Never waste a down-turn!

Invest when pessimism is all pervasive.

These are golden words, but only with respect to past corrections. But not so golden for the current one. When you read it in the investment biopics or in blog posts about past corrections, these words hit you with such an inspiration that you get locked and loaded for the next correction. But, ironically, when the next correction comes and presents opportunities, one sees more desperation than inspiration. The golden words are no longer cool when it comes to the present corrections. Why?

May be because, one sees happy ending in the past corrections or in investment biopics. But, present corrections are not about past, they are about future. When future is unclear, it is not as inspiring, though we all know the ending will be no different from past corrections. No down-cycles in the past had ended in any other way, however long they were. Yet, narrative is so negative that it numbs one into inaction and more often into despair. It is always both fascinating and amusing at once, to see this diverging psychological trend between past and present corrections.

Now, let us take a look at the below chart.


This is not a complex chart. It is a simple one with a clear underlying pattern that runs for fifteen long years. As per this, every time, when small-cap index has fallen by a significant percentage, the subsequent three-year return for the index has been equally substantial. There is no reason to believe that coming years will be any different. One should expect a sharp bounce in small-caps in the coming years.

If there is going to be such a big pay-off, why there is no mad rush? May be everyone is,

  • Waiting for the cloud to clear
  • Waiting for the bottom
  • Waiting because of inability (emotional) to digest notional losses
  • Waiting for others to make the first move
  • Waiting for stability

No one wants to do the waiting that is most crucial. That is, waiting in the market. That is key to value creation. As they say, money is made in waiting, not outside, but inside the market. As the past cycles indicate, by waiting outside, very big part of the rally will be missed when the music starts. It eventually ends up either as a perpetual wait or as a punishing late entry. Either way one misses out the large part of the upside.

Want to end this note with my favorite quote from Morgan Housel. It said, “All past corrections look like an opportunity, while all present and future corrections look like a risk”. At some point in future, the current correction in small-caps would be seen as a one-time life-time opportunity for sure. Do you want to see it as a missed one or amassed one? Of course, if anyone lets it slip, there will be no one else to blame but himself.

Happy Value Investing!!


Nirmala Put?


There is a new buzz word in the market. When you utter that, bulls get emboldened and bears get panicky. It is not Greenspan-Put or Fed-Put. It is a Put with a traditional and local flavor. Guessed it right. It is Nirmala Put!

With the successful surgical strike on bears with her secretly guarded tax reforms, one is not sure, bears will ever attempt any adventure in future, esp. after losing much of what they made over last few quarters (short-sellers got slaughtered in the so called surgical strike). With Nirmala Put acting as back-stop for domestic issues, bears can at best hope for some global melt-down to get back to their business. If global cues do not favor them, one may be slowly looking at good times, esp. when positive incremental news-flow is on cards from domestic economy i.e. be it auto numbers or discretionary consumption or FMCG volumes etc., sequential numbers are likely to turn positive in the festive season. Good news on the monsoon (so on rural growth) couldn’t have come at a better time. This doesn’t, in any way, mean that the liquidity or NBFC crisis is behind us. The overhang of Yes Bank, DHFL & India Bull Housing etc. will continue to weigh on the markets for a while. But, with strong signaling effect (bazooka) coming from the Govt. that they are ready to go to any extent to revive the economy, such overhangs are unlikely to have a lasting impact

The hope is that the reform measures may not stop with the tax cuts. With Govt. under pressure to raise non-tax revenues so as to end the year with a respectable fiscal deficit, one may see a huge pick-up in pace of strategic divestment (privatization) and asset monetization. One should expect more business friendly measures in the coming weeks and months.

So far, the rally has been limited to the big boys. It is yet to percolate down to the much neglected mortals like small-caps. It is a question of time before the tide turns for the tiny ones. But when that happens, rally will surprise on the upside as it did on the downside. Interesting times to watch out for!

Biggest take-away from FM’s Boost!!


Financial markets are all about signaling, not so much about materiality. The biggest mis-step in the FM’s maiden budget was not so much about any particular measure, but about signaling. By taxing FPI through additional surcharge, they couldn’t have done anything worse on signaling, though materially the amount involved was less than 400 cr. No surprise that it took away 20000cr+ from the equity markets in terms of FII outflows since the time budget was presented (till 23rd Aug).

In a big relief, Govt. last week reversed some of those key mis-steps they had taken in the budget. There were many measures in the so called mini-budget that was announced last Friday. Though there were many steps of merit, the key take-away from the mini-budget is not anything about any steps, but again the signaling effect. It came in the form of Govt’s willingness to listen, humility to accept the mis-steps and ability to do the course correction. In our view this is the biggest take away from the booster shot from FM. This signaling effect can change the medium to long-term landscape of the market quite materially, though global cues will continue to dictate the trend in the immediate term.

Of course, for bears, there is no shortage of ammunition. Besides US-China trade war hiccups, there is a new found love with the inverted yield in US and its association with recession. It is another matter that not many inversions were followed by recessions (at least we had two such inversions in the last 4 years), though all recessions were preceded by inverted yield. Having said that global bears have their hands full to keep the markets edgy in the short-term. For India, having under-performed the global markets quite significantly this year so far on account domestic mis-steps, some catch-up (to cover this year’s under-performance) may be on cards, esp. if the festive season brings the much needed turn in the news-flow for the economy!!


Simple questions, no easy answers?


Downturns are no less exciting when it comes to anxious questions from investors. As a money manager, one gets pushed around by questions which may not have a clear short-term answer and yet have a broadly right long-term answer. Thought we should address couple of such questions through our monthly newsletter.

The most common ones that we face in a challenging environment like the one we are currently in,

  • Even if the Govt. takes measures to reverse some of the mis-steps, with no one willing to lend or take risk (liquidity/risk cycle broken), what will trigger the liquidity up-cycle for the real economy?
  • If nothing much is going to happen in the short-term, why not wait till things stabilize?

As any fund manager would concur, the first one is a more interesting one because it involves understanding of how the critical parts of engine works in the economy. With Govt. rolling back some of the mis-steps, it has also become a more relevant one.

Before proceeding to answer how liquidity cycle will turn, let us first understand what caused the severe choke in the liquidity cycle. What started as a usual risk-aversion on NPA crisis got aggravated by Govt’s overdrive on corp. cleanup, which further got accentuated by the cyclical slowdown in manufacturing esp. in autos. It is the confluence of these factors coming together than any one factor that pushed the economy into deeper slowdown. When all of them are playing out together, it appears as if it is apocalypse for India which is not surprising. But the impact on economy is huge because there is risk-aversion in each and every stage of the liquidity chain. Take autos for example. How fear of deeper slowdown results in serious risk-aversion in each link of the liquidity chain like bankers cutting down exposure to dealers/auto consumers, auto dealers cutting down on stocks that they carry (destocking), consumers in-turn postponing buying on unknown fear and so on. If one looks at the auto retail numbers and whole-sale numbers, one can see how dealer destocking has amplified this slowdown seriously. For e.g. in Aug, while the retail sales at the consumer level came down by 11%, the whole sale numbers at the OE level came down by over 25%+. The difference is on account of dealer destocking. Not to forget, when some bit of confidence comes back, the dealer re-stocking itself will optically boost the numbers at the OE level leading to dramatic change in the narrative in the media (flashing headlines like auto industry bounces back with a vengeance etc. will resurface mysteriously). Time for such change in news-flow is not far away.

Since people attribute, mistakenly though, to a single factor like Govt’s clean-up drive for the choke in the economy, naturally, they also think that this will never reverse as Govt. is unlikely to lose its grip on the clean-up. But in reality, over time, in the next few months, two of the three factors that caused the slowdown will reverse to give the required bump-up for the liquidity. This coupled with falling lending rates and rising liquidity in the system, will eventually de-clog the flow in the liquidity chain. Basically, the point is that the liquidity cycle will come back in full force once a bit of positive news-flow starts coming in. It looks like the “turn” in the auto demand in the festive season (even if the growth is just optical on low base effect, though better than expected monsoon is likely to revive rural consumption in the second half) could bring the initial trigger for the “turn” in the liquidity cycle.

Agreed, why not wait till we see some visibility of that turn? That brings us to our second question. Yes, one can wait for sure. But the challenge is, market doesn’t wait. It discounts far ahead. How do investors deal with this? Only way to deal with this, is to buy on pessimism without worrying about quotational losses in the short-term. How does one logically convince oneself to do that? Here is where our usual question we put to our investors who are in such a dilemma. If you have an opportunity now in which there is risk of 20% quotational loss in the short-term, but 2X gains in the medium to long-term (1 to 2 year), when would you buy? Of course, the answer is easy if one can time the bottom. Since it is not possible to time the bottom, one has to choose to buy now in spite of the risk of 20% notional loss. In theory, even this option sounds easy. But, when there is pessimism and uncertainty all around, it is difficult to execute this on the ground. The reason is, in such times, it is easy to get carried away by the fear that the risk of loss may be much higher, though it is still notional.

In conclusion, it all comes back to the same old understanding that, to execute value investing on the ground, one may not have any option but to buy when there is maximum pessimism without worrying about any trigger. Of course, it holds good in the top of the market as well (selling when there is all around exuberance). Both are difficult to execute (emotionally), but that is the only way to create long-term wealth. In that sense, in hindsight, this downturn will, most likely, go down in history as a one that threw a great life-time opportunity for long-term patient investors. Don’t miss it!!

Happy Value Investing!!


Choked by Clean-up Overdrive?


Recently, it has dawned on many seasoned investors that the Govt’s corporate cleanup drive may have an underestimated (and unanticipated to some extent) second and third order negative impact on the economy. It is now gradually being discovered that such a drive has choked the economy quite severely. For long time the economy was solely depending on private consumption and govt. investments for its growth. Even those cylinders have started sputtering now, leave alone the long-gone story of private capex.

With Govt. not letting its hands off the handle, does the clean-up overdrive risks killing the economy in the short-term? Tightening the noose on rating agencies, calling for bans on audit firms, penalizing bankers for past lending decisions and choking the corporates on compliance etc. are great long-term measures, but could be painful in the short-term for the economy as the entire financial eco-system recedes into risk-averse mode. Govt. needs to tread this path carefully because one does not want to see this corporate catharsis end up killing the patient i.e. economy.

Having said that, the long-term structural impact of this clean-up drive, equally shouldn’t be underestimated. The payoff will be huge, once we are through with the short-term pains. Imagine the multifold gains that will gush from improved corporate governance or more vigilant audit/ rating agencies or from prudent lending or enhanced tax compliance etc. The positive impact on long-term cost of money, macro metrics like fiscal and current account deficits etc. will be manifold to put the economy in a higher growth orbit. There is hardly any debate on that argument.

Coming to the short to medium term, there is a huge disconnect between what the market is pricing-in and what the actual growth is going to be. In the broader space, market is almost pricing-in a depression kind of scenario while the growth will still be near 7% for this year and the next. This disconnect in stock prices will get bridged at some point of time, though “when” will continue to be a question mark. Seasoned investors understand that India disappoints both optimists and pessimists equally (to quote the famous phrase of Ruchir Sharma). Time to disappoint the pessimists is not very far away!!

If you have bought Right, sit Tight…

It is an apt advice for any investor who is weighing options on what to do next in this stressed markets. But the challenge is not as much about knowing what to do, but how to do. The reason being, sitting tight is easier said than done. Many investors intuitively know that if they stay the course, they will get rewarded. After all, everything is cyclical. But they still fail to follow their own advice. Why?


History is full of people who are otherwise smart and intelligent, but do silly and stupid things from time to time. At work, we are constantly surprised by people who have brilliant mind, but doing simple mistakes. No different at home with people who we appreciate and look up to for their intelligence, slip on simple things. It begs a serious question, why competent people commit such simple mistakes?

This syndrome is more acute in the serious world of business and investing. Countless cases of otherwise successful businessmen or seasoned investors making bad decisions carried away by fear and greed. What explains all these? Simple reasoning that they get blinded by emotions (behavioral flaws) doesn’t fully explain the dynamics behind this ever recurring theme.

Where does one look for answers? This is where the understanding of cognitive process of the mind could help. As Zen teachings say, cognitive process is not independent and it is conditioned according to one’s bias, prejudices and fear. The process is a huge distorting machine leading to delusion rather than reflection of reality. Take for example, the views, the thoughts and the perceptions. They feed-in each other in a self-fulfilling fashion. The way one “perceives” conditions “thinking” and the way one “thinks” conditions “views”. In turn, the way one “views” things  conditions the “perception”. The whole thing works in a self-feeding loop to create self-deception. In this way, one can’t trust thoughts, views and perception because they are bent by the conditioning according to the bias, prejudices and fear.  It is like having a lens that bends everything that falls on it according to what one wants to see or doesn’t want to see (underlying bias). This is how all cognitive biases work to blind otherwise smart people to slip on simple things.

How is this related to “sitting tight” phenomenon that we started this piece with?  In sitting-tight, the cognitive biases come in various forms to make that process difficult. The most dominant ones are, the fear of further fall, self-doubt, recency bias (mind giving undue influence to what has happened recently), urge to see quick uptick in the portfolio, confirmation bias (getting proved right in the short-term) and loss of hope etc. They act as underlying bias to cloud the cognitive process which results in actions that otherwise look unwise. At the end of the day, one should not lose sight of the simple fact that these are cycles that eventually turn. As in the previous cycles, when they turn, the degree of bounce will be directly proportional to the extent of fall that preceded it. Who makes this simple stuff hard? The one that lies between the ears, right? If you de-clog it, what sounds simple can also become easy.

Happy Value Investing!!