Yearly Update Jan 23
We would like to wish everyone a healthy, safe, and prosperous and enjoyable 2023! The past few years have seen several health and geo political challenges. Our sincere prayers for an event free year for a change. Thank you for your trust in us as we start a new year.
In this note we would like to provide quick recap of the three main events of 2022 along with a perspective on the various investment classes as we start 2023.
2022 – The year of Asset class declines and Interest rate hikes!
14 trillion USD Fall and counting! – The Global equity markets saw a loss in value of more than 14 trillion USD in 2022. The US Tech titans alone had a drop of 3.6 trillion. But the pain was shared with the Asian markets falling by 5 trillion. India remained an oasis of calm with modest positive returns.
300 interest rate hikes across the world – All central banks raised interest rates and 2022 saw a total of nearly 300 central bank hikes in the year with Japan also joining monetary tightening. This impacted market interest rates. For e.g., the 30-year US mortgage rate doubled from 3.2% at the start of the year to 6.4% by Dec. In India also mortgage rates rose. However, most banks extended the mortgage period instead of changing the EMI. However, inflation continues to be persistently high even now, fueling fears that the central bank rate hikes will continue into 2023.
Cryptos and Commodities move in opposite directions – Crypto currencies lost about 2 trillion dollars with Bitcoin dropping by more than 60%. Commodity prices sky rocketed in early 2022 due to the Russia Ukraine tussle. They started falling towards the end of the year with recession fears looming.
A combination of all three events led to increased volatility and fear amongst investors aided by a frenzy of news reporting through the social media channels!
Long term Outlook for different asset classes
As we start 2023, there are several concerns – will the US enter a recession in 2023 and how long will it last? When will the Russia Ukraine war end? Will we see an unfortunate covid resurgence as China unlocks? Will China’s demand for commodities lead to another round of commodity price hikes? When will inflation start to ease? The list is endless.
As individual investors, it is very important for us to focus on what we can control (saving money, doing proper asset allocation, and managing our investment behavior!). Despite the macro uncertainties there are some broad macro trends which are emerging. We would like to focus on six key trends.
The Return of Fixed Income! – Undoubtedly the biggest story of 2023 is the return of fixed income. The return of inflation, monetary tightening and the resulting rise in fixed income yields means that after a long time, fixed income is starting to emerge as a viable investment option. We see deposit and corporate bond rates rising. However, tax efficiency and the ability to weather interest rate and credit risks is important. A diversified fixed income portfolio of mutual funds and bonds will do well based on your tax bracket.
Manufacturing is the new Tech! – Over the last 15 years, tech stocks dominated market valuations globally. Even in India market value generation happened primarily in the high quality (please refer to the next point) companies and in financial services. A combination of various events (Atmanirbhar Bharat particularly in defense indigenization, Government capex Production Linked Incentive (PLI) schemes, China+1, Europe+1, ESG) is starting to drive resurgence in Manufacturing in India. The initial indicators e.g., India is doing defense exports to 75 countries, multibillion dollar iPhone exports, etc. are all just the tip of the iceberg. We see a decadal manufacturing growth story unfolding in front of us. Several mid and small cap companies will be prime beneficiaries of this growth.
Consumption as an Investment theme – By most accounts India will become the third largest economy in the world as well as the world’s third largest stock market by the end of this decade. We will see more than 500 billion USD of economic growth. As a young population earns more, the per capital income will move up from 2,000 USD to above 5,000 USD. This will drive the world’s large private consumption growth in the coming decade. It is important to keep valuations in mind while considering consumption stocks as several of them are richly valued.
“High Quality” Investing will continue to face challenges – During the last decade, when interest rates were low, super quality investing (investing in high quality companies like Asian Paints, Avenues Supermarket at any price/valuation) became popular. Often known as BAAP (Buy At Any Price), this led to these stocks trading at very high valuations (up to 80 times P/E). These stocks saw a time correction in CY22 with an average drop of 20%. Even now they trade at 60 P/E. Despite robust earnings, it is extremely difficult to justify these valuations in a high interest rate regime. As time correction happens, systematic investing in these stocks over the entire year may give rich long-term returns. You need to be patient in this part of the portfolio.
The Return of Value – Value stocks are at the other end of the spectrum. In India typically these sectors included public sector banks, utilities, telecom, commodity companies, defense, and local manufacturing firms. They have seen a resurgence in the past two years. If corporate earnings continue to improve and the manufacturing revival continues, they represent an excellent investing opportunity. Selective stock picking (avoid chasing recent winners, poor quality companies) and the ability to read macro trends will be the key here. Experienced fund managers who have managed these stocks through business cycles is a good bet in this space.
Long-term investing in Global stocks – Global stocks have had a terrible 2022 as stated earlier. The pendulum has swung to the other side of the spectrum (from irrational optimism to extreme pessimism). Several world class global companies with strong franchises have started trading at reasonable valuations as compared to the past. Both from an asset diversification and from a valuation viewpoint systematic investing into global indices may be less volatile for investors as compared to investing in individual stocks.
Generating wealth in the coming decade
Individual investors have a priceless advantage as compared to institutions. They can take a long-term view, without having to publish their performance constantly. This can be a double- edged sword. Managing our emotions (not getting worried by short term under performance or going overboard on a particular asset) will be the key to wealth generation. The Indian economy will grow to 10 trillion dollars over the next 15 years. Historically for most countries (China is the most recent example), this is accompanied by wealth creation in the financial markets. If we can manage our investment behavior, we can profit from this wealth generation which is happening in front of us.
As always, we are delighted to have conversations with you, and we look forward to working together to partnering with you in 2023. Happy investing!
Happy Investing
Venkat & Prasanna
