Complex times call for simple investment strategy

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The second wave of the pandemic, though expected, has come too soon with frightening speed. The caseload has already put the health care system under severe stress. We are going through a major health crisis, the consequences of which are presently difficult to fathom. Decision-making under conditions of high uncertainty is a herculean task.

But, the situation is not as bad as it was during last year when the pandemic broke out and nation-wide lockdowns were declared. Last year the whole world was in unchartered territory without a clue about how the pandemic will pan out. Now, in spite of the second wave, and the third wave in many countries, we have clarity on the end game since we have vaccines. The challenge is in scaling up the vaccination.

The virus has won many battles, but vaccinations will win the war

Recently, Dr. Anthony Fauci, the highly respected immunologist and advisor to seven US presidents, while talking on the pandemic said: “This is not going to last forever. Scaling up the vaccination is the only solution.” This appears to be the perception of the market too. The panic and crash of March 2020 was a rational response to the ‘unknown unknown’. The subsequent market rally has been a rational response to the ‘known unknown.’ There is reason to believe that the vaccine will win this war even though the virus has won many battles inflicting huge sufferings.

Global economy is bouncing back

From the economic and market perspective, the good news is that the global economy is bouncing back sharply, led by the US and China.  Latest macro data on jobless claims and retail sales in the US indicate a sharp recovery. US is likely to clock a growth rate of 6 percent in 2021 and China is set to achieve a growth rate of 9 percent. This impressive expected growth in the two giant economies augur well for the rest of the world. Vaccine-powered recovery in Europe and emerging markets is a clear possibility at this juncture. Normalization of economic activity in the second half of this year and global GDP growth of 6 percent in 2021 is a distinct possibility. Stock markets, globally, are discounting this expected favorable outcome.

India’s GDP, corporate earnings estimates will fall short

India’s GDP is estimated to have contracted by 8 percent in FY21. Nifty EPS is likely to be around 520 for FY21. Before the second wave of the pandemic, the market consensus was GDP growth of above 11 percent and Nifty earnings growth of above 30 percent for FY22. In the current context of explosive growth in infections and ever increasing restrictions on economic activity, these targets are unlikely to be achieved. What will be the hit on growth and earnings will depend on the degree and duration of the lockdowns and restrictions. Now, there is no clarity on this. However, since lockdowns are localized and businesses have learned to adjust to the new normal, the hit on the economy will be marginal. GDP growth is likely to be 10 percent and earnings growth around 30 percent.

Follow a simple investment strategy

In these complex times, investment strategy should be simple. Markets, globally, appear strong and resilient. Since liquidity will continue to be abundant and interest rates will remain abysmally low for an extended period of time, markets are likely to remain resilient. The major threat to the market is likely to come from a sudden spurt in inflation and the Fed abandoning its highly accommodative stance. But this appears unlikely in the short-term. So, it makes sense to remain invested in equity.

However, since uncertainty is high, it would be wise to move some profits from equity to fixed income even though fixed income returns are low.

Around 80 percent of India’s corporate profits come from the top 20 companies. Most of these bluechips in Financial services, IT, Oil & Gas, Telecom, FMCG and capital goods will continue to do well.  So it makes sense to remain invested in them. But since valuations are high, the broader market is likely to outperform, going forward. But identifying potential bluechips from mid-small-caps is difficult. An ideal strategy would be to invest in mid-small-caps through SIPs in mutual funds.

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