Every market downturn offers an opportunity; invest in a staggered way

For quite some time now, Indian markets have been considered as being among the most expensive among the top 20 global markets, with the Nifty even clocking a 75 per cent premium to the emerging markets (Ems). However, the recent sharp fall has resulted in correction of 79 per cent stocks by over 50 per cent, and we now stand at significant undervaluation. This means sticky price-to-earnings (P/E) has been washed away, in probably what can be deemed as the fastest decline in valuations, from near 25x trailing twelve months (TTM) to sub-17.5x. With FY20E earnings per share (EPS) at 520, we currently stand at P/E levels of 16x, on TTM basis.  

Historically, we have seen that returns are significantly higher when markets are below 17.5x. Therefore, I continue to believe that one must deploy their capital in a staggered fashion as the long-term looks promising.

However, there are few moving factors to consider.

The first factor quite obviously is the root cause of the current crisis i.e., Coronavirus (Covid-19) pandemic. At this point, this medical crisis, appears to be deepening every passing day. All major countries are suffering from the pandemic with new patient rates compounding at more than 10 per cent per day. We are lagging on recoveries, with increase in mortality rate. Governments across the world are responding with lockdowns, which in turn is critically impacting economic activity. It will be some time before we see this crisis pass us by.

Our hypothesis is that daily recovery numbers need to overshoot daily new cases for at least 15 days for the markets to take a cue from this pandemic peaking out. This has not happened yet. The average of incremental recoveries over the last 10 days in comparison to incremental cases added, is just about 15 per cent. This number needs to be over 50 per cent at least.

Second is the repercussion of the cause – the nationwide lockdown. India’s monthly GDP is about Rs 17 trillion. On weighted average basis, not more than 55 per cent of the economy is functional. This means we will lose at least Rs 7 trillion worth of output in a 30-day lockdown. There is a pressing need for us to tackle this via a stimulus package. The fiscal package announced for the poor is a step in the right direction, but is far from being enough. In a crisis, forbearance on fiscal deficit and setting aside of FRBM act is a critical step. We believe that a fiscal package of at least Rs 5 trillion, or 4 per cent of GDP, is needed.  The monetary policy announced on March 27, has fulfilled some of our wish list.

The targeted long-term repo operations (TLTROs), that to be deployed in investible grade corporate bonds and mutual funds at Held to Maturity (HTM), is a brilliant step and not just for this crisis. This has been a much-needed step to provide credit comfort to troubled corporates, as well as middle class borrowers. We believe this should be a starter to ease off the elevated risk premium, as seen in high credit spreads, and to push down the yield curve.

Overall, the total liquidity injection of Rs 3.7 trillion will play out positively. There will be a final need for the Reserve Bank of India (RBI) to monetise government deficit, either in the primary or secondary markets, to pump up money supply. A comprehensive fiscal package added to the above, could at least answer India’s short-term economic challenges arising out of the Covid-19 pandemic.  

Every market downturn offers an opportunity and I continue to be overweight on equity. Instead of focusing on markets bottoming, I suggest the deploying investible capital, in a staggered fashion – let’s say about 5 per cent to 30 per cent every week. This would be a good strategy at this point. Stick to high quality and large-cap companies that have been beaten down. Sectors like banks, non-bank finance companies (NBFCs), consumer durables and non-durable players, would all make interesting bets. I firmly believe that the turnaround, when it happens, will be strong and sustainable. With governments across the globe taking strong proactive steps, it’s a matter of time before markets stabilise.

======================================

Vinay Khattar is head of research at Edelweiss Wealth Management. Views are his own.