Investing Alert: This Market Is Not for the Faint-Hearted

2017 was a dream bull run for stock market investors.

2018 was a bad dream, particularly for small and mid-cap investors.

Where is 2019 leading us?

The Sensex has been relatively buoyant in light of the change of hawkish stance of the Indian as well as the US central bank.

But for the broader markets, the ride has been far from encouraging. The new year is sparing neither 'A' group companies nor the biggest names in India Inc.

On 25 January, the share prices of Essel Group companies were severely battered after a Wire report alleged links between the Essel Group and a company being probed for suspect demonetisation deposits. The flagship firm Zee Entertainment crashed 33% intra-day, before closing the session 25% lower.

Last Monday, Anil Ambani-led Reliance Communications witnessed an intra-day crash of 48% (before closing 35% lower) after the company filed for bankruptcy. But the bloodbath was not limited to this stock alone, but to other Anil Dhirubhai Ambani Group (ADAG) companies as well - Reliance Capital, Reliance Power, and Reliance Infrastructure.

Then on Friday, the share price of Tata Motors crashed almost 30% to hit an intra-day low of Rs 129, before ending the day 18% lower. The trigger for the heavy sell-off was the reported net loss of nearly Rs 27,000 crore for the quarter ended December 2018 on account of the slowdown in China.

There are many more such stories...

I believe you get the gist. This market is not for the faint-hearted.

To top it, there's the uncertainty about the upcoming Lok Sabha elections. There's the NBFC mess. There are concerns about the fiscal deficit. At the global level, there's the looming threat of escalating trade wars and economic slowdown.

These adverse developments have certainly dented the confidence of many investors. Many investors who joined the bull run towards the end of 2017 or early 2018 have been the worst hit.

A few days ago, I was having a casual chat with one of my neighbours, and soon the conversation veered towards the markets. He was quick to express his frustration and confusion about the stock markets.

• My stock portfolio is down significantly in the last one year...more than 30% I think. Some individual stocks are down even more. With so many big group companies and blue-chip names crashing, I don't know whom to trust.
  
  I'm very confused. I don't know what to do. Should I buy more and bring down my average cost lower? Or should I simply bite the bullet and sell all my loss-making positions? Who knows, they might fall even further.
  
  Should I avoid making fresh investments in equities till things get better?

I'm sure many of you can relate to his predicament and share the same nagging doubts and questions. Here are some tips and insights to tide through such challenging market conditions...

1. Remember that you're not the only one. Most investors are seeing their stock portfolios in the red. In fact, some of the most popular and savvy investors and fund managers have been humbled by the ruthlessness of the markets. (Read: Shocking! Small-Cap Czar Admits Mistake After 80% Stock Plunge).
   
   

   In fact, even legendary investor Warren Buffett hasn't been spared from the mood swings of Mr Market. On an average, Berkshire Hathaway's share price has crashed nearly 50% in every decade since the 1970s. (Read: The Top 4 Berkshire Hathaway Share Price Crashes).

   And despite these crashes, Buffett managed to create phenomenal wealth for his shareholders.

   That brings us to the next important insight...

2. It is not market conditions that determine your long-term fortunes, but how you respond to them. You see, the very nature of the markets is cyclical and non-linear. Some years will bring you phenomenal gains. Some years will be just average. And some years will be painful. You cannot know in advance what will happen when. A bull market in 2017 was no guarantee that the same would continue the next year.
   
   

   Bull markets will be followed by bear markets. And bear markets will eventually sow the seeds of future bull markets. And the cycle will continue.

   As a long-term investor, you've got to sail through the ups and downs. You cannot expect to make money every single year. What you need to do rather is to ensure that the good years more than compensate for the bad ones, and the bad ones are not so bad that they substantially wipe out your capital.

3. Investing is a blend of art and science. You cannot predict the future prospects of a company with the accuracy with which you can predict the movement of planets.
   
   

   When you identify a stock based on its fundamentals, you're making projections based on the knowledge and information you have about the business and the environment in which it operates.

   But both the company and the environment are highly complex, dynamic systems. There are so many moving variables that can change the future course of events.

   As such, investing is never a one-time decision making process. You don't pick a stock and forget about it.

   Investing is always a work-in-progress. And it's important to track the changing fundamentals and business landscape to be on top of the game.

That was just a broad gist of how to approach challenging market conditions. In my upcoming Insider newsletter, I'll offer more specific tips and insights to evaluate and build a winning stock portfolio during tough times.

Chart of the Day

While the Sensex is below its all-time high level of August 2018, it is still above the level it traded a year ago.

Increase the time frame to five years, and you realise that the Sensex has gained about 73%, compounding at an annual rate of 11.6% (excluding dividends). Not very impressive, but not bad either, especially after a year like 2018.

I thought it would be interesting to see how the valuation of the index has moved over the last five years.

Here's how the Sensex price to earnings ratio has moved over the last five years...

The Sensex Is Far from a Bargain Yet

As you can see, the Sensex price to earnings ratio has mostly been in a rising trend over the last five years, except some intermittent declines.

So, looking at the Sensex valuations, the markets don't appear attractively priced right now. But as I've mentioned time and again, the Sensex tells a very a selective, skewed story of just the 30 largest companies.

It does not reflect the conditions of the broader markets, which have witnessed quite a tumultuous ride. Consequently, the rest of the markets also have more attractive buying opportunities than the Sensex companies.

Happy Investing,


Ankit Shah (Research Analyst)
Editor, Equitymaster Insider

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