Uncertain times offer attractive valuations.
The stock markets are passing through turbulent times. The euphoria and over-confidence witnessed just a year ago has vanished. There is pessimism all around. And, why not? The headlines have been uniformly negative. Domestic factors like political turmoil, corruption cases, gridlock in policy and international factors like the European sovereign debt crisis have cast a pall of gloom over investor sentiment.
Even the fundamentals of the market at a broader level have taken a turn for the worse. It has been reported that a sample of 2,100 companies have reported an average fall in profits of 35 per cent in the September quarter.
Some of the factors responsible for the fall in profits of the broader markets are:
- Borrowings in foreign currency, which are unhedged, leading to losses on account of rupee depreciation
- Rising interest costs on account of increasing interest rates for highly indebted companies
- Falling demand in interest rate sensitive sectors like real estate, automobiles, etc.
- Rising input costs in the form of raw material costs and wages
When overconfidence and optimism ruled, companies mindlessly went in for huge expansion and borrowed heavily. The markets cheered when companies issued foreign currency convertible bonds or announced borrowing plans. They were seen as the achievers who were there to grab every opportunity of the India growth story. It was a general belief that such times would be permanent.
On the other hand, there were managements who were conservative and in spite of the rosy forecasts, embraced the universal principles of business. They created resilient businesses and even in such a downturn, there are companies which showed profit growth last year. To name a few, we have Gujarat Gas (42 per cent), Petronet LNG (99 per cent), VST Industries (40 per cent), Noida Toll Bridge (16 per cent), Indraprastha Gas (16 per cent), IL&FS Investment Managers (8 per cent), Axis Bank (25 per cent), Bharat Electronics (20 per cent) and Crisil (64 per cent). Yes, most of these were not hot favourites or fancies of the market but they have not let their investors down. They are in the same environment but they understood their business and did the right things, rather than doing things right.
Our minds are tuned to physics; for every action there is a reaction. Thus, we are always looking at reasons for events happening. It is always in hindsight. However, let’s look forward. I believe India is one of the most exciting places to be in. Witness the amount of upheaval and change happening. Independent India has never witnessed turmoil of such magnitude in its history. Politicians and corporate leaders going to jail; it never happened in India. The Anna movement against corruption and people on the streets but no violence. Is it not fascinating to see the spirit and the discipline of our people? There is a paradigm shift in the way politicians and political parties have started thinking. Accountability to the people’s voice is growing. After 60 years of independence, we are experiencing real democracy, of the people, by the people and for the people. This is an idea whose time has come. A silent revolution is taking place and all these could be painful in the short run. A new generation of capitalists, thinkers, technocrats, entrepreneurs, politicians are replacing citadels of the old order.
Such times of uncertainty offer immense investment opportunities. Stock investment is akin to buying businesses. A business run by a good credible management and with characteristics which make its model viable and sustainable. These include low debt and high cash, strong brands, patents, distribution network, pricing power, high return on equity, predictable and easy to understand businesses. Such businesses need to be available at attractive valuations. The companies mentioned earlier, which have shown growth in profits in spite of the downturn fall in the category of such sustainable business models.
We concentrate too much on the macro and outside influences out of our control. Even I do not know when the present crisis will end or what will happen to Greece, Italy or the rupee. But I know one thing for sure, good businesses are available at attractive valuations. Only uncertain times offer such opportunities.
