The Rise of the Indian Domestic Investor: Myth or Reality?

I envy those investors who are happy with index like returns over the long term.

All they need for their investments to bear fruit is discipline and the continuation of the India growth story.

If history is any guide, a return of 14%-15% over the long term is almost guaranteed.

I don't have such luxury though. I am a research analyst. I get paid to help my subscribers earn a few percentage points more than 14%-15% that stocks have historically earned.

Only this way can I make it a win-win for both me and my subscribers.

However, doing this on a consistent basis is not easy by any stretch of imagination. You are up against some serious competition.

I think it was Bob Maynard, a prominent investor in the west, who once opined that there are three ways to outperform the competition in the stock market.

Option # 1 is physically exhausting: You work harder than everybody else.

Option # 2 is mentally exhausting: You're smarter than everybody else.

And option # 3 is emotionally exhausting: You need to have patience with a long term strategy and mindset.

I will put legendary fund manager Peter Lynch in the first category. Lynch was one of the most hard working fund managers ever. There are stories of how he used arrive at his office at the crack of dawn and outwork everybody else. In fact, he had to opt for an early retirement because his insane work ethic was taking a heavy toll on everything else in his life.

The terrific duo of Warren Buffett and Charlie Munger are a great fit for the second category. I am yet to come across an investing pair that has more wisdom and knowledge than those displayed by Buffett and Munger combined. Listen to them for an hour or so and there's no way you will walk away without a few life changing insights.

Ben Graham, the father of value investing, is someone I will put squarely in the third category. I am not saying Graham was not smart or hardworking. He was both of these to be honest. But he chose emotional intelligence and discipline as his weapons of choice for putting up a market beating performance.

Needless to say, if outperforming the market is also your goal, Ben Graham's approach of being emotionally disciplined is your best bet in my view.

In fact, I have been using it successfully for over 8 years now and the results have been completely to my satisfaction.

The strategy has earned a CAGR of 21% vis-a-vis the 14% returns earned by the benchmark index. And like Graham, our weapon of choice has also been emotional discipline and the resolve to stick to our strategy come what may.

As good as the past performance has been, I am worried of this strategy's future prospects.

There is a big question mark over whether the strategy will continue to outperform in the future like it has done in the past.

You see, the external environment has a significant impact on the performance of any stock picking strategy. In fact, in a lot of cases, the external environment alone can change the strategy's fortunes in a big way.

And it is the change in this external environment that has had me worried.

You see, if you listen to the experts, the Indian stock market seems to be undergoing a structural shift.

One such expert is Akash Prakash of Amansa Capital.

A recent article that he wrote for a leading business daily has now become the talk of the town in financial circles.

The data point that hit me like a ton of bricks was the FII flows.

As a percentage of market cap, FIIs have sold the same value of stocks since October 2021 as they did during the Great Financial Crisis of 2008.

Yes, you heard that right. FII selling over the last few months has been huge. However, look at the huge difference in the way the Indian markets have reacted to this outflows this time.

Back in 2008, an outflow of this magnitude had sent our stock market to the cleaners. It fell by a staggering 72% in dollar terms. That's insane in my view. It's total annihilation if you ask me.

However, there has been no such wealth destruction this time around. Markets are down only 13% despite the relentless FII selling.

What gives? Well, it is the Indian domestic investor.

Akash Prakash points out that from 2014 onwards, domestic institutions have actually invested more money into Indian equities than global players.

Is this a sign of the tectonic shift in the Indian stock market? Are Indian markets a lot more resilient now than they were before?

I don't know for sure. But I do know that my market beating strategy relied upon the stock markets correcting every few years.

The reason this strategy was able to outperform the broader market was because it got an opportunity to increase exposure to stocks once the markets went down and reduce exposure after they went up a great deal.

You see, early 2014, 2016, 2019 and mid-2020 were great buying opportunities. Likewise, 2015 and 2018 were great selling opportunities. Put differently, an entire market cycle i.e from bottom to top and then to bottom again was around 2-3 years long.

However, has the emergence of the Indian domestic investor changed the length of this cycle? Have the bull markets just become longer and the bear markets shorter? Does this warrant a change in my strategy?

Well, I don't have clear answers to these questions to be honest. In fact, no one does.

Once again, a probabilistic approach will have to come to the rescue.

You see, my market beating strategy is based on the premise that one cannot have a dependable view on the market's future action in the next year or so.

But what we do know for sure is that a large and disturbing decline is likely to take place again sometime in the future. Hence, we should always be prepared in thought and action for it.

Which is why, across my strategies, I am never 100% invested in stocks.

I always set aside at least 25% in case a large and a disturbing decline strikes the market. Likewise, I am never fully out of stocks. Here also, there is at least 25% in stocks at all times since the disturbing decline can take a long time in coming. Thus, having at least 25% in stocks ensures that you don't miss out on all the gains.

As for the remaining 50%, you can use your judgement and allocate between bonds and stocks based on the same.

Thus, if you strongly feel that the Indian domestic investor has indeed arrived and we won't have a big bear market anytime soon, you can put this entire 50% into stocks and be 75% in stocks.

Likewise, if you feel that the Indian stock market will behave the same way like it has done in the past, you can have this entire 50% in bonds and be 75% in bonds. There is also a middle path i.e. 50:50 in both.

Will this approach guarantee success? No, it won't. In fact, no approach can guarantee that. But what it will do is it will not punish you big time in case things don't go in your favor.

You will survive and you will live to fight another day. And that's a goal worth emulating in my view.

Warm regards,


Rahul Shah
Editor and Research Analyst, Profit Hunter