Amit Dalal: Positive on Indian Equities

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PANIC Stock traders crowd the sidewalks outside the New York Stock Exchange on the day of the 1929 market crash

I am a student of the capital markets who has lived his career in awe of the world’s largest banks and investment gurus. I am someone who till recently classified himself as a dinosaur. A few years ago I found my beliefs and approach both outdated and unsophisticated. Today, I understand that participants of the global financial markets, albeit with substantial resistance, are being driven to adhere to old, conservative norms and make the markets a place which we all may finally respect.

Today, I believe that participants from the real economy — the foundation for capital markets — desire a simple and honest approach to managing their hard earned savings and capital from the players of the Wall Street economy.

I am tired of senior execs of the world’s financial institutions, with substantial fiduciary and trusteeship responsibilities, justifying dangerously high leveraged proprietary trading books I believe participants should do what they can, eat what they can digest, leverage within bounds and invest with honesty in approach. That’s all we want from the billion- dollar-pay-package leaders of Wall Street.

I do not believe investors have ever asked hedge fund managers to churn their portfolio 5-12 times a year. Nor have they asked corporate treasury heads to currency hedge their balance sheets beyond their order books. They also haven’t asked accountants to frame rules which produce balance sheets that only accountants understand.

I am tired of prices of essential commodities being driven by speculative inflows and outflows in commodity funds & markets. I am tired of intermediaries marketing day, pair, and direction trading strategies with a clear focus that these products will increase their own net worth but with complete disregard to the risk being created to the client’s net worth I do not believe that countries’ credit rating should change only after a crisis. Perhaps CDSs (currency default swaps) on country debt should be banned; perhaps CDSs should be banned altogether. I doubt they existed a decade ago.

I am told some participants are pleading with the Reserve Bank of India to allow CDS trading in India. I pray that the Reserve Bank continues to think conservatively rather than like the high flying yuppies that thirst for new instruments everyday.

Will we have a Double Dip (sounds like an ice cream cone)? Will the Euro hold? Will risk aversion take over? Such uncertainties will continue to haunt the global markets. Frightening news, from the West, of defaults will result in downward corrections which, I dare say, may last longer than what investors have gotten used to in the last few months. What should an investor do in this confusing and sometimes frightening period?

The situation in Europe will never allow market analysts to agree on whether we are heading for a good monsoon (metaphorically) or will we be struck by an epic tsunami. In periods of correction caused by pure apprehension, rather than tangible change in fundamentals, it is imperative for investors to decouple from the news flow.

Bottom-line!
It is imperative to first convince yourself which is more likely: The monsoon or the tsunami.

Some authors are saying don’t buy in the falls. For those who believe that the last 15 months was a respite and the horror that began in October 2008 will return, they should sell now.
Invest only in short dated government debt and wait for the tsunami. Thereafter, invest quickly in all asset classes including long dated debt instruments.

History has shown that cash with an individual in a period of economic breakdown and thereafter invested makes him a king for the next decade.

For those who believe the tsunami is a few years away, and I am in that camp, use this volatility to your advantage. I believe we are in a sweet spot, essentially because of the turmoil overseas. We are like a couple enjoying a stable marriage while others are going through a divorce. When their divorce causes uncertainty and turmoil, our markets have substantial FII outflows resulting in step corrections. Take this opportunity and invest in equities. Remember, the divorce will finally lead to the overseas couple searching for a whirlwind romance and they will find it in India.

The current rally in our markets does not allow us to think that a correction of any order is around the corner, but in the next few months an investment opportunity will arise.
Many a Roubini believes that US, European and Chinese economies are heading for a major slowdown in the second half of the year. It may not be possible for the markets to decouple from such global factors but it will be imperative for investors, who wish to deploy capital prudently, to decouple from news and events.

I will not end this without a few words of caution. It is my observation that our marriage, i.e. both the corporate sector performance and the sovereign fiscal and political performance, was far more romantic and exciting from 2003-2008, than it is now.

Why? Because 2003-2008 were years of a turnaround, never seen before; it was the first wave of low single digit interest rates after decades; it was a clear shift from the Hindu rate to a higher rate of growth. The corporate sector benefited from both higher realisations and higher capacity utilisation. Balance sheets became cash rich. The quality of growth may not be the same from 2009-2013. Corporate India does not have the same fiscal discipline. The 25 percent plus ROEs (return on equity) and 35 percent growth in earnings era is perhaps behind us.

The Sensex scaled to 21,000 in January The world was awash with excess liquidity in 2005-2007, looking for returns based on higher and higher risk.

In the next three years, the Fed will look for opportunities to reduce the liquidity it infused into the system.

There is a possibility of the markets reaching out and scaling magical new highs in India in the next couple of years. India looks like the most attractive equity destination amongst developing and developed markets. Inflows in India will be larger than ever before.

We could have earnings being discounted for the Sensex in a band of low 20s in the coming years. That is the time investors will have to be careful. That is the time when one will have to allocate more capital to short dated government debt.

That is the time when I would suggest we will have to recall the possibility of the tsunami striking the global economies. It is then that the tsunami will strike, given the blatant disregard with which governments have issued debt, when it is least expected.

For now, use every correction to invest in equities.

Amit Dalal is Executive Director, Investments, Tata Investment Corporation. The views expressed in this article are entirely his own.