Investment in Gloomy Times | Value Research Owing to recent events, the market has become narrower as investors look for companies with performance while others attract little interest
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Investment in Gloomy Times

Owing to recent events, the market has become narrower as investors look for companies with performance while others attract little interest

The recent RBI guidelines have reversed India's foreign exchange liberalisation. Over two decades of gradual opening up of the economy has been turned back. This marks a series of mis-steps by the government on the economic front.

The government has gone back from rule based economic policy to individual case-by-case approvals - leaving only those entrepreneurs who are able to “manage” the powers that be in a position to do business. RBI's diktat on not allowing overseas investments in properties and linking of gold imports to exports are cases of such intervention where the government and its related arms issue detailed guidelines on what economic actors can or cannot do.

In this state of economic gloom, it is surprising that the stock market indices continue to trade within a 10 per cent range of their life time highs. However, what it masks is the rout that the rest of the market -- not represented by the index -- has suffered. The market has become narrower, with a few stocks performing extremely well as investors chase performance, while the others attract little or no interest. It is not surprising that several hundred now trade at or near their 2008 lows.

Investing for the patient investor
In a market like India, where investment is largely driven by institutional investors, retail investors have a significant advantage, provided they play to their strengths. Institutional investors have many constraints -- for example, they are slaves to their daily NAVs, usually cannot take large cash calls, can trade the market only on the long side, and have to stay in stocks with high liquidity. A retail investor can easily game these to his advantage -- provided he is willing to spend time and effort studying the market.

Daily NAV and herding
Fund managers have to aspire to perform better than their benchmarks both in the short- and long-term. In addition, they have to strive to be in the top 20 percentile if they hope to receive investor money. This leads to herding behaviour -- where stocks that are performing in the near term have to be bought. Institutional investors with benchmarks invariably have to keep almost 70 per cent of their investments in benchmark stocks.
In a narrow market with few performing stocks, this leads to price bubbles being formed in a few stocks while the vast majority continue to suffer neglect and often trade at low valuations. In non-trending markets, like India has witnessed since 2009, contrarian investing often pays richer dividends compared to other techniques.

Long-term investing
One of the ways to beat the market is to take a view on company performances over the long-term. It is usually possible to spot companies which are making improved performance but where equity returns would increase significantly only a few months down the road. In attempting to maximise returns, fund managers are forced to focus on the here and now. Retail investors can take a longer term view since they are not required to market their “fund” and look to enter into stocks before they become “momentum” stocks. This may lead to near-term underperformance but will likely give a higher overall return, with significantly lower volatility.

Each person a hedge fund
Regulations in India offer retail investor's significantly higher degree of freedom than an average fund manager. Retail investors can invest across asset classes -- commodity, currency, debt, gold, equity, real-estate -- something which the equity fund manager cannot. In addition, a retail investor can sell “short”, i.e., take a negative view on asset prices -- again something that an institutional investor can only do with serious constraints.
In other words, for a retail investor, the addressable pool of money making opportunities is significantly larger and more accessible than for an institutional investor. Of course, as always, the effort required to detect these opportunities in order to be able to take advantage of them is proportionately high as well. After all, there are never any free lunches.

Opportunities in the current market
With all adversity comes opportunity. A falling rupee has again opened up opportunities for exporters to earn higher profits. India has traditional sectors like textiles and auto ancillaries -- with many companies in these having achieved significant size and geographical diversity. Operating results from these companies have been revealing an upward trend, and the sharp fall in the rupee will help. IT services as a sector has already started to perform better in the past six months -- even in terms of the stock market performance. However, the other sectors are still to catch momentum.
Significant changes have happened in the power sector over the past few weeks with regard to policy. It is likely that some of the generating assets and transmission companies will soon start to generate economic return. The same goes for gas pipeline companies -- where there is a possibility of better gas availability. In both cases, stock prices seem to factor in perpetual decline of production/transmission. While utilities are unlikely to offer sustained stock price growth, the current stock prices reveal undue pessimism.
With the rupee still under pressure, currency trading may provide opportunities for the trader, or portfolio hedger. Here it must be noted that this should be undertaken only by the experienced investor.
Hardening of interest rates has again led to a large number of fixed maturity plans (FMP) on offer. With 1-year rates above 9 per cent, along with indexation benefits, investors can realise almost 9 per cent post tax returns -- much better than fixed deposits. In all, there are always investment opportunities -- and the best ones come in when the night is the darkest.

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