Sensex 100,000: Nearly Two Centuries of Data to Back Our Prediction

Two weeks ago, I wrote here in The 5 Minute WrapUp about my biggest takeaways from Warren Buffett's latest letter to his Berkshire Hathaway shareholders.

I told you to be prepared to face a 50% drop in the value of your portfolio in this decade.

Now, I'm sure if you've been following my colleague Tanushree Banerjee's writings, she's been cautioning readers about a potential 30% crash in the markets.

Add to that our house view that the Sensex could hit 100,000 levels by 2028.

If you find this mix of bearish and bullish predictions perplexing, I can totally understand.

So, what I'm going to do today is decode the underlying meaning behind each of these predictions.

Let's get started with my 50% crash alert...

50% Drop in the Value of Your Portfolio This Decade?

When I was studying Buffett's latest letter to his shareholders, I found out that the share price of Berkshire Hathaway had crashed nearly 50%, on average, once every decade since the 1970s.

It crashed 59.1% in the mid-1970s...

37.1% in the late-1980s...

48.9% in the late-1990s...

And 50.7% during the 2008-09 global financial crisis.

It's been almost a decade since the global financial crisis broke out. And there has been no major crash since then. Does that mean a major market crash could be on the horizon? Could it be this year, or sometime during the next couple of years?

Honestly, I don't know.

My intention is not to scare or alarm you. On the contrary, I want to prepare you mentally for such an eventuality.

Remember that despite each of these crashes, Berkshire Hathaway has grown and multiplied shareholder wealth by leaps and bounds. Between 1965 and 2017, the per share value of Berkshire Hathaway compounded at 20.9% annually, taking the overall gains to 2,404,748%.

Tanushree's 30% Market Crash Alert...

Moving on to Tanushree's 30% crash warning...

Will there be a 30% crash in the Sensex, taking the benchmark index to 25,000 levels?

In an editorial that Tanushree penned last month, she showed one very compelling chart depicting the maximum intra-year declines in the Nifty 50 index (see here) going all the way back to 1991. Her study revealed some truly great insights.

For instance, during the 21 years from 1991 to 2011, the Nifty witnessed 13 intra-year declines of more than 20%.

But since 2011, the year when the Nifty witnessed an intra-year drop of 26%, the Nifty has not seen a single correction exceeding 20%.

In fact, in 2017, the maximum intra-year correction was 4%. That's the lowest in 27 years.

The law of averages strongly seems to suggest that a 30% correction could be in the offing. Like I said earlier, it's impossible to predict whether it will be this year or in the next couple of years. But there is a possibility. And you must be prepared.

The Mystery of Sensex 100,000 and Beyond

Now, having shown you the rationale behind our crash alerts, let's move on to the most important point that Tanushree and I have been making.

And this is something you should be thinking about more than the potential crashes.

Despite all the volatility and periodic crashes, equities are still one of the most rewarding and safe asset classes.

These are no empty claims. I have nearly two centuries of data to prove my point.

In October 2017, I participated in a two-day intensive course called A Practical History of Financial Markets by a team of renowned investment practitioners including financial historian Russell Napier.

The chart below was one of the biggest takeaways for me.

Equities Offer Stability and High Returns over the Long Run

Look at the chart carefully.

It shows average annual real returns on a 30-year rolling basis from 1831 to 2011 for three asset classes - equities, bonds and cash (short-term money market instruments).

In simple words, every point on the chart tells what the average annual returns would look like if investors had held an asset for 30 years.

The red line shows equity returns, the green line shows bond returns, and the blue line shows cash returns.

The red line is consistently the clear winner over almost two centuries.

So, equities not only deliver the best returns over longer time horizons, but are also among the most stable asset classes. Isn't it interesting that an asset class that tends to be so volatile in the short-term can be so stable over longer time periods?

And this is precisely the reason why Tanushree talks about Sensex 100,000. Her underlying mission is to take you away from the near-term noise and chaos, and show you what compounding magic equities can do over the long run.

To sum it up, I'll repeat what I said last time.

There will be dips and crashes from time to time. You cannot time them. You cannot avoid them.

There could be a 30% market crash... or there could be a 50% crash.

It could last a few months... or a couple of years.

But looking at the history of equity returns, I can tell you that this would be just a passing correction phase.

Instead of focusing excessively on the price action, set your attention to the long-term value unlocking potential of the underlying assets.

Chart of the Day

So, having established that equities offer not just high returns, but also stability, I want to drive home another important point.

You can't buy just any stock, forget it for 30 years, and expect the compounding magic to build wealth for you.

The quality of the stocks that you pick is very important.

Look at this chart...

One Private Bank Trounces All Public-Sector Banks

The market capitalisation of private sector lender HDFC Bank now exceeds the market capitalisation of all public-sector banks combined.

Remember, value investing is not about simply accumulating stocks that have a cheap price tag. In fact, 18 of the 21 listed public-sector banks are trading below their net worth.

But does it mean you simply go and buy them all?

In an editorial last month, Tanushree compared the 5-year performance of public-sector bank stocks vis-a-vis the Sensex and explained how public-sector banks are perfect examples of value traps.

Public-sector bank stocks seemed inexpensive even five years ago. Here's Tanushree:

• While their bad loans struggle has been going on since a decade, there are other issues that have recently cropped up adding to their pile of misery. Bureaucracy and a lack of autonomy have ensured the sub-optimal profitability and asset quality of these state-run banks.
  
  That's the reason we've been wary of PSU banks since 2014. This was well before the market had caught a whiff of the NPA problem. We've recommended just two large PSU banks in StockSelect since then...and already successfully closed both of them.

Regards,


Ankit Shah (Research Analyst)

PS: You don't need to take unnecessary risks to make solid double or triple digit gains in the stock market. Tanushree's premium report recommending the top 5 safe stocks has the answer. Get it here...