State of the Market: Market-Agnostic, Risk-Mitigated Portfolio?


(Donald Francis) #1

I was sort of living in my own well, till about October 2014, sanguine that Markets follow their inevitable cycles. And if there was big crash in 1984, 1992, 2000, 2008 then somewhere around 2016 we should see a big crash as well.

I could see froth building up slowly everywhere, with any and every stock doubling or tripling from Jan 2014 levels, and the like. I was already preparing my absolute 10 BUY-LIST in preparation for the big crash in 2 years!

Till a casual conversation with a Fund Manager friend of mine shook me out of my well. The friend had spent an entire day sitting beside Ramdeo Agarwal at Birkshire Hathway AGM. Ramdeoji - was asking to suspend our valuation judgements if present in quality growth stocks and just STAY PUT…this is a Multi-Year Bull Run…unlike other times.

I immediately questioned this self-serving “This time it is different” line :-), but resolved to go and personally interview some of these Investing Legends, as possible. To see and examine for myself - where I stand - after I have collated enough new data points/differing views about the state of our markets - could I be better prepared, more risk-mitigated - no matter what the eventuality :slight_smile:

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Views from assorted Market Gurus - I had the good fortune to meet up early December, 2014

1). India is in a sweet spot

)- Oil Price is likely to stay low - Shale Gas vs OPEC fight

)- Commodities likely to remain soft

)- China is slowing down

)- Even if US Economy improving, UK, Japan, Europe have no option but to maintain near-zero interest rates & print money. Even China

)- All that money has few options - Can’t go to Russia or Brazil which are Commodity economies - some of it has to come to India

)- With the change in “Jockey” in India, International (and National) Confidence is Back

)- Interest rate cuts are near the corner, RBI has already indicated early 2015 time-frames)

)- If you are in Quality businesses, don’t try to use your head too much, India is in for a Multi-Year Bull Run

This is from the camp of Ramdeo Agarwal, Ramesh Damani, Rakesh Jhunjhunwaala (as can also be ciphered from their numerous media appearences/also available on YouTube)

2). Anup Bhaskar - perhaps the most contrarian of all Fund Managers today - punctures this somewhat

“I’m not saying I am bearish. India is perhaps on a strong wicket for next 2-3 years. But to extend this theory of India being in a sweet spot to 5 years or 10 years - there’s a fallacy there - You are expecting the global macros to remain unchanged for 5 to 10 years :). What if China suddenly decided to devalue its currency, e.g.” (again public pronouncements, available on YouTube videos)

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Some views from couple of market veterans I respect - those who look at long term cycles )- and have loads and loads of hard-hitting convincing data to throw at you, to convert even a skeptic like me - in my bid to understand how markets behave!!

[This is just another view. We DO NOT have to agree or disagree with these. Don’t have to jump and decry - so, you want to time the markets. But perhaps we can ponder; perhaps we can start observing, perhaps no one will fault us for trying to make some sense of what happens in Markets, and how and why?

Markets will see corrections - big corrections too. **But that correction/crash DOES NOT necessarily indicate the start of a BEAR MARKET **(say from somewhere in 2016).

Markets will probably play out smaller cycles. The current mania with Consumer Discretionery like Page, Symphony, Cera is unlikely to last. Earnings will not be able to keep up as they are already priced out 2-3 years ahead. These will lose steam and maybe time correct. Meanwhile Manufactured Exports cycle will continue to play out as the Rupee-Dollar equation is unlikely to change in next 2-3 years, and may weaken. Indication of rate-cuts early next year have been given by RBI Governor, so industrial/capex-led cycle is likely to pick up by 2 years. If the Modi Government continues to perform - and even deliver 50% of what he is promising - the economy will keep improving. Corporate Earnings will start catching up. Valuations may not remain extra-stretched. Probability of a multi-year bull run is pretty strong.

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As is my wont, I threw the above viewpoints - at every senior investor I know, in my bid to construct an appropriate response from my side. Let’s assume this bull market is not ending in 2 years by 2016; let’s assume it can well run for next 5 years; let’s also assume it can even run for next 10 years, with different sectors leading the charge at different stages.

Is it foolhardy to attempt a Market-agnostic portfolio for next 2-5 years? Something that can continue to remain high-performance for most parts, and risk-mitigated?

If I could re-construct my Portfolio in say 3 parts, what would we need to do today, to at least have 2 parts functioning well at any stage (one part remains dormant/under-performing say) of the market??

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Comments from some Senior Investors I have come to respect

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If you were to ask me today,

)- Are we in a sweet spot? - Yes

)- Are our financial systems relatively insulated from the mess outside (we have no derivatives mess)? - Yes

)- Do we have the demographic dividend? - Yes

)- Are we probably in a multi-year bull run? - Yes

)- Markets overall not over-valued? - Yes

)- Are there pockets of exuberance? - Yes

)- Will it need lot of time for India to get out of the mess it is in? - Yes

)- Can you find anything really cheap? - Difficult

)- Can you get quality businesses at full-to-fair price? - Yes

What you buy and what price you buy - is more important than when you buy - timing

We are happy to buy PSUs - because we see tremendous value in some of the efficient producers like SAIL, BHEL. May have to wait 2 years for cycle to turn but that’s okay. Some are sitting on tons of CASH, have irreplaceable Assets. No major investments happened in last 5-10 years. Coal India something has to happen. NMDC, MOIL. There is that risk that all capital allocation decisions taken may not be in the interests of shareholders, which is often the case. Therefore, cash is only a buffer and one should discount it by 50-75% when one does one’s valuation.

Also we can find cheap businesses, but just not as much as before and a lot of quality names are now fully to fairly priced. That being said one needs to change one’s approach and pay up for quality businesses in such a market. How much of course is the million dollar question.

Key is to be flexible - Where do I see “Value”.

Value is not cheap 6x Earnings or 0.5x BV. If Shilpa Medicare is going to double its earnings in next 3 years at 20x, there IS value in Shilpa!!

Portfolio Mix for next 2-3 years

)- I wouldn’t like to be in the 60-70x earnings businesses

)- if you can find Quality businesses @20x - better to buy them

)- Buy some Contrarian - Less than BV, <10x earnings

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(Donald Francis) #2

Apart from statistical models Nifty P/E, PBV and Yield that we have outlined in this market entry-exit section, there are always always very strong indicators of when the frenzy is coming to a head. We are as yet, far from that stage

)- every idle conversation veering to stocks at office, at homes and parties

)- lakhs of Demat accounts start getting opened

)- Times of India headlining Stock Market surge

)- Spate of IPOs flooding the market

)- There is always a mother IPO that comes along that acts as the final trigger - the IPO that projects a market capitalisation larger than the largest existing business e.g. Reliance Power IPO, etc.

That’s not the subject of this discussion. We are pretty sanguine that we can be disciplined enough to know what to do this time, when the frenzy does build up into a crescendo.But meanwhile, we can work to understand better how and why markets behave the way they do. And learn how we can better deal with what gets served up.

Look forward to comments and discussions on state of the market as above - leading eventually to approaches to constructing a more risk-mitigated high performance portfolio that can continue to serve us well - from here - for the next 2 years, or 5 years or even 10 years - whenever the party comes to an end.


(vaibhav) #3

Great posts Donald.

I think there are a few value stocks still.

Oriental Carbon is in a oligopolistic business. Capacity expansion, radialization of tyres and Make in India drive are the factors going for it.

One sort of a contra-bet could be a BPO company called Hinduja Global Solutions with 3.2% div. yield, a low Market Cap to sales ratio of ~0.48 (!). They claim tht they aim to reach at 1 billion dollars annual-revenue by 2017 helped by the US healthcare overhaul-

http://articles.economictimes.indiatimes.com/2014-01-01/news/45765258_1_bpo-business-process-hgs

I am overweight on financials right now (30% allocation). Hope to make decent return till budget and announcement of lowering of interest rates.

Like Shilpa Med. , Granules too featured in Ramdev’s potential 100x companies, so that could be added.

Kaveri seeds is available at 25% discount from peak at abt 17x trailing earnings.

Cross-currency variations should also be looked at. For ex. , Rupee will weaken Vs the dollar but has appreciated Vs Euro, Ruble etc. So that will reflect in performance of companies which derive sales in those currencies at least in the short to medium run.


(Mallikarjun) #4

Hi Donald

As veterans believe , the probability of a roaring bull market may be high…

If Namo brings in efficiency and succeeds in transforming our Sarkar/people into process driven, then we may have an extended party, provided global macros doesn’t play spoilsport…

( Oil below a threshold, will create new set of problems… Some economies {oil exporters} may default which in turn may pose systemic risk )…

With the recent run up its almost impossible to find/allocate : new co’s/capital to existing ideas…

Way forward may be ; Increase our capital inflows (salary ; business ) and deploy it when ever markets provide us leeway…

Regards

mallikarjun


(ANANT JAIN) #5

Firstly a few points on your post Donald:

a) - Are our financial systems relatively insulated from the mess outside (we have no derivatives mess)? - YesOur financial systems by themselves are in a big problem and needs heavy capitalization. Loking at the way Russian and Nigerian currencies toppled this year any predictability of this kind would risk a hazard. Atleast those countries have their own oil.

b) - Are we probably in a multi-year bull run? - Yes

I agree this is the consensus on the street but even during previous bull runs this would have been the consensus on the street.Here too I would not risk a prediction. But in my opinion the world today with all the quantitative easing is in a much bad shape.

What I think:

a) The cycles will continue.

b) We are headed for a crash.

c) Predictng macros is not my forte. In my opinion it is not anybody’s forte.

d) Most of us on VP have had great returns in last few years.

In my opinion a better strategy with an expectation of impending crash (sometime in the next 7 years) should be in place and we should have a discussion around the parameters.

The parameters that I can think of and their values are:

a) Returns hereon (35%)

b) Portfolio crash during crash (40%)

c) Portfolio recovery after crash 1st year (70%)

d) Portfolio recovery after crash 2nd year (50%)

e) Returns thereon (35%)

f) Returns on cash (10%)

Now using these parameters I am trying to work on a strategy of the amount of cash vs equity that I should be holding to maximize my returns. Somebody else might have a different startegy and different parameters and that is what I am interested in finding out.


(Santosh Sinha) #6

Hi Donald,

Thanks for sharing. What is your opinion about half yearly VP scorecard. IS it stopped now due to SEBI guidelines.

What is the decision on discussing new ideas ? I guess it is ON.

or do you think one need to holdas finding any new idea at reasonable valuation is pretty tough in this market.

Regarding next crash, some of us wish to be guided by VP community, even if we as team are10 % off the peak it will be fine and will save many heartburns.

Just a complement to you & team, since I joined VP, it has changed the fortunes of some of us. Why are you not on twitter, I could find many of VPickrs on twitter line Raja Panda, JAtin, AAyush, Damani,Hitesh Patel ( although a diff one), Subhash Nayak

Thanks


(saurabh shankar) #7

Hi All,

My 2 cents on this very interesting topic. Any marketplace is driven by 2 forces incentives of participants and information which participants have.

While incentives will remain the same in bull and bear market run, the flow of information in our times has simply zoomed. That i believe will lead to shorter and sharper bull and bear markets.

So while long term trends may continue the ride could be choppy.

Regards,


(Vikram) #8

Came across this Nifty valuation range since 08. Market isalready grosslyovervalued historically. Either the earnings has to increase substantially or themarket will trade sideways over the medium term sinceweakening of sentiment seemsunlikely.


(Vikram) #9

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(Vikram) #10

Here it is.



(Shail Mundra) #11

Dear Donald,

I would like to remind those great investment Gurus to not forget black swan event possibilities.

2008 crash was a surprise. Many seasoned bankers who were in the game were taken by surprise (please read “The Big Short” by Michael Lewis).

9/11 was a freak event nobody could have predicted, but with far reaching consequence.

Oil price crash in 2014 was also a surprise (the extent and speed). If Opec wants, they can again curtail supply. How long will it last? Who knows?

So I don’t agree with holding quality names at any valuation. Beyond a point its better to book profits and recycle the money into Value Investments.

"The extent of repeated marketâs shrinkage (1929, 1969-70, 2000) should have served to dispel an illusion that leading common stocks could be bought at any time and at any price."The Intelligent Investor - Benjamin Graham

regards

Shail


(Guru) #12

Move ahead but with Caution.

âFar more money has been lost by investors preparing for corrections, or trying to anticipate corrections, than has been lost in corrections themselves.â â Peter Lynch


(Vishnu Ch) #13

âFar themselves.â â Peter LynchHello Guru, On the Contrary, it means there is no point speculating on the bottom. What matters is to stay in the market, and ensure you have selected the quality scrips which will withstand the maelstorm. Remember, if you have 20X gains on a stock, 50% fall will still leave u with 10X gains.


(Abhishek) #14

Lot of people go with the theory that it is better to stay invested in quality names at any price than jump around trying to time corrections.

I think one of the first things we need to look at are who these people are. If a person making this statement is an equity mutual fund manager, he has no option but to remain almost fully invested at all times due to regulations. So obviously he has no choice but to buy quality names at the right price and ride through the tough periods. As a retail investor, you are in a much more comfortable position. Why hold a stock at 80times trailing earnings when history suggests that it is not possible for most companies so sustain that kind of earnings growth for long periods of times (justifying 60 PE roughly means you are expecting 25-30% CAGR for 30 years and that 70% of net profit gets converted to free cash)?


(Aman Vij) #15

I read a very interesting Graham speech of 1963 which gives a rational reason that if people already think that they can forsee the next crash based on previous crash signs like layman talking about stocks then the crash will never happen.My guess is it will be probably triggered by some global news which may not be that significant if you analyse the news on its own but because the markets have reasons way beyond fundamentals it doesnât actually needed a very big reason to go down.

Here is the linkhttps://www.scribd.com/doc/260733735/BG-Speech-SF-1963

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)- crescendo.But


(Yogesh Sane) #16

Bumping this old thread.

Where’s markets are headed is a question investors ask all the time and no can can answer that consistently accurately. Instead of trying to predict where markets are headed, it is far easier to know where the market is today. Its like taking temperature of the market. Check vital statistics to know if the pendulum is too much on one side or the other. Long term investors need to worry only about the extreme ends of the swing which do not happen every year and actually not that difficult to spot especially when you are actually there.

Here is a checklist I prepared using my own experience of 3 major bear markets and numerous corrections.

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Not every indicator will provide correct signal in each market extreme but this is a broad list. As markets swing, more and more indicators will begin to flash red.

So where are we right now? Back to the question that matters the most :-). We are definitely not at the bottom of the bear market. Some bull market top indicators are flashing red like primary market, global market, interest rates etc but others especially earnings growth and trailing returns are yellow. Once earnings begin to come in strong we will hit the top.

Views invited.


(Prasad India) #17

Dear @Yogesh_s,
A very fine work.
Indeed it was a pleasure reading this.
Bear market rewards and Bull market deceits.
It’s difficult to catch a falling knife in bear market and difficult to sell in a bull market.
Stock selection is better in a bear market and difficult in a bull market.
Thanks.


#18

We can add another point to this list:

Top of bull market - Market goes up on good news, ignore bad news
Bottom of bear marker - Goes down on bad news, ignores good news