Last few months have kept all of us busy; hence lesser writing on my part. Naturally, things have been busy with a lot of buying and selling across all sorts of trade-able and investment grade instruments. Market activity is very different from how it was 2-3 years back. There is new breed of investors, many of whom are doing wonderfully well.

It is true that clients who invested back then (in 2014 – 15) are sitting on unbelievable returns. That said, those who started about a year back have made more money if you average it out over the past 3 years.

The beauty of buying stocks is to be able to buy them cheap. Right now, nothing is cheap.

Rightly then, over the last few months this one questions has regularly popped up for investment advisors – is it a good time to buy stocks? Followed by – Should I sell? Of course, it’s hard to predict when cycles turn and for how long do they run. One thing that is certain is that irrespective of how strongly you may believe that things are extremely overvalued, no one wants to the first to sell, no one wants to miss out this mad liquidity rush and to benefit from the advent of the new breed of investor who have changed the valuation game.

What’s going for the market – Liquidity, just too much of it. So much so that some of the fund managers I know are worried about underperforming for not buying stocks. After all, if you had any amount of cash in your portfolio for about the past 1 year or so, chances are you have not been able to beat the index, let alone generate higher returns.

What’s going against the market – If you have studied valuations, here’s a question –

if you had all the money in the world, which businesses would you like to buy out at their current enterprise value to run as your own, and how much return do you expect to make on them in future? The point is, in most cases you will not earn back what you invest for many many years. This is over-valuation.

Of course if the earnings were to start improving massively going forward, things could look different but this looks unlikely at least for the next 3-6 months. That said, the high liquidity situation will continue in the short term going by the number of new investors jumping in the markets via the mutual fund route and the already high cash levels maintained by mutual funds.

 

I recently read at least one mutual fund house holding upto 20% cash in their equity funds. From their perspective, god forbid if the market keeps doing well, they are likely to see half their AUM moving to other funds.

Surely then, these are times when you have to be extremely careful with your portfolio. Here’s 2 things you should keep in mind when buying stocks in these markets:

1. Avoid Extreme Overvaluation Particularly for Companies Betting on Future Growth: Way too many stocks in financial services are factoring in unbelievable growth. IPOs trading at 5 times book are still hitting new highs, consumer lending companies are possibly hoping that the entire middle class will become home and car owners over the next 3-5 years. I guess, partly this has to do with the fact that the number of new bank accounts has grown phenomenally, for me the big highlight of Indusind’s Q1 numbers last week was that their number of savings bank account doubled in the last 1 year alone. At the other end of the spectrum, you have companies with established markets albeit facing some structural and regulatory issues. Take IT and Pharma stocks for that matter and given how much taxes our govt will collect on the back of everything that happened this year I may safely include Infrastructure to the list. After all, with deep coffers, some capex will revive over the next 3-5 years?

    

2. Differentiate Between Trading and Investing: First things first, if you are a ‘Value Investor’. go on a sabbatical or join the league Value investing bloggers but stay away from the market. There is no value here. If you are investing in growth, either buy stocks where growth can come back or possibly expand in future AND where the price is not factoring this. If you are going buy anything outside of this zone, then you’s rather just trade on a day-to-day, week-to-week basis. Be prepared to book your losses and get out when you think its time to get out. Don’t try to average the overvalued crap you buy.

About Author