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Our top 5 picks after today's rate cut!

Jan 15, 2015

In this issue:
» Is the yellow metal gold losing its shine?
» The risk to Modi's Acche Din from an unexpected quarter
» The woes surrounding Dr Copper
» ...and more!

00:00
Looks like Rockstar Rajan has infused the much needed life in the Indian stock markets. No sooner did he announce a repo rate cut to the tune of 25 basis points, the Sensex went up a whopping 500 points. And now, as we write this, the gains have ballooned to more than 600 points!

Just as a hungry predator pounces on its hapless victim, every stock market expert and analyst worth his salt would want to waste no time pouncing on this opportunity. Soon there will be reports highlighting the laundry list of stocks expected to benefit from this out of turn benevolence by our central bank governor.

And as you, our readers too get the itch to jump onto the bandwagon; it would help to go through a short story. It involves none other than the Oracle of Omaha, Warren Buffett. Turns out back in the days of the dotcom boom, Buffett thought up of this assignment to give to students of valuing an internet company. And anyone who even attempted to value those companies, Buffett would simply flunk the candidate! In other words, his view wasn't that the internet companies were overvalued but simply that most of them were so outrageously out of whack with reality that even attempting to value them was a fool's errand!

Well, we have somewhat of a similar reservation about someone wanting to buy stocks based simply on the fact that repo rate has been cut by a few basis points. And our reasons are rooted in our belief on how long term investing and valuation is supposed to work.

Talking of valuations, we are sure there will be no dearth of companies going up 5, 10 or even 20% in some cases simply on the basis of this news. However, what needs answering is whether their intrinsic values will also go up this much after this small rate cut. Certainly not. Please note that the value of any asset, stocks included, is a function of all the cash flows a company is expected to generate in the future discounted at an appropriate rate.

And as per estimates, almost half of an intrinsic value of a stock is derived from cash flows that are more than 25 years in the future! In other words, even if earnings and cash flows suffer 50% decline from the trend for five consecutive years, the intrinsic value that will be wiped out will be just 5%! Therefore, stocks going up in price by 15%-20% just on the basis of the news of hike in repo rates is just extreme reaction as per us!

Secondly, value investing, a school of investing we firmly believe in, is all about trying to assess the intrinsic value of a stock. And then buying the stock only if there's a huge gap between price and value. The only purpose things like a repo rate cut serve in this whole exercise is at times they act as a catalyst. In other words, they help close the gap between price and value earlier than expected. However, buying stocks at close to or higher than intrinsic value on the expectation that a repo rate cut may take the stock price even higher is a risky endeavour and should be avoided at all costs.

Therefore, we are sorry if we have disappointed you by not naming our top stock picks in light of the repo rate cut. However, you would do your investing record a world of good if you continued to ignore such news. Instead, focus your energies on trying to find undervalued stocks trading at significant discount to intrinsic values.

Do you think it makes sense to ignore macro developments like a repo rate cut and focus only on bottom up investing, trying to find undervalued stock? Let us know your comments or share your views in the Equitymaster Club.

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02:50
  Chart of the day
While the stock markets may be rejoicing the Rajan rate cut, there's one asset class that seems to be bearing the brunt of the run up in stocks and it answers to the yellow metal gold. As highlighted in today's chart of the day, the past few months have seen continuous outflows from Gold ETFs across the country. As a matter of fact, the month of December saw one of the highest outflows in recent months which stood at Rs 1.1 bn. Is this reaction justified? Maybe. But we hope that people are not coming out of gold lock, stock and barrel and at least having 10%-15% of one's savings invested in the yellow metal for it has acted as excellent hedge against the inconceivable yet not improbable risks to the global economy.

Gold losing out to stocks


03:15
With a surprise rate cut, the capex cycle is likely to gather momentum. However, industrial revival alone won't be sufficient to bring the economy, which has a rural bias, back on track. For secular growth, rural demand needs to pick up. And this is where PM Modi is likely to face a challenge and risk not meeting his electoral promise of acche din ahead.

The erstwhile government managed to boost rural demand by running deficits. While this helped the poor, it eventually stoked inflation and led RBI to raise rates. However, the Modi government has decided to invest in savings and infrastructure to boost growth. It has curbed the rise in minimum support prices (MSPs) of crops. The jobs scheme has also been scaled back. Basically, it has tightened its noose on free lunches. Such measures have reduced rural purchasing power. This coupled with falling farm commodity prices has made the situation worse. For instance, falling prices of cotton, rubber & soybean has impacted disposable incomes of rural Indians.

Of course, the decision of a shift in policy from boosting demand that uprooted the fiscal math to focusing on investment and productivity makes economic sense. However, such a move yields results in the long term. But do India's rural voters have patience? To know the answer, wait for the upcoming elections in Bihar, a state where many of India's rural poor reside.

03:45
It is not just farm commodity prices that are in a declining mode. Even industrial commodities like copper are facing the heat of late. Dr Copper, a proxy for industrial demand, has nosedived 8% this week. This has been the lowest fall in five & half years.

Such a massive decline has raised questions if the global economy is about to sink. More so, because prices of crude oil, another commodity that reflects global growth situation, have also plunged. A fall in price of copper reflects a slowdown in China which accounts for 40% of the world's consumption. Copper prices also act as lead indicator in determining global economic growth. Thus, the forecast of cut in global growth by the World Bank was not surprising.

However, the question is where will the prices go from these levels? Slowing growth in China, piling inventories and strengthening dollar suggests that further correction is on the cards. Weak global demand will further depress prices. Overall, it seems that Dr Copper is in ICU. Revival in industrial activity is the best medication for his illness.

04:30
The Indian stock markets are trading positive today. At the time of writing the BSE-Sensex was trading up by around 660 points, while the NSE-Nifty was up by 197 points. Gains were largely seen in realty and banking stocks. Most Asian and European stock markets were also trading in the positive at the time of writing.

04:55
 Today's investing mantra
"It's optimism that is the enemy of the rational buyer."- Warren Buffett

This edition of The 5 Minute WrapUp is authored by Jinesh Joshi and Rahul Shah.

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16 Responses to "Our top 5 picks after today's rate cut!"

P K SAGAR

Oct 4, 2016

I am actually looking forward to your recommendation of the top 5 picks, post rate cut. However i would like to mention that your data inputs has been very informative in making the correct choice. I don't agree that you are trying to lure people because you don't gain anything from it. But please do make the recommendation by 15th of october

Like 

johny john kannampilly

Nov 3, 2015

Top five picks ?
I am beginning to feel you are trying to lure your clients to Ponzy schemes. you are marketing yourself well but have you taken the Ponzy Road ?

Like 

Rajkumar Peddawad

Oct 11, 2015

pl. suggest youer vallu pic of small and mid cap stock

Like 

ranu sahay

Jun 5, 2015

Where are top 5 picks after rate cut
?

Like (1)

venkatyns

May 5, 2015

top 5 picks

Like (1)

Sridhar

Mar 4, 2015

Where are the Top 5 Picks in the report??? Can anyone spot them????

Like (2)

richard pinto

Jan 23, 2015

What exactly are "your 5 Picks after today's rate cut" ? I have invested a huge sum as you are aware on your site. Will i get the 5 picks of the day after the market crashes ? I think your editor has to be more responsible and I would like to know where to find these picks.URGENT please. One day in investment is a long wait. Warren Buffet may say a lot, but I am a small investor who looks at a short term prospect for a Beginner.

Like (6)

P.C. BARUA

Jan 21, 2015

The equitymaster has increasingly become funny. It is busy now marketing some future (currently non-existent) productions without any value-add for what I have already paid and subscribed. Reports, whatever published, are stale and does not add any value to my investment or trading decisions. This report is titled as "Our top 5 picks after today's rate cut". I looked at the report top to bottom, bottom to top several times and did not find any such content. Is it a "Hidden Treasure"- Equitymaster style, by the way ??

Like (6)

sayeeram

Jan 21, 2015

no picks where received till now

Like (3)

shanmughan

Jan 21, 2015

5picks.bah!i didn't see even 5 pins.these are oly ad pricks!!!

Like (4)
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Equitymaster requests your view! Post a comment on "Our top 5 picks after today's rate cut!". Click here!
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