another leg of downswing before we stabilise?
A) The biggest uncertainty today is the availability of a ‘vaccine’. The market is reacting a lot to fear psychosis, uncertainty, and news flow and very less to do with fundamentals.
In the short term, markets will continue to be volatile to the news flows coming from the UK and the US (since it is the risk capital of the world), any incremental actions were taken by the government to reboot the economy through fiscal packages and by any RBI measures to provide further relief to the financial system.
Early results of Q4FY20 earnings season and management commentaries suggest more disruption in earnings ahead with several Nifty companies seeing EPS cuts for FY21.
Q) What is your worst fear post-COVID-19? Do you think the investment climate will change? Will investors be more cautious about equities (we saw that after the 2008 crisis)?
A) History suggests that in any crisis there is an extreme overreaction. Hence, incremental appetite for risk assets (eg equities) may remain subdued for a short- time period in the aftermath of this crisis as well.
The lagged impact of lower interest rates and stimulus packages plus abundant global liquidity can make asset classes divergent from underlying economic reality.
Rather than assume a post-COVID-19 world, it may be more practical to think about humanity coexisting with the virus, just the way we have dealt with various other forms of infections.
The trillion-dollar question right now is how long it will take to develop a COVID-19 vaccine and the related steps going forward.
However, since equity markets tend to discount expected growth in advance, we are likely to witness stock prices rallying ahead of eventual economic and earnings growth recovery.
Q) If someone plans to construct a portfolio what should be the ideal allocation?
A) The first step when making an investment decision is to define an investor’s risk profile and asset allocation.
For equity allocation, in the prevailing scenario, although market valuations look attractive, there is likely to be high volatility in the short to medium term.
Hence it is important to also define the time horizon for investment. Some suggestions for new investors in equity markets could be as follows:
If the risk profile is conservative, then such investors should invest in aggressive hybrid funds, which invest a minimum of 65 percent of the portfolio in equities and the remaining in fixed income, and/or invest in largecap funds.
If the risk profile is moderate, then the core allocation should be made to multicap funds along with largecap funds.
If the risk profile is aggressive, then the portfolio could have a bias towards multicap funds while limiting exposure to midcap and smallcap funds to 20-25%.
Q) The Nifty50 is still trading at a premium compared to historical averages but the earnings are likely to take a hit in the coming quarters. What are your views?
A) I won’t look at valuations in such unprecedented times through the prism of one year forward P/E. Clearly, one’s ability to predict next year’s earnings is very limited.
It is best to look at this period through the angle of balance sheet/cash-flows and which sectors and companies are able to come out of this crisis with the balance sheet and cash flows intact and then can focus on P&L in FY22 and beyond.
However, in general, low interest rates and cost of capital are benign for equity valuations.
In India, the pragmatic problem asset-allocators are dealing with is the fact that the Nifty index valuations are misleading, as they comprise 15 stocks which are trading at stratospheric valuations while other 35 are trading at significant discounts to their own LPA’s.
So looking at index valuations is a bit misleading. Analysts now expect Nifty FY20 EPS to remain flat at INR485 while FY21 Nifty EPS is now projected at a muted 3 percent growth to INR499.
Q) Warren Buffett gave another important lesson to investors–how to cut losses and preserve cash. What are your views?
A) The point that Buffet made on selling his entire stake in airline stocks (viz cutting losses) highlights the importance of ongoing periodic reviews and rebalancing to ensure that the portfolio quality is well-maintained across various market conditions.
Unlike institutional investors like Berkshire Hathaway, for retail investors & HNIs, since there are relatively higher number of opportunities and sitting on cash for long periods is not ideal, investment into equity strategies can be staggered over a few months.
Q) Buffett is sitting on a pile of cash and is not investing at a time when markets across the globe are witnessing selling pressure. Does it suggest more downside and should investors have more cash in hand?
A) While Buffet cautioned on potentially higher impact to the US economy in the near term, he reiterated his belief that America will overcome even the most daunting challenges, including the current crisis.
As mentioned earlier, heightened volatility is likely to persist. However, investors should have six to nine months of cash for contingencies for personal/business use, reassess their asset allocation and could adopt a staggered approach to investing in their equities pie.
Q) Historically, markets have rebounded the most in three to six months after sharp corrections. Barring the Tech meltdown of 2000, markets have delivered positive returns in the subsequent 12-month period. On average, it takes about 156 days from peak to trough – the lowest has been 35 days in 2006 and the highest 410 days during Nov’10-Dec’11. When do you see Indian markets returning to the bull phase?
A) As the saying goes, stock markets are slaves to earnings growth. Since it is difficult to ascertain earnings growth for the near future, let’s look at other metrics such as market cap/GDP and Earnings Yield-Bond Yield (EY-BY).
MCap/GDP is around 55 percent, which was last seen at the end FY09 (the aftermath of GFC). Whenever this ratio has been 60 percent or lower, there is a high probability of superior returns over the next 3 yrs – historically (as measured by Nifty) ranging from 20-30 percent CAGR.
Further the current EY-BY level is close to 1, and from such levels historically, the median return from equities over next 3 yrs has been ~20% CAGR.
Hence, rather than waiting for the next bull market, it would be advisable to build equity portfolios for the long term as per your risk profile by staggering investments over the next six-12 months.
The underlying strategies should predominantly consist of companies that are leaders in their respective industries, which generate free cash flow and run by high-quality management.
Q) India has a long road ahead to catch up with China but it must act now. Which are the companies likely to emerge as big winners from Trade War 2.0?
A) I feel the whole narrative of a trade war and potential benefits to India is just narrative, at least so far. Till we see concrete steps being taken and implementation is done at supersonic speed, 10 years later we will once again look back and regret about what could have been India’s decade.
If we can get our act together maybe some chemicals, auto component and pharmaceutical companies can benefit. There can be many beneficiaries in unlisted space – electronic components manufacturing, etc.
Q) Two or three stocks that you will recommend to your clients from two-three years’ perspective and why?
A) In India, only sectors that generate consistent wealth are consumption, financials, and IT.
For equity investors, I suggest incremental allocation to multicap funds/PMS schemes.
For fixed-income investors, I suggest focusing on accrual oriented, high-quality portfolios (predominantly AAA), through a combination of banking & PSU debt funds, corporate bond funds and passive roll-down strategies.
Disclaimer: The views and investment tips expressed by experts on Moneycontrol.com are their own and not those of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.
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Published at Wed, 13 May 2020 06:48:13 +0000-Donâ€™t wait for a bull market; focus on consumption, financials and IT sectors: Virendra Somwanshi