A Brief summary of the Micro/Small/Midcap Carnage

Far more money has been lost by investors preparing for … to anticipate corrections than has been lost in corrections themselves.

you can be lucky once or twice in timing the market…but not every time…those who stayed put will make the money i think…

Yes…he assumes a copper price of 420 rupees…what happens if the copper price goes up to 650 rupees?

That’s why I am bullish on Hind copper for long term

2 Likes

Guys…I have noticed that when many stocks from the same industry / group turn bullish at the same time, then we may infer some favourable sectoral development / tailwinds… usually this is followed by a big rally in all the said stocks…last time this happen in heg / graphite/ Goa carbon…earlier it was in chemicals, sugar , paper and steel…etc

Now, I find a host of alcohol stocks turning bullish …,Globus, GMbreweries, som distillaries, Mcdowell, UBL, pioneeer dist…all these are very bullish while Radico is already in a strong uptrend

Since I won’t be investing in alcohol stocks for personal reasons, those following this sector / stocks closely may kindly study the sector deeply and give their views,

6 Likes

Very sensible advice in my opinion. Especially for the partly passive and partly active investor.

The most fascinating observation I have in this ‘carnage’ (and I don’t mean to smirk at those who are unfortunate to sit on market losses - I do too) is how many of us investors have deviated from the fundamental tenet that Ben Graham laid out in Chapter 8 of the Intelligent Investor - ‘the markets are there to serve you and not to instruct you’. Every time we act on the stock based only on price fluctuations without thought to underlying value we should catch ourselves violating this tenet. Because we are letting the market instruct us and not serve us. It may be a better discipline to have an estimate of intrinsic value always in our mind that is arrived at independent of prevailing price. Thus you can keep price and value separate and react to price only when it breaches value, either up or down. So you let the market serve you and not instruct you.

This of course means that every stock you are long on has value that you are very confident is greater than price.

This is very easy to say but very tough to do because as Feynman says we are the easiest to get fooled by ourselves.

I really admire those who can do that.

6 Likes

Unsolicited advice - Be very careful with midcaps and smallcaps now. Politics, emerging mkt currencies, usd, bond yield, rising interest rates can create a negative lollapalooza. Mkt thrives on liquidity, which if sucked can result in p/e falls despite growth. P in P/E is all about liquidity.

Politics is the biggest risk for indian equity market. Coalition government is not priced in yet.

In earlier times, 15% grower commanded 10-15 p/e depending upon sector, longevity etc. Now, 15% grower commanding 35-40x. This is liquidity coming from negative/near zero interest rates regimes. With US fed hawkish stance and interest rate hikes, a lot of liquidity will get sucked into buying treasuries. So equity markets, which were flushed with liquidity will all of a sudden find themselves with no takers.

This is a simplified version, i know. But all arguments that we can stand tall amid global carnage has gone out of the window.

31 Likes

I think maybe something to do with carlsberg IPO which i think will be priced expensive and all the stocks are adjusting to it maybe…

Hi @Mridul, Thanks for timely cautioning on this. However, I have a doubt. Applying the same risks/ reasons mentioned by you, are we safe with even large caps in the current market scenario? It is really easy to find out expensive stocks among large caps. A stock like Avenue Supermarts, which has a CAGR of 62% (in terms of EPS for the period 2016-18) is commanding a P/E of 118. Even a stock like TCS, which has grown only 5% during 2016-18 is commanding 27x! Hence, is there a carnage now pending for the large caps also?

Instead of being stock specific, take that piece of advice generically for equity.

Large-caps, though are comparatively safer, but aren’t insulated from falls. Though, chances of one losing one’s principal is much lesser in good large caps.

PS: There are always exceptions.

2 Likes

This thread is as pointless ueue in queue. You don’t invest in small caps for capital preservation. When sky falls down, you don’t find exit in small caps.

If you are investing in a stock with aspiration of multibagger returns over 3,4 or 5 years , then what difference does it make if it corrects 38% or 53% when market comes down?

You play with the money you can afford to lose and survive to live another day.

2 Likes

To each his own. Mine was an unsolicited advice. Take it or leave it.

This thread’s discussions have been good and informative. Subjective biases take over at times out of passion.

One should read about experiences of others and try to learn from other people’s wisdom and mistakes.

Everyone got different investment style, though common thing can be to keep working on improving your style with experiences and learnings.

5 Likes

I have been following this thread with interest.

It is tendency of the average human mind to extrapolate the immediate past into the future and think that the trends are going to continue as they have just been. However, as Ken Fisher has written so eloquently in his books, the market is also the TMH or “The great humiliator” so if I have to add my two cents to this discussion of what can possibly happen in the next year, I would say whatever is going to happen (probability wise) will surprise most.

One important question to discuss here is → whether this will be a major/semi major correction (defined as say, further ~15% down on NIFTY which is already down ~5% so totaling to ~20% from highs and say further ~20% down on Small and mid cap index which is down already ~20% so totaling to ~40% from highs) or a 2008 carnage like correction (defined as say further ~45% correction on NIFTY totaling to ~50% from highs and further ~55% correction in small and mid cap index totaling to ~75% from highs). The difference is crucial because the latter would necessitate liquidating portfolio completely while the former would suggest selective picks with decent cash to take advantage of the falls.

I would humbly submit that we are most likely, if at all, going to see the former type of correction rather than latter. This is important because if one is really buying value then probably a further drawdown of ~10% on portfolio is the max damage in the former but in the latter type of correction a drawdown of ~30-50% on portfolio is possible. An average investor however is likely to underperform the markets in both scenarios unless in my opinion he pursues the right strategy (read point 2 for that).

Having been a long time student of major corrections, following are my submissions regarding the same:

  1. 2008 crisis was not once in a decade correction, it was proabably once in a century correction. Now what has happened once can always happen twice but the probability of the such repeated occurrences in such a small interval is very low (like probability of say three consecutive years of failed monsoon is far far lesser than probability of one year of failed monsoon in India). Why 2008 was once in century event is not linked to its impact on the markets in terms of draw downs but what could have been its impact was very similar to 1929 and very different to other crisis like 2001 or 1987 or 1970s in the US. I can go on and on, but I think one gets the point I am trying to make. Corrections, large and small happen at regular frequency but tragedies which can take the market index by 50-60% plus are probably once in a lifetime.

  2. The other very important point which is always ignored while talking about crisis is that people talk about draw-downs (fall from highest high to lowest low) but fail to talk about how swiftly market rebounds when it does post a big fall. Even in India while many small and midcaps were down 60-80% in 2009, they also gave 300-400% returns in the coming year - the distinction here was on what you were holding. So if you were holding expensive, unsustainable, debt laden companies with extremely high beta to markets and economy growth - then you were bound to loose most of your capital. But if you are holding stuff which was very different from that - you would have made so much more money in the coming years as well as 2010 when the market rebounds. So to wade out the crisis even of the magnitude of 2009 - what was needed is patience (perhaps the biggest virtue in markets), an eye to see the things as they are and not as how we wish they were (to clean out the wrong companies from the portfolio) and ofcourse the right stocks - which essentially require a good sense of stock picking, business knowledge and portfolio management.

  3. Thirdly, and very importantly while P/E numbers are high in absolute terms it has to be seen in the context of economic cycle of india as of now.**In drama, it is said that characters are thought to have grown up when their world becomes contextual rather than driven by rules. Life, as complex as it is, lives under shades of grey rather than black or white. Sorry for philosophising but Generally market tops out before the economic cycle tops out. However in this case, I don’t think that we are anywhere near the top of the economic cycle like we were in the 2008-09 crisis. I feel overall RoE in the system is pretty low - all high beta companies like corporate banks, infrastructure assets, real estate are down in the dumps while some others like hotels have just started showing signs of recovery - so in some sense we are probably still in the early stages of the economic recovery rather than near the top. It is no where more clear than CV sales numbers which after a hiatus of 6 years have for the first time crossed the levels of 2012 even though our real economy in 2018 is probably 50% bigger than what it was in 2012. So, both the operating and the financial leverage very much exists for many companies to rapidly increase the earnings in the coming years. Hence I think a 2008-09 like crisis which was also closely followed by the entire business cycle topping out was probably different.

  4. Lastly but not the least, domestic flows are getting stronger. I think lack of other options like real estate which is commoditized asset but still trading at 2% yields in most parts of the country will provide an overall good liquidity support in the coming years. It’s effect on market cycles in indian markets as India races towards 1 trillion dollars of savings in coming decade and invests a larger portion of it into financial and not physical savings is something which is unprecedented and difficult to predict.

Hence, overall I agree that downside risks are higher than upside as of now but if one is patient and looking out 3-5 years, I don’t think smart money will be affected a lot by the current market cycle. Infact many should do well. Dumb money however needs to be very cognizant of the risks. If I have to take a call I would say the first cycle of market (the most lucrative one) ran from 2013-17 is over where dumb and smart money made similar returns. Next phase of market 2018-till may be atleast 4-5 years out will be about smart money. The degree of separation in performance between good and bad managers/investors will increase multifold. But it does make a lot of sense to not be fully invested completely and conserve cash to be deployed as opportunities unfold. At the same time I wouldn’t advice anybody to be 100% out of the market. But being selective is necessary.

Whenever I think of investing - on one side, the 1929 crisis and the long term scars it left on investors psyche and well being run on my mind as I try to avoid risks. On the other side, I am also cognizant of the once in a lifetime opportunity which happened in 1980s bull run in the Japan market (prior to the crash ofcourse) in which one could have become millionaire by just owning few stocks or even few sqft of land in Tokyo and selling before the peak. Where INDIAN markets are heading in between these two extreme scenarios is difficult to say. Hence making bets is essential but make only those where you have an high chance to win and hence high margin of safety and where if you loose your life will not be altered even though some savings might be depleted. There is no fun with zero uncertainty either which is also a 100% recipe of mediocrity. As Thanos (of Avengers Infinite fame) will agree - balance is the key.

PS - the above analysis excludes the black swan events which by definition are large enough and unpredictable enough to predict as to what its impact would be. That risk is only managed by managing the allocation across various assets as well across geographies (something which we Indians are poor at).

PS2 - this advice below in another post is sensible :

51 Likes

In the present scenario,i go by accumulating my portfolio taking help of screener.in. Choose companies good div yield like coal india,NLCindia etc.Do you think it is ok
kpj

If one looks at the posts in the current thread, everyone talks about the impending correction and its magnitude.:grinning: And all this time the nifty and sensex seem to be heading towards all time highs. Corrections dont come about when everyone is scared to invest and expect correction to happen. It usually happens when the market participants feel super confident and start committing excesses, running up stock prices in a panic buying mode. I felt that was the case in Jan 2018 where even if you wanted to study a company and invest by the time you finished the study the stock price of the company had run up 20-30%. Even experts on TV was a big indicator about the froth prevalent.

The small midcap indices have given a healthy correction which was warranted given the excesses committed in the period prior to Feb 2018.

I think the current scenario offers a good chance to do detailed digging in small midcap companies of one’s choice and take a well informed investment decision. Many companies in the small midcap space have given good results and have indicated good prospects for next few quarters. These companies after some run up post their results have given up most of their gains and have gone into consolidation/correction mode. It might be a good idea to focus on these companies and buy gradually as the movement in the small midcap space is lethargic and offers plenty of time to buy.

About general direction of markets its difficult to make a call but if one looks at the macros there are a lot of worries people have. Just to name a few… Impending elections in 2019 and Modi likely to face a tough test, Oil rally, Dollar strenghthening and so on. A lot of these things can change in a few months.

In the markets there will always be something to worry about. How much is up to us. Rather than worry about these things ideal thing is to work on good companies and try to find out the next lot of winners.

64 Likes

Well said Hitesh. What we are discussing/contemplating here is a case of predictiable surprise. These are highly likely and expected outcome whose timing are not known. I am using this time to clean up from portfolio the underperforming stocks/ low growth/loss making stocks, making it more focused and concentrated, rebalancing to large cap, making a list of stocks I want to buy slowly as the market drops , buying stocks in small quantities when they fall more than expected and learning about behaviour finance / new trends/ thought process of value gurus. I am sure all of us here will be proven right in the future , when ? Nobody knows :grinning:

2 Likes

Thants a good strategy. It would be great if you are able to share the long terms bets…

We always look for your guidance and experience sharing.As u know mid and small cap is a big universe and to identify from among them for a common investor like us is a mammoth task especially because most of us can not evaluate technically, fundamentally and just depend upon quarterly results showing revenue , OP, NP etc as it leaves out several aspects unanalyzed.
I feel if u could help us out either with some companies or sectors which could be looked it would be a great help.

Dividend yield strategy is something I don’t agree to. Infact large and continuous dividends are very tax inefficient as investors have to pay 22% tax on dividend apart from 30% income tax. That means a company generating a PBT of 100 cr is going to pay just 55 cr as dividends - a tax of 45%.

Secondly, continuous dividend may also be a result of a) a poor capital allocation strategy as business cycles sometimes necessitates stoppage of dividend to invest the same in a better way instead if one thinks of business in a rational manner - I have seen companies taking debt to pay dividend just to keep shareholders happy, b) lack of growth opportunities in which case the best option is to invest cash in either low risk M&A without diversifying into unrelated business in which their is no competitive edge (better known as di-worse-ifying :wink:) or be sold to someone else at a good valuation before the growth further stagnates or do significant buybacks which are far more tax efficient.

For a know nothing investor (which is what 90%+ of investors in reality are) - a consistent dividend paying strategy is probably better than fiddling with some random companies with questionable past track record based on hearsay. In any case, such an investor is better off just buying a NIFTY ETF rather than going for a dividend strategy.

Stocks should, on an overall philosophy basis, be bought for growth in price and hence their expected returns should be far in excess of income funds, given the risks involved vis-a-vis fixed income products. Am not sure high dividend yielding companies in general will necessarily help you achieve that objective. Although some of them might save you from heart burn during the market fall but many will also underperform during market upcycles. And given that markets all over in the long term are necessarily going up (atleast till now :slight_smile:) - it is probably more of a missed opportunity rather than safety.

Regards,
Sarvesh Gupta

11 Likes

Current midcap ,small cap market behaviour is like that of person walking in a dark alley .It gets scared and ready to flee at the slightest of noises(which have been plenty of late)

The dilemma for most of the investors(including me) in the midcap ,small cap space is

i)Most of their midcap/small stocks are beaten down from the prices we have bought in euphoric 2017 times and whether to cutdown the losses and seek safe haven in the known largecaps despite their expensive validations as lot of smart money has already moved in before the fall.

ii) To keep the faith in their stocks where the earnings growth is good and balance sheet is strong eventhough the price action doesnt justify it.

Second option looks to make the most sense but it seems the most difficult thing to do at present.

5 Likes

Well, you have partly answered your dilemma via Option 1 - you mentioned most of the stocks were bought in euphoric times. Are you a Momentum investor?

If you are a Momentum investor, you should without any further delay cut down the losses. You could either short these stocks or move to stocks where euphoria is still high. Personally if you ask me, I don’t see positive momentum anywhere.

If you are a long term investor, you should be ruthlessly honest with yourself and do a detailed introspection of your portfolio. If you are convinced about the long term prospects of these companies, you should use this opportunity to add to your positions.

More importantly, if you are not sure who you are, you should sell off your entire portfolio and move to a Mutual fund.

13 Likes

So I have always been asking myself the question - do you hold a GREAT company when:

  1. Valuations get ahead of itself
  2. There are some headwinds
    and see through the difficult time or take the risk of reinvestment and move into another stock
    If one looks at Buffetts portfolio, the top holdings such as Amex and Coke have largely remain unchanged for decades. Its not like he hasnt seen valuations getting ahead of itself or pressure on earnings in the near term. Key question is can you trust yourself to exit at the right time and if you do, deploy the money in a better name?

If I look back to the time when Ajanta was quoting at 45 times trailing earnings, do I regret not selling? Yes I do. But there is no way of knowing whether valuations will continue to remain that way or go to 18 times like it did. Even if you know it is inevitable - how do you know it will not go to 60 times before it goes to 18?

Even today, while management is itself talking about de-growth in Africa institutional business, I feel it doesn’t stop it from being an amazing company. Even this year when earnings have dropped gross margin has still increased by 200 bps! It has done so every year for the last 10 years! So it is seeing some headwinds, but the business is only getting purged. Ultimately the poor quality institutional sale will only be replaced with higher quality branded business. It might just have a year of weak earnings in the middle. Is that good enough to sell? I really dont know!

In fact I am exactly where I am with P&G where I was with Ajanta a few months back. Do I want to continue to own a great franchise like P&G with an impregnable (and I mean a mind-blowing one) moat at 80 times trailing earnings with a long runway but only a 10 odd % earnings growth. Or do I ride out the inevitable correction and add more when it dips to the right valuation? Who knows whether it will continue to remain at 80 times earnings or drop to 40 or go to 100 (irrational as it may seem)? What if it doesnt drop and the business continues to grow? Do I want to take that chance - I really dont know!

Views invited ofcourse!

5 Likes