The Big Picture is Getting Cloudy. Should You be Worried?

Two pieces of news took centre stage in the financial markets last week.

The first one concerned Michael Burry, who if reports are to be believed, has bet US$ 1.6 bn on a US stock market crash. To be honest, his record is mixed when it comes to making such macro predictions. But since it's Michael Burry, we need to pay attention.

The second one was around the economic woes of China. Apparently, things are not looking good for the world's second largest economy. Key indicators like economic growth, employment data, interest rate, are all pointing towards a long, protracted slowdown. This is making investors nervous.

In fact, even Indian stocks, especially the large ones, are showing signs of jitters as the benchmark index has come off its all-time highs a bit.

Therefore, the big question now is how should an average investor react to these developments? Should he pay attention to these macros at all or focus on doing what he does best i.e. analyse things on the micro front?

I strong believe that it should be the latter. Allow me to explain with an example.

Imagine there's a popular vada pav outlet near your home that's open only in the evening. It's quite popular and sells about 500 vada pavs daily on average.

One day you learn the outlet is up for sale. You and a couple of friends are interested in buying it. You immediately get down to business of figuring out a proper valuation for the outlet.

You also try to figure out ways of increasing the revenues and cutting costs. You wonder if the profits can go up by keeping the outlet open in the morning as well. You think of tying up with aggregators like Zomato or Swiggy for home delivery. You mull extracting a bigger discount from your suppliers.

In short, you look at the deal from all possible angles to arrive at the fair valuation of the company.

Now, would you also consider macro factors when doing this exercise?

Would you be worried about what would be the crude price a year from now? And will that impact your valuation a great deal?

What about interest rates and inflation? More importantly, will the stance of the Federal Reserve or our very own RBI be in your scheme of things?

Well, I don't think so. I don't think these factors will figure prominently in your decision making. These factors are what are known as the macros and the other ones that impact valuation more directly are known as the micros.

In my experience, micro beats macro when it comes to investing.

The purpose of this exercise was to drive home the point that in the long run, you'd be better off focusing more on the micro than the macro when it comes to buying stocks.

Just as you don't give too much importance to macro while trying to buy your neighbourhood vada pav outlet, you shouldn't do so while buying listed stocks.

Now some stocks are more exposed to macro factors like exchange rates and even interest rates. But these are already reflected in the profit history of the company. You can use this to arrive at a proper valuation of the stock.

If you base your valuation on what these factors will look like in the future is inappropriate in our view.

For example would you have marked the value of the vada pav outlet to zero during the nationwide covid lockdown?

I'm sure those few months would have been very tough for the vada pav shop owner. His vada pav sales number would have plummeted to zero.

But this does not mean the valuation of his business should also be marked down to zero. All of us knew that when conditions normalise, the shop would be back to doing brisk business.

Therefore, the valuation of the vada pav business remained intact more or less.

However, this is not how things work in the stock market. I know a lot of decent quality businesses whose stock prices suffered a huge decline during the pandemic. They were valued as if the pandemic would last forever and the stocks were available at throwaway prices.

But just as in the case of the vada pav business, these were companies that were doing brisk business and were capable of bouncing back once the pandemic ends.

Yes, there was a lot of uncertainty around when the pandemic would end. But if you were willing to be a little patient, there were huge gains for the taking.

And this is exactly what happened. The markets staged a smart recovery and the stocks that were trading at huge discounts went up rapidly. These stocks delivered hefty profits for investors who bought them at dirt cheap valuations.

Would this have been possible had we focused too much on the macro? I don't think so.

If we would have worried about things like economy, interest rates, and inflation, and then waited for these parameters to improve before taking the plunge, the buying opportunity would have gone. It would have been too late by then.

Therefore, when it comes to investing, micro does have a big edge over macro.

Focus on individual stocks and their earning power in a normal business environment. Things like GDP, currency exchange rates, inflation, and interest rates, should be best left to economists.

Yes, a crash or a crisis can sound the death knell for a company with poor fundamentals. But strong companies usually bounce back and many emerge stronger.

Happy investing.

Warm regards,


Rahul Shah
Editor and Research Analyst, Profit Hunter
Equitymaster Agora Research Private Limited (Research Analyst)