Category Archives: Podcast

At The Crossroads

Podcast Transcript:

When markets are overvalued, what should an investor do? Should we buy overvalued stocks which we really like? Or, should we stay in cash? Or, should we go where others don’t dare to go and invest? This was the dilemma of 2017-18.

This dilemma was not merely that of ordinary investors. Expert investors, professional fund managers, and portfolio managers have lived down this dilemma for the past year or so. During this phase, we have seen monies flowing fast into equities. This only made things worse for everybody. Logic demanded we should not do what we are not fully convinced about. But, if you were in the business of managing money, turning away money was simply not the done thing.

So, we saw the experts themselves enter the domain of identifying companies outside the proven stock universe.  This hunt for new blue chips became the hotbed of action. We saw more and more people coming out with ideas they believed were deserving blue chips. The race started to get even more racy as money continued to chase ideas. Private investors too began to start identifying themselves too closely with companies.

The business of investing turned more and more aggressive. Governance started to be given more license. The mutual funds started to join this party. Micro caps, Small-caps, and mid-caps became the only saleable flavours. A peculiar situation soon emerged where these new flavours sold at higher valuations than the index bellwethers.

Briefly, this situation seemed to be sustainable. As an investor, one could either learn to live with it or just stay away for a while. Or, go where others dared not to. This was hardly as simple as it sounds.

Advisors began to feel the very dilemma pinch their decision processes. The events of April and May 2018 have again triggered a search, rekindled anxieties, and opened up serious fears. For one thing, the trend has broken down. And, large caps have done better than emerging companies. There are clear indicators of changing trends in money flows, valuation perspectives, stock choices and performance expectations.

Clearly, the liquidity will not sustain for too long. In the absence of liquidity, the valuations look suspect. In such a scenario, only companies that do better than expectations and retain the respect of investors will be able to hold onto their valuations. The others may only break down.

This is the emerging scenario which advisors, fund managers, portfolio managers, HNIs, and retail investors are heading into.

What should one do?

Stay safe. Move to safety. Exit overvalued parts of the market. Focus on the more liquid parts of the equity universe. Don’t make the lack of liquidity your biggest portfolio risk.

This is my simple approach. To agree or disagree is a personal and professional choice.

But, there is no escaping this choice. It cant be put off anymore. One needs to stand up and be counted on any one side.

Staying outside this game and focusing on other asset classes may need to be done very carefully given the global interest rate risks and regulatory overhang on other asset classes.

So, equity remains a good bet. But not an easy one to make.

Anchoring Bias

Podcast Transcript:

My stance on mid-cap funds has been bearish in a while. After the dream run between 2013 and 2017, I started to feel very uneasy about them from September 2017. I had been advising clients to invest in the very funds when the valuations were softer and definitely attractive. But once these valuations went behind levels I consider reasonable, I turned cautious.

Firstly, I was advising clients to avoid investing aggressively into mid-cap funds. Then, I advised them to gradually move their monies into safer parts of the market. The decisions seemed out of sync with what industry was telling customers. Every dip was being bought and it appeared the best thing to do. The mid-caps simply kept going higher after every fall. This made investors believe that every dip must be bought. Implicit was the belief that the stocks will only go higher.

The current capitulation in mid-caps is also being bought into based on the same belief. The fact that stocks went higher after every previous occasion is why people are hurrying to buy this dip. But, this time could well be different. The reading of investors could well be wrong. Here is why.

We are thinking that the high valuations of 2017 are the new normal. But this belief has little or no basis. It is merely a demand-driven phenomenon. Now, supply promises to be abundant in quality equity paper. This only means we are going to see scarcity go away. Finally. So, sustaining valuation in a supply driven market will turn to be a challenge.

Investors seem to be ignoring the headwinds ahead. The reason is simple. Anchoring is biasing them. It so happened that everyone who bought previous dips made good money. That is biasing investors heavily inducing them to aggressively buy every dip.

But we are not necessarily going to be right going forward. There could be a long period of lull when performance could be ordinary. It is doubtful if investors will show the required patience in mid-cap funds for such a long time. Negative returns or non-performance may even get punished. Redemptions cannot be ruled out. If, and when they happen, they could be a major spoiler. We are going to see smarter investors selling into rallies. This would mean those buying the dip and not selling the rally may suffer in the end.

Rising oil prices and interest rates can dampen earnings. This may well lead to contracting valuations. As valuations fall, it can well lead to a reverse spiral in stock prices.

This turns anchoring biases into a grave risk. We need to be aware of what can happen if the situation creates furthers fears in investors’ minds. And what if the fears refuse to go away?

I believe we now need to avoid anchoring biases. The times are different. It is important to be in sync with the emerging market context. Anchoring biases may now prove to be very costly.