Nifty 50 | Portfolio Yoga

Market View for 2023 & beyond

We are close to ending 2022 and at this juncture it seems that the markets will close in the positive for the 7th consecutive year. The last time we saw a similar 7 year consecutive gain was between 1988 to 1994.

The high of 1994 was next broken only in 1999. I hope that we won’t see a repeat of that but who knows how the future shall unfold. Politically 94 was the peak of strong governance and the period following that was one of political instability not to mention international financial crises such as the 1997 Asean Financial crisis.

At the current juncture, it seems that political stability will be there for at least the next few years and while there are countries which have been brutally hammered by Covid and are facing financial strain, the impact on the world economy at large should be moderate.

To understand the future trajectory of the economy, one way is to study the economic trajectory of other countries which have similarities in India.

Let’s start with next door, Pakistan and China. First a comparison with Pakistan. GDP per Capita is a data point that can be easily compared across countries, large or small. Here is the one comparing India’s GDP per capita with Pakistan’s GDP per capita.

The surprising part of this chart – Pakistan till 2017 had more or less consistently had a higher GDP per capita than India. Today, India’s is 48% higher and based on data, it seems it can only become wider.

Another country that India can and should be compared is with China. I had to use log chart here just to ensure that the Indian line was visible enough, such has been the growth of China.

The surprising aspect of this chart is that China was lower than India till 1991. Given India was lower than Pakistan, China seems to have been even worse. Then it took off. Today, China is 450% higher than India. India today is at the same place where China was way back in 2004 / 2005.

But Indian trajectory of growth vs Pakistan did not start in 2007. It was the result of all the reforms carried out since 1991. Same for China, China’s crossover in 1991 over India happened due to more than a decade of even stronger reforms and one that for now continues to bear fruit.

While I barely read Indian newspapers, I make it a point to try and read Pakistan’s (especially the Open-Ed columns). The optimist I am, I think the Indian path will mirror China’s (even though we may never grow as fast and as long as them) but the realist also wonders, what if we slip up.

In one of my previous blog posts, I wrote this

“Assume you were a rich Pakistani. You understand that inflation is high, real Interest rates are negative and hence investing in the stock markets is a better way. At the beginning of 2018, the KSE Index was at 41,000 and One USD cost 112 Pakistan Rupees. Today, the Index is at similar levels, one USD is now available 220. Basically in USD terms, the wealth has halved over a period of just 5 years”

Since 2004, Nifty 50 has gone up by 840% whereas the same Nifty 50 denominated in USD has gone up by just around 415%. A 50% decline in returns.

Why worry about USD returns when our earnings and spending is all in Rupees you may wonder. The reason is simple, Energy cost is calculated in USD and as the base accounts for much of the price rise in every product.

While India may never become the manufacturing powerhouse that China / Germany are today, Manufacturing shall drive growth in addition to the growth powered by Services. United Nations Industrial Development Organization ranks India at 40 with most trends seeing a accelerating trend since the 1990’s when the data starts

Countries make mistakes, mistakes that may not be noticeable immediately but have profound impact in the years to come. I believe Europe has made some really bad calls and the price will be paid by their citizens over the coming years and even decades. Nothing goes away scott free.

I am not in the game of prediction and yet, I predict. Prediction to me is important to have an understanding of the future to decide what course of action is best suited to allow me to live the quality of life I wish to lead.

India today I think is at a very sweet spot. Yes, there are risks especially from the North but given the recent experience of Russia with Ukraine, I feel the situation will not go down the tubes anytime soon.

The US markets have seen pretty tough days with S&P 500 giving away nearly all the gains made in 2021. Nasdaq has gone even further giving up not just the returns of 2021 but nearly half of the gains made in 2020. A bit more decline and we could see the Index being close to where it was pre-corona.

Take a look at the ratio chart of S&P 500 vs Nifty 50 in USD

India underperformed big time vs US from 1994 to 1998. From there to the end of 2007, it was one way of outperformance. This even though both the Indian and US markets took a hit when the dotcom bubble melted.

Since 2013, Indian Markets and US have been in tune in US Dollar terms. Measured in local currency terms, S&P 500 is up by 131% vs 231% for Nifty 50. Kind of shows the impact of the depreciation of the Rupee vs the Dollar

The continued rise in Interest rates in the US has hit most countries with even the Euro and the British Pound unable to stem the tide of depreciated currency. Japan’s Yen has depreciated by more than 20% this year alone.

From 1973 to 2000, the Indian Rupee saw a CAGR depreciation of 6.67% to the USD. From 2000 to 2010, the Indian Rupee barely moved. From 2010 to today, its annual depreciation is to the tune of 5.24%. 2022 seems to be in line to be the 11th worst since 1973. Unless India can get to a situation where we have a trade surplus, this depreciation is bound to continue

In the last few months, there have been hundreds of reports of the coming decades and even maybe the century. I am an optimist and really wish for that to happen but unlike China which was in the right place at the right time, it will be tough for India to replicate the act.

Globalization which used to be promoted by the West is now being seen as a negative given how dependent they have come to be on China and the hollowing out of manufacturing. While global trade will continue to grow, the competition is really hot.

The biggest advantage for India vs other countries lies in the large population which provides for a huge local market. But the local market size has been trumpeted for nearly 20 years now but when it comes to consumption, we are still a pygmy.

Currently more than 50% of stocks listed on the NSE are outperforming Nifty 50. While this is not on the higher side, if historical data is any evidence, this also rules out another bull market starting anytime soon

Same is the case with the % of stocks trading above the 200 EMA

This year, the Nifty Small Cap Index saw a decent correction. But unlike say 2018 or going back, 2011, this isn’t deep enough to provide a platform for the next jump.

When we talk about correction, we always assume price correction for in majority of the cases, its price correction that sets the base for the next leg of the rally. This induces a fear that the next big correction is on the cards. What we seem to be seeing in the current instance though is more of time correction.

From India’s perspective, the Russia-Ukraine war has not had a major negative impact on the economy. While we did face some tumultuous times due to oil spiking up, today with oil trading well below $80, it has become more comfortable to manage. Same cannot be said for a host of other countries.

Based on trailing four quarter earnings, Valuations are neither cheap nor expensive. Kind of no man’s land for now.

Reasons for the 2000 crash or the 2008 crash did not originate in India. If the world catches a cold, it’s unlikely that we can stay insulated. The low interest rate prodded rallies in both Private Equity and Crypto are beginning to peter out. Will the massive reset and losses have no impact on the public equities? Only time can give the answer.

Prediction for 2023

While there are still two weeks to go, markets weren’t kind to the prediction that was evolving at the end of 2021. Here is the comparison with what really happened. As can be seen, the prediction really did not counter the deep cut we saw in the middle of this year and unless we see a decent rally in the coming two weeks, it is unlikely to close near the predicted levels.

Based on my understanding and analysis of cycle theory, this is how I assume 2023 will evolve.

Bearing the Pain – February 2022 Newsletter

Till date one place I have been highly unsuccessful is in the arena of entrepreneurship. Reasons are many but one of the foundational reasons as I understood very late is my inability to bear the pain of losses while continuing to be optimistic about the future prospects.

Very few enterprises start off making money right from the word go. Even not accounting for the founders own salary, many take years to break even. If one added the opportunity cost of the founder foregoing an income he would have been able to earn elsewhere for the skills he has, the breakeven period could be even longer.

Writing in his book, The Narrow Road, Felix Dennis chimes thus

Anyone in good health and reasonable intelligence, provided they utterly commit themselves to the journey, can succeed on the narrow road. Tunnel vision helps. Being a bit of a shit helps. A thick skin helps. Stamina is crucial, as is the capacity to work so hard that your best friends mock you, your lovers despair, and your rivals and acquaintances watch furtively, half in awe and half in contempt. Self Confidence helps, Tenacity is an absolute requirement, Luck helps.

When it comes to the market, the success rate is no different though experience tells me that it’s actually worse since what happens in years in a business can happen over a period of days in the market. The worst business can survive for a year blowing out his capital. The worst investor or trader would last a few weeks at best.

Behavior and Strategy are the two key ingredients for success. But good behavior alone cannot guarantee success since a bad strategy is guaranteed to blow up one’s capital though good behavior may ensure that one can hang around for a lot longer.

A good strategy in itself doesn’t guarantee success in the short term for there are always vagaries of nature but like compounding, in the long term, a good strategy can make a huge difference to the outcome.

The period from April 2020 to December 2021 was a rarity. In those 21 months, Nifty doubled in value. This is not something we haven’t seen earlier with the most recent of such instances being in November 2010 (21 month returns were to the tune of 112%, 10% better than this time around).

Correction in the markets was not a question of it but when. 2022 we seem to have started off as a year when some of the excess returns will be given back as markets self correct their earlier excesses.

Take a look at the chart below

Since 1980, Sensex has generated a long term return of 15.88%. But yearly returns on an average aren’t anywhere close to that. We have some very good years and some very bad years and some nothing years in between.

The chart plots out the differential between the return of the year and the long term return. Hence for 2021 when Sensex return was 22%, it shows up as 6% excess returns.

What is interesting to observe is the big bars we used to see pre-2009 on both sides have virtually disappeared. We don’t have extraordinary years (like 2003 when we went up 73%) nor are we seeing extraordinarily bad years (like the bunch we see in the mid 90’s – do note though that the market wasn’t that bad. It’s just looks had when you subtract 15% from the years already bad return)

In 1998, Sensex trailing PE ratio went below the 10 mark. Interest Rates were high, Inflation was high and Markets were cheap. The probability that we shall see a similar opportunity while can never be ruled out, the odds are pretty slim.

It never rains but pours is a proverb that is most suited for bear markets.

Right now, there is plenty of bad news going around.

The Russian Invasion, the sharp hike in Crude which may push up Inflation forcing RBI / Fed to hike will all be just excuses for what we have seen happen in the markets time and again.

Crude prices were high even before the US had enforced sanctions on Russia but are now on a tear. While every country will be impacted with the high price of Oil, the impact will be felt more in emerging countries like India.

Price of Nickel shot up so much that the London Metal Exchange had to shut down the market for the day to allow for those caught on the wrong side enough time to refill their margins. Poland has broken ranks and raised interest rates by 0.75% to 3.5%. Sri Lanka has had to devalue their currency by 15% to ensure that they can apply to the IMF for loans

But only when there is bad news enough to frighten the life out of someone will he be willing to sell things that once were seen as great opportunities at throw away prices. We aren’t at throw away prices currently but waiting for those isn’t a strategy.

Drawdowns are a pain, but once accustomed, it becomes easier to navigate through the bad times for the good times are generally right at the corner where the bad time ends. There has been enough written on it yet to be a successful investor, the ability to bear the pain when markets trends down is important.

Right now, the trend is weak. There is no denying that as is the case that there is no escaping such without trade off’s of one kind or the other. Momentum Portfolios as I have long argued are no better or worse than any other factor based strategy. While many got lucky during covid, it seems such luck is missing with respect to the Russia Ukraine Situation.

As the saying goes, being prepared is half the battle won and in investing, being prepared for the bad days is critical for success.

Between the idea

And the reality

Between the motion

And the act

Falls the shadow

T. S Elliot

Book Review: Bulls Make Money, Bears Make Money, Pigs Get Slaughtered

The title of the book was what interested me to check it out. While the title can be said to be slightly misleading (though true), the contents were pretty good. I highlighted some interesting chapters on Twitter

Bought this book attracted by the Title. Bulls Make Money, Bears Make Money, Pigs Get Slaughtered

A decent read for anyone who is fresh in the markets. For those who have been here for long, kind of a recap of things we have learnt first hand. https://t.co/JcfDHyxMgx
— Prashanth (@Prashanth_Krish) March 2, 2022

The book, while written in 1999, isn’t as dated as one assumes a 20 year book on markets will be. Most of the lessons that can be learnt 20 years back are applicable even today. I particularly liked the Psychology chapters the most. While a newbie may not be able to grasp all the information and analysis, this book is good for someone who is exposed to markets and trying to smoothen the edges.

January Newsletter – Fear of Draw-down

Outside of Twitter, when I meet traders / investors, one word that never is much of a talking point is drawdown. One reason is most investors and traders don’t even calculate a NAV styled return matrix to understand where they stand relative to where they were say a month ago or a year ago.

Maintaining performance records gives a deeper understanding of both the strategy strengths and the weaknesses. While we all remember our winners, the losers barely stand any scrutiny. Finally, the question though – is our return from the total investment that has been committed greater or lower than the Index remains unanswered.

Draw-down is a measure of how much one’s equity has fallen from the peak. Assume you had bought a stock at 100 and it went upto 150 and today trades back at 101, while for all practical purposes you are still profitable, if someone asked what the draw-down on the trade is, you will say it’s 32%. For someone without context, this would seem like you are deep under water even though you are actually floating just above.

Draw-down provides perspective when it comes to trading systems that employ leverage. A higher draw-down in historical testing would mean that one needs a higher amount of margin and lower leverage to be able to overcome and sustain trading the strategy through and through.

While drawdowns are painful and may result in an existential crisis for traders, the question is whether investors should be really bothered with it?

Markets go down every year. That is guaranteed. It’s more in some, less in others but on an average a 10% drawdown is guaranteed while even 20% is possible though in recent years we haven’t really seen one other than the Covid fall.

Look at the drawdown from all time high for the Sensex.

A 30% fall was normal pre-2008. 50% or more happened just twice. Things have changed a lot since 2008.

If you can have and really have and really live by a good long-term investment outlook, that will be close to an investment superpower as you will be ever able to achieve – Cliff Asness

Louis Simpson was one of the favorite fund managers for Warren Buffett. So good was he that if not for his age, he was seen as the person Warren would have been comfortable handing over Berkshire Hathaway post his own retirement.

In 1987, before the crash, he moved GEICO’s portfolio to approximately 50 percent in cash because he thought the valuation of the market was “outrageous. He was right and the market moved down 41% in the space of less than two months.

Simpson says that the huge cash position “helped us for a while and then it hurt us,” because “we probably didn’t get back into the market as fast as we could have.”

The key to success in avoiding a drawdown and benefiting from it lies being right twice – once when getting out and then when getting back in.

Everyone of us would love to be out when a drawdown hits and back in when the trend returns again. While advisors claim this is possible, I have for once not found a single PMS (where you can actually go to 100% cash as and when you feel like) ever talking about having either done that or this being part of their strategy.

The reason is simple – there are way more tradeoffs that one bargains for when trying to move to cash and back. First and foremost, the fact is that not every dip will result in a large crash making the move worthwhile.

The best strategy is one where you get out right before a big fall and get in before it starts to rise again. Other than in hindsight, you can never be right in such a manner. In almost any strategy, you shall get out once the trend has started to become bearish and re-enter when the trend has started to become bullish.

To better understand, we will need to look at what kind of strategy can get us out before big crashes and get back in post the event while also being mindful about not getting in and out one time too many.

Let’s take the 200 day EMA and assume one shall get out every time Nifty goes below this and gets back in when it goes back up. This strategy for instance would have kept you out of the Covid Crash of March 2020.

Even in 2008, while the strategy did not get out cleanly and stay out, it would have still saved a ton of money. In 2009, it went long just before the markets shot up 20% in a single day on the back of the election of the second UPA government. What more could you really ask for?

Nothing comes for free and even here there are some downsides.

The best way to compare a strategy is to compare it with a strategy that does nothing – in other words a Buy and Hold.

If you implemented the strategy – getting out when you were told so and got back in versus your friend who is a buy and hold investor who invested the same amount in Nifty in 1992, today your friend’s equity will be higher than what you would have had. In other words, your friend would be richer than what you are today even though both of you had invested in the same underlying index.

On the other hand, during the worst times, you were sitting pretty in Cash while your friend would have been aghast at seeing how much money was lost in such a short time. Most investors give up at the worst possible times. Having a strategy even as dumb as a 200 EMA cross minimizes that risk.

The second and bigger trade off is with the ability to stick to the strategy. Remember, your friend has to act only once and he is done. For you, it’s different. Since 1992, you would have entered and exited Nifty an additional 110 times. That is more or less 5 to 6 times a year. What is worse is that 75% of those trades lost money.

Finally, let’s assume that the investment is your life savings in its entirety. The larger it gets, the tougher it always is to get out when the markets are falling and even tougher to buy it back at a loss at a higher price. Not to mention the taxes to pay and the charges you end up paying. Life ain’t easy.

If you wish to reduce the frequency of trade, you can move to a higher time frame with a similar strategy such as the 10 month moving average. Meb Faber has written a bit about the said strategy here Timing Model – Meb Faber Research – Stock Market and Investing Blog

While the number of trades reduces a bit, the outcome isn’t too different. You still would have underperformed your friend. Of course, if you calculated this not when the markets are high but when the markets are at its low, you would have seen yourself as a winner.

The other day, I was listening to an interview of Bill Miller, the famed Value Investor and his thoughts on Volatility seemed interesting.

Achieving lower volatility than the average or achieving low volatility is not the objective of investing. It might be a psychological objective for people because their psyche’s don’t like to see them losing money because the coefficient of loss is two to one. But the objective is to make money and outperform the markets.

There is no escape from Drawdown regardless of the strategy. Charlie Munger in 1973 was running a partnership which saw a drawdown of 53% vs Dow’s drawdown of 33% for the Dow. While the intrinsic value of his holdings were definitely higher, the problem is always about not what it’s worth but what the market values it at.

Risk Tolerance & Asset Allocation

The other day I was listening to a very well known and accomplished person in the world of finance. He talked about how when markets fell in March of 2020, his system told him that it’s time to move 20% from Debt to Equity. He ended up moving 2%.

The pain of buying equities when the whole world seems to be selling is way too great to overcome even if we somehow have overcome that pain by selling after the markets have gone down from their highest point.

This is also one reason that binary systems which move from 100% Cash / Debt funds to 100% Equity (Dual Momentum for example) have so few takers despite tons of data on the benefits of following one such strategy. In fact, beating the underlying such as Nifty becomes possible in a Dual Momentum strategy if you were to move to say Gold vs Cash but who in their right mind can be 100% invested in Gold at any point of time?

Assume you own a portfolio worth a Crore of Rupees and as of today that is all you have. Markets start to fall but your system is still telling you to stay being long equities. You are uncomfortable but you are intelligent enough to know that the system is always right and you are better off sticking to it.

Market falls even more and finally your system says – Sell everything, move to Cash. Depending upon your own predisposition, the probability is that you will do exactly as the system said, more so if the day post the signal gets generated is a negative day.

Post your sell decision, the market starts to seemingly flatten out but we are now hit by a wave of bad news, news that was most probably the reason why markets fell in the first place. You start to think that you did the right thing by getting out for who knows how deep the markets can go down.

But a few days later, the market starts to climb. You ignore this as part and parcel of the gyrations that one will see in such times. A few more weeks later the market is higher, higher than where you sold. You would feel bad but still believe your call to exit was the right one. Two days later, the news is as bad as it was at the bottom but markets have moved up 15% from the lows and 10% from where you sold and your system signals a Buy.

Would you turn around, sell all the Debt Funds / use the Cash and buy back 100% of the equity you sold?

The probability of one doing it is low and this is how the majority will actually react. It doesn’t matter how much experience one has, the probability is always low, more so if one already has had seen a couple of whips.

Why this dichotomy between the decision to sell and buy?

The answer lies in the fact that when we lose money, even notionally, we suffer pain. Pain is so great that we are happy to unload the position even at a substantial loss. But buying again is tough because our recency bias tends to reflect upon the recent bad news with expectation of failing once again. Why get back so soon, should not the news settle down is a much asked question during these times.

One reason investors choose the Do it yourself approach especially when it comes to stocks is the control one has over the construction of one’s portfolio. An added benefit is of course that there is no fee you would pay.

Do-it-yourself also means a low or flat fee at best. On the other hand, the fee we pay is not in terms of money but in terms of being able to mold our psychology and be prepared to continue with our journey in both good days and bad.

Finally a slide from Ravi Dharamshi of Value Quest Advisors. Key point is the last point – 4 big crashes out of 30 years that should be avoided.

4 in 30 years is close to one in 7.5 years. Trying to get in and get out wondering if this fall is going to be the 5th will in the long run turn out to be more expensive than staying put and sailing through the rough waters.

Book Review: Damn Right!: Behind the Scenes with Berkshire Hathaway Billionaire Charlie Munger

It’s always fascinating to read about great investors and who is better than Warren Buffett and Charlie Munger. But unlike other investors, it’s tough for neither have written a book themselves or are there any authorized biographies.

Warren Buffett’s rise is more of an open book. Charlie Munger on the other hand is much more subdued.

This book can be said to be kind of the closest one can get to a Charlie Munger Biography. It doesn’t pack the wit and wisdom which one can gain by reading Poor Charlie’s Almanack: The Wit and Wisdom of Charles T. Munger and Seeking Wisdom – From Darwin to Munger

Instead this book looks at Munger with focus more on his family and his the path he took before he joined Warren Buffett at Berkshire Hathaway.

While compounding may be the 8th wonder of the world as Albert Einstein once put it, compounding from a small base doesn’t really place one in the Forbes list of the richest folks in the country.

Warren Buffett’s path is well known as to how he came to accumulate enough capital. Charlie Munger on the other hand isn’t that well known. For me at least it was a surprise to learn that Charlie made his first Million in real estate deals.

Compared to Warren, Charlie comes off as a risk taker. His real estate deals as well as a couple of stock acquisitions were leveraged to some extent. Of course, his bigger risks were career related, taken at a time when he had a large and growing family.

While much of the talk is about the folksy way with which the two went to town acquiring good business at reasonable prices, this book and the one I read before – Capital Allocation: The Financials of a New England Textile Mill 1955 – 1985 showcases that it wasn’t such straight forward, especially in the early days. They were able to acquire good companies but were going through their own difficulties.

The biggest advantage Munger and Buffett had during their early years was the fact that they matured during a period when the market went nowhere for a decade and more, providing them not just the opportunities but also showcasing the advantage of patience.

Today with blank check companies raising billions, the edge has receded a lot for anyone who wants to follow a similar path. While we may never be able to replicate the path the pioneers take, reading provides a framework of what can be applied to areas that are different and yet similar to Value Investing.

If you are a fan of Munger and wish to read more about his life and family, this is a book for you, else one can give this a pass.

An extraordinary year has come to a close

An extraordinary year has come to a close. The gains for the year is nothing close to the best years and yet, this has been a landmark year for investors. While one remembers years like 2017 or even 2014, this year was way way special.

Look at the following chart for example. It plots the average number of securities that were trading above their 200 day EMA by the year. 2021 beats every year save for 2005.

Only 2005 comes close to matching it. This is not calculated just at the end of year but basically the average for every day through the year. This isn’t surprising since the number stayed above 90 for quite a while and never went below 80 most of the time. We have ended the year at 67%, so in a way, we have closed at the lowest point for the year.

The chart below plots the number of instances where the Sensex hit a new all time high.

While at 88, this is lower than in 2014, this is the 5th year we have been in high positive territory.

When one looks at the maximum drawdown we saw in the year, its reflective of the trend of little volatility we saw during the year.

Since the financial crisis and the Federal Reserve intervention, yearly drawdowns greater than 20% have been rare with only 2011 and 2020 seeing one.

It’s also showcased in the chart below which plots how many days Nifty 50 spent with a drawdown greater than 5%

Only in 2014 and 2017 have we seen the Index stay close to it’s high of the year.

Breadth is an important barometer when judging the quality of a bull market. Greater the participation, the better is its ability to hold the line. One way to look at breadth is to measure the % of stocks that have a one year return greater than Nifty 50

In August of this year, this was at the highs – 75% of stocks having delivered One year returns > Nifty 50. Something we last saw in 2005 and later in 2010.

Mutual Fund Inflows have been good but not record breaking. If one removes the contribution of SIP, the actual amount actually goes to negative.

Do note that 2021 data is only till November 2021

FIIs have been consistent sellers though this data doesn’t include their investments in new issues and hence overstated.

Purely by absolutes, this is the most selling we have seen since 2008. What is also interesting is that their share in NSE listed universe of stocks is lose to where it was in 2006 / 07/

The biggest change one has seen since Covid both here in India as well as elsewhere is the large participation by Retail Investors. While this data doesn’t go back as much as one would love to look at, it shows quite a spurt compared to the last year markets were exceedingly bullish – 2017

This is also supported by the number of new Demat Accounts that have been opened. The stock price of CDSL shot up 180% reflecting the growth in the year.

Be it Stocks, Real Estate, Commodities, Crypto, NFT or any other asset class, money is being made like in no other time. Much of it of course has to do with the continuous pumping of money by the Federal Reserve and one that is chasing down every rabbit hole.

Look at the data of expansion of Monetary Supply in the US. While one can argue that 2020’s expansion was much required, the fact is that 2021 has seen an expansion that we had not seen since 1972 (2020 being the exception).

This has also meant strong growth rates.

Which inturn is fuelling inflation world over.

The bears have for long been fascinated with hyperinflation due to the continuous print of money. While we may not see hyperinflation, the probability of seeing consistently high inflation cannot be easily ruled out.

A high inflation in itself doesn’t cause equities to crash. Between 1972 to 1980, Inflation in the US moved from 3% to 13%. Dow on the other hand continued to trade in the range bound fashion it had been since 1965.

Relative to history, most markets are seriously expensive but again, markets don’t crash because it’s expensive.

For whatever reason, I am reminded of this scene from the movie Titanic.

Everyone is happy. Captain is smiling all around as he orders for the ship to accelerate at full speed. The workers (think of them as the Fed) are relied on to work harder and push more coal to maximize. Even the Dolphins appear to be delightful and happy.

A look back at my Prediction for 2021

In December 2020, I posted a chart which tried to plot how Nifty may move through the year. While not a believer in prediction, I have been working on whether there is some logic to the thought that markets move in cycles and if cycles are repeating, can we know how the future pans out.

My own asset allocation mix is based on my top down analysis of the market and hence this fits my own biases perfectly.

“People can foresee the future only when it coincides with their own wishes.”
— George Orwell, British writer

The year end predictions for Nifty were 16,155, 16,342 and 22,257. Nifty closed the year at 17,354 – a bit off my mark but till August was actually snaking around one of the prediction lines. Beginners Luck I would say.

For the coming year, I am introducing a 4th Model. I am also plotting a consolidated model. Overall, the insight (which should be taken with a bag of Salt) seems to suggest that markets could continue to rise in the coming year as well, though the odds of a spectacular year are on the lower side.

As long as Nifty doesn’t do the inverse of these charts, I think most of us should be happy. The risk of a deep fall appears low at the moment but given how much our markets mirror the US markets, one needs to observe that market vs ours.

Wishing you a very happy and prosperous year.

Choices, Noise & Investing

Finance is simple. Try to earn more than what you need to spend, save the difference as best as you can. That is what my Parents and their Parents before did. They earned, they saved a bit and invested into assets they were comfortable with.

I have never been to the United States, but I have read much about the choices available to a customer. A quote that got my attention,

A typical Costco store stocks 4,000 types of items, including, say, just four toothpaste brands, while a Wal-Mart typically stocks more than 100,000 types of items and may carry 60 sizes and brands of toothpaste.

Four vs Sixty. There is not even a sense of comparison on what is easy to pick and select. When it comes to finance, from the US to India, it’s moving closer to what we see with Walmart. In 2020 alone, the US saw 318 new ETFs being launched. In the first 7 months of this year we have seen 221 new ETF’s being introduced.

There is a plethora of Blogs, Podcasts, Youtube Interviews, Clubhouse Discussions, Substack that constantly pump out information – way more information that what we need or desire maybe. Choice is good to an extent after which it starts to actually hurt. More choices basically means more options which generally tends to create more confusion. Oh, I left out Television and Pink Papers.

Opinion Makers are dime a dozen. On Twitter, one interesting observation has been that those who tweet a lot get a lot more followers. This even though they may not even have a track record of their own. On the other hand we have Fund Managers and CEOs who have much lower followership.

Noise makes us question our beliefs. From April of last year, the best way for most investors would be to just be invested. But data – the one from Mutual Funds shows otherwise. From April 2020 to June 2021, investors have actually pulled out money and this after accounting for the huge inflow that SIP’s bring in every month.

Some actions may be due to need but the majority is mostly money that was scared out by the constant humming of those who feel that markets are ripe for a meltdown. After seeing one as recently as March 2020, it’s not surprising that those sitting on the edges would want to get out as soon as they saw some recovery from the bottom.

This is not to say that markets may not fall, that they shall fall is guaranteed. But the constant refrain of crash and the accompanying loss of one’s net worth impacts a great deal on one’s ability to handle the smallest of drawdowns.

On the other hand, because I am bullish, continuously pushing that narrative is wrong too for that sets the wrong expectations. The last year has seen a surge of new investors. In markets, these investors have been rewarded plenty.

Investing Now

Does it make sense to add money at the current juncture was a question I received from a subscriber. My standard reply has always been – it doesn’t matter when you invest, the first year of investment is when the risk is at the highest.

Markets since 1986 (when the Sensex started) have closed in positive one year ahead 70% of the time. This is the drift that has meant that a long term investor has a very low chance of losing.

This is not unique to India either. For the same time period, the FTSE Index and the German Dax had a positive return 68% of the time. S&P 500 has an even better record – positive 80% of the time. Since its own inception though, this falls to 74% of the time.

The only exception of course remains the Nikkei. Since 1950, the one year positive return percentage is around 65% and this falls to 55% if you were to start from 1986.

Longer the time period, greater the probability that you shall be positive. For most prominent indices, being invested for 15 years or more has more or less guaranteed positive returns (exceptions being the Dow due to the Great Depression and of course Nikkei).

The chart below from the book Stocks for the Long Run showcases how both risk and return from 10 year onwards to 30 year is similar.

In April, the one year return for Nifty 50 was 84%. Let me show the rolling one year return to see the previous instances have had such insane returns in such a short period of time.

From 1992 onwards, we had multiple times when we had a one year return > 80%. The next one year returns on an average was negative 8.41%. But if I move the starting point to post 2000, the average return has been positive 11%.

When experts provide data, do note that it’s easy to mess around the same to meet the objectives or the viewpoints of the said expert. If I intend to promote why markets would remain bullish, just using data from 2001 onwards (20 years is long enough, right) suffices.

In the long run, Nifty 50 has given a return of around 12% and going into the future, we should not expect any difference.

If one were to invest today, the expectation has to be low. But one should invest in my opinion for there is no guarantee of an opportunity that can arise and one that can be taken advantage of. Waiting for a correction is good in theory but mostly bad when it comes to practice.

In March 2020, when Indices were down 40% from the peaks reached in January, the inflow into Mutual Funds was the same as in February when we had no worries with respect to Corona. In April, when the same opportunity was available with more clarity, Mutual Fund investments actually fell by half (vs the previous month).

Invest when there is blood in the streets, says Warren Buffett, but most of the time the blood is our own and even if we have the money to invest, we don’t have the courage. What this means is that we should invest when we are comfortable to invest rather than waiting for the best opportunity to come by.

If you don’t have the courage to invest a lump sum, split it into monthly SIP’s but do invest for even though Lump sum may be a better way vs SIP, both are better than staying put waiting for a crash to happen.

Charts and Thoughts on the Current Market Scenario

It’s been more than a year and Coronavirus is still impacting our lives everyday. Mumbai where the maximum number of cases have been seen is implementing a Night Lockdown. Madhya Pradesh is implementing lockdown on Sunday’s. Punjab and Rajasthan are the other states implementing night lockdown (though I do wonder if there is any scientific evidence to back this strategy as being better than doing nothing).

This along with the volatility we have seen in the markets over the last few days has meant that there is a perceptible fear of a repeat of March 2020. I still sense that we will not see lightning strike twice at the same place though I have been wrong earlier and could very well be wrong now too.

So, rather than just speculating on what could happen, I felt a better way would be to look at some charts and compare and contrast the same to February end to see if we are in similar territory.

First is Nifty 50. Here is a chart that compares how it was at the beginning of March 2020 vs today

The black line represents the 200 day moving average. While it broke at the end of February 2020, today we are way above it. While this doesn’t mean that the markets cannot fall, the probability of markets becoming bearish big time from here is rare. Bad things generally happen below the 200 day EMA though as usual, there are exceptions to the rule. In January 2008, Nifty 50 was trading 31% above its 200 day EMA when the fall started and within a couple of weeks we had a drawdown of 30% from the peak’s. Today, Nifty is 15% above its 200 day EMA (it was 30% in January of this year)

This bull market has been such that for months now, Nifty had not broken the previous month’s low (even intra-day) since October 2020. This was broken last week when February’s low was finally taken out. Not much of a negative signal though it does show that the trend is not as strong as it was in the last few months.

Volatility

India VIX refuses to rise for now and thus signalling that traders aren’t expecting a big move on the negative side (it’s implication is always the negative side). A cause for concern would be if India Vix crosses the 30 mark.

Volume Demand vs Supply

In line with market weakness, we have seen that aggressive buying has dropped off. We saw a similar trend back in September as the market seemed to weaken off before it resumed its journey.

Safe Assets performance (vs Risky Assets)

When there is an overall fear scenario, money tends to move towards safety – be it Gold or Bonds and hence they tend to perform relatively better vs the markets.

Ratio Plot of Gold Bees vs Nifty Bees seems to suggest no such move for now. I have marked a vertical line to show where this ratio was at the end of February 2020

India 10 Year Bond Yields aren’t trending down as it was for a long time now but is not trending higher either. Hopefully this means that the markets aren’t expecting a big rise in Inflation (which could be negative for the markets)

Breadth Indicators

The strongest feeling that not everything is bad is being given out by a few breadth indicators I follow.

The percentage of stocks above their 200 day average has slightly tapered off from the highs we saw earlier this year but still going pretty strong even though Indices like Nifty Smallcap 100 are yet to reach the highs they reached in January 2018

In a kind of a conundrum, the percentage of stocks that have positive momentum is still pretty much close to its peaks. I say conundrum since the above chart seems to showcase a bit of weakness. This could be explained by the fact that many a time, the 200 day is not broken because the stock has fallen substantially but because the average is lagging, it has caught up with the price and even a small fall can mean a break below it

Another indicator I have started tracking recently is the percentage of stocks whose 1 year trailing returns are higher than Nifty 50. The reason to follow this is to gauge whether the market is bullish owing to a few heavy weights moving it around or there is general bullishness around. While we aren’t close to where we were when the 2014 bull market started, the trend seems to be bullish for now.

Maybe due to new margin rules kicking in or maybe due to other exogenous factors, Nifty has opened this month with one of the lowest open interest since September of last year. While I wish to draw no conclusions, this seems to be generally not a great sign for bears.

Based on my understanding of the data and the overall scenario I am painting as to how the markets may behave in the forthcoming months and years, I continue to remain bullish and hence these charts and the analysis may be tainted to that extent.

Finally, Since 2012, Nifty has been trending in the same manner as S&P 500 even though we have had divergences along the way. As long as S&P 500 is trending higher, we should hence be safe from seeing a large fall which has been historically rare (I will need to go back to 2004 and the fall of the NDA government to find such an instance).

Portfolio Yoga is a SEBI registered research advisory and nothing in this post or elsewhere on the site should be constructed as Buy or Sell recommendations.

It’s a Mad, Mad, Mad, Mad World

Not a day goes by these days without someone commenting that the market is ripe for a correction. After all, the economy as we see it through our eyes is worse than at any point we have come across in the past and yet the stock market is rocking. It’s a conundrum that is confusing the best of investors.

The Nifty 50 PE ratio which is seen as more representative than the BSE Sensex PE ratio is now at an all time high. The Sensex PE Ratio while not at an all time is currently around the same level where we saw it in January 2008. But the consensus that one comes across seems to suggest that looking at PE ratio is faulty since the drop in earnings which has subsequently boosted the Price to Earning Ratio is a one off due to the compulsory closure of much of the country in Quarter 1 of 2020. The impact of this quarter’s damage will get wiped out in years time, but the question is where will the Indices be by that juncture.

This dichotomy between stock markets and the economy is not being seen only in India. In fact, S&P 500 – the barometer stock index in the United States made a new high this week. This while even the US is suffering immensely from the damage caused by Covid. This from a New York time post

“The Federal Reserve Bank of New York’s weekly economic index suggests that the economy, although off its low point a few months ago, is still more deeply depressed than it was at any point during the recession that followed the 2008 financial crisis.”

While Robinhooders, the moniker attached to small retail investors who trade through the RobinHood Application has been blamed for exacerbating the relentless rise, the fact remains that we, the small retail investors are generally the weak hands. Yes, once in a while we get it right while the highly paid Institutions get it wrong, but for most of the time it’s the opposite.

Since November 2013, we have seen just 3 months where Net Equity Inflow was negative for Mutual Funds. The first was in March 2014, next came in March 2016. June 2016 was another negative month but could be ignored given that outflow was just 45 Crores. The last outflow has come in the last month – July 2020.

The question that needs to be asked is if smart retail is turning out to be ahead of the crowd. The reason for using the smart prefix is because even in July, we saw Inflows of 14 thousand Crores. It’s just that more money was withdrawn resulting in Net negative for the month.

Between the months of January 2008 to March 2008, Mutual funds saw an inflow of around 24000 Crores. Rest of the year basically was flat even though markets kept getting cheaper. In fact, the biggest outflow for 2008 was in October when markets hit its lowest level. On the other hand, when markets recovered, retail started to sell back with total net outflows between September 2009 to October 2010 being to the tune of 24000 Crores. Nifty though did not waver much as it continued its upward journey.

Nifty has been on a major uptrend since 2009 and yet for anyone who has been invested for the last 7 years, returns have been suboptimal leading one to wonder that with all the problems that surround us, are we better off with a lower exposure today than before.

The question hence is where we do go from here. I wish I knew the answer. On one hand there have been serious reports suggesting that we may be on the cusp of a new bull run. While it may not be to the tune of the 6x Nifty saw between 2003 to 2008, even a doubler in next few years may be much more than what many seem to be anticipating at the current juncture.

On the other hand, there is the economy and all the dire calls about how the ballooning of the Federal Balance Sheet means that we don’t have as many bullets as we had earlier. But this has been heard of before. A perma bear in the US projected in 2011 a best case upside of 3.4% for S&P 500 and worst case being negative returns. The reality turned out to be a CAGR of nearly 14%.

Having said that, even a broken clock can be right twice a day and it’s possible that markets may have found a new peak from where the only path is downwards. To get a better estimate other than valuations, I have been working on what I call “Weight of Evidence” Indicator. Basically it’s a Indicator build using a combo of Trend, Breadth and Sentiment Indicators. The Indicator as of now moves between the range of -7 to +7 and currently stands at 5.

What is interesting is the future returns when the Indicator is at a certain level. We moved to +5 this week. In March of this year, it was -5. The table below outlines the average one year return and the number of times the indicator has reached those levels (Weekly data points, Time frame being 2005 to 2020).

Not surprisingly we can see that when the Indicator is extremely negative (-5 to -7), the future returns are strongly positive. But markets have been there for only 7% of the time. On the other hand, the next best set of returns are when the Indicator is between 4 and 5. Basically while on the negative side, Markets are mean reverting, on the positive side it seems that momentum begets momentum.

Of course, as the data also shows, this indicator has its fair share of failures. When it has reached 5, only 75% of the time has the market been positive at the end of year 1 from that date while 25% of the time it has ended in losses.

One of the things I have learnt in my years in the market is that the upside generally is a surprise even to the most bullish analyst. Buying when blood is on the streets is a great philosophy, but as even Buffett actions recently showcased, it’s not easy to buy especially when the cost of failure can be very high. Buying when the coast is more clear could be a better strategy for those who missed out on the earlier opportunities.

Prediction for 2023

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Risk Tolerance & Asset Allocation

Why this dichotomy between the decision to sell and buy?

Book Review: Damn Right!: Behind the Scenes with Berkshire Hathaway Billionaire Charlie Munger

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A look back at my Prediction for 2021

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