Over the past few week, we have been asked by many partners whether “It is a good time give you more money?”

Short answer: Systematic Investing is a great idea as one always finds pockets of value.  We will be happy to accept top ups.  However, this is not the time to make a big splash.

Equity market returns are a function of Earnings growth, Dividends and Change in Valuation Multiple.   At the current juncture, broad based earnings growth is elusive even as the aggregate market multiple is much higher than long term average.  What this implies is that barring a scenario where broader market Earnings growth recovers very strongly, the aggregate market returns over the next few years will be muted as valuation multiples would trend lower over time towards long term averages

However, averages hide significant dispersions one sees across sectors – both in valuations and earnings growth.   To illustrate with some examples,  

a) Broadly speaking, Consumer discretionary is witnessing challenges on earnings growth even as valuations are very expensive.

b) There are other sectors where the outlook is distinctly foggy (Automotive, Telecom, NBFCs)

c) However, there are also pockets where there are clear signs of recovery of earnings growth (select Banks, Power Generation, select export themes ) even as valuations are reasonable

Hence, despite rich “aggregate market multiples”, an Active investor can build portfolios by

a) Concentrating it on a few themes where growth and valuations are both in favour, and

b) Taking smaller positions where valuations are in favour but short term growth lacks visibility or companies are facing temporary challenges  

You will observe this approach in your portfolio statements.

Partners must note that short term market movements are strongly influenced by sentiment, and hence, despite challenges to earnings, we will not be surprised if stock prices move higher.  The strong electoral mandate to PM Modi and the ability of the NDA to control the Rajya Sabha in 2021 provides the back drop to a narrative of the opportunity to complete pending reforms like the Land Acquisition, Labour reforms etc and for the RBI to initiate a rate cut.   These conditions could unleash “animal spirits”.  However, in the long term, stock prices track Earnings growth.  We will not chase euphoria but stay disciplined and act only when both narrative and numbers are in favour. 

We hence recommend at present that Partners

a) Always keep incremental 5 year horizons when they make incremental capital allocation decision in Equities – this allows Earnings growth to beat the fade of valuation multiple decline

b) Focus on pockets of value rather than look at market multiples

c) Be willing to take concentration risks to over-weight the portfolio in select themes and names

d) Where fully invested, top up gradually rather than get carried away by the current euphoria.