It has been a tumultuous year for the world as it has grappled with covid – the year began as lockdowns were introduced across the world in response to the threat of covid, with global equity markets down sharply. We end the financial year with the threat of covid very much still there with the second wave of infections hitting India but there is relief at hand as the vaccination drive will likely limit the damage. The markets, after the shock of the lockdowns and the resultant collapse in economic activity, recovered through the year and made new highs towards the latter part of the year. So, it may be a good idea to explore possible reasons for the market strength while the pandemic is still not behind us.
One reason for the strength in the markets has been the gush of liquidity which has got released by central banks across the world to counter the ill effects of the pandemic on the economy. This has also been accompanied by a large fiscal stimulus provided by the government. In our last month’s news-letter we had explored the role that interest rates play in the theoretical valuation of a company and thus how very low interest rates prevalent world-wide are pushing up valuations of companies.
One of the other features of the last 12 months has been an interesting trend of people beginning to invest on their own while at the same time mutual funds have seen outflows over the last several months. 1.2 cr depository accounts were opened in the last financial year till end February, against 0.53 cr depository accounts opened last year (growth of 128% yoy) on a base of 4 cr accounts at the beginning of the financial year. The fewer opportunities to spend could be resulting in savings for the higher middle classes which could be resulting in incremental flow into the equity market.
What is also interesting is the trend of corporate results, with corporates showing very strong profitability during the December 2020 quarter. As we have done in the past, we looked at the non-financials part of the BSE500 index to tabulate our results. While aggregate revenues for this sample set were down 0.5%, the median company’s revenues were up 7.4%. The aggregate EBIT (Earnings before Interest and Tax) was up 27.9% for the December quarter and the median company’s EBIT was up 19.0%. The EBIT margin for the sample set is at 13.1% which is among the highest recordings in the last 20 years. These are very strong numbers indeed and the quarterly EBIT is the highest ever for corporate India. There have been significant productivity gains for the corporate sector during the pandemic and it is likely that some of these gains will be retained even when things return to normal. This is particularly true for high-quality companies because of the pricing power they enjoy.
As the market has marched higher through the year, we have been talking about how it has become increasingly difficult for us to invest the new money that is being entrusted with us. Opportunities are few in number in our universe of high-quality companies and most of our new accounts have a significant proportion of cash. At the same time, we are not finding too many sell ideas in our portfolio either and the cash levels in our older portfolios are quite low. It appears that while the reward to risk ratios for the stocks that we like, are not good for buying they are not that good for selling as well. We expect to continue to keep a keen eye on the reward to risk ratio in terms of deciding what to do with our portfolio.