The Indian equity market was strong in May and recovered most of the ground lost in April. It is interesting that between Oct 31, 2014 and May 31, 2015, a seven month period, the market is absolutely flat. Although the market has been volatile – either up or down on the average 3.6% per month, over this period, it has essentially remained flat. Our portfolios have done substantially better than the market in this period.
After racing to new all-time highs in early 2014 and beyond, the market has been consolidating over the last 7 months. Since March 2008 the market has averaged 8.4% pa up to now, which is significantly below its long term average of 15% – though over a 10 year period, the growth is exactly in line with the long term average of 15%. While market participants continue to debate whether the market has run ahead of reality or not, a longer term picture suggests otherwise. Even over the last 12 months, the market is up 16.6%, which is again only slightly above the long term average. And yet, this remains a stock specific market, with many stocks in overvalued territory and many stocks in the undervalued zone. The key as an investor is to understand the underlying businesses intimately and have a reasonable assessment of its intrinsic value.
What return expectations should an investor have over the long term? As an investor in a debt instrument one can make a post-tax return of about 6% pa – an investment of Rs 100 would become about Rs 180 after 10 years (and Rs 320 after 20 years). The Indian equity market has averaged about 15% pa return over the past several decades, and the tax incidence can be minimal if one is a long term investor. At 15% pa return, an investment of Rs 100 would become about Rs 400 at the end of 10 years (and Rs 1600 at the end of 20 years). If one were able to average a return higher than the market, say about 20% pa (note that this is an uphill task, though many high grade companies have delivered such returns in the last 20 years), then the investor’s final gain is substantially higher. Rs 100 invested at 20% pa, would become about Rs 620 in 10 years (and Rs 3800 in 20 years). What one concludes from this is that long term investment in equities is a no-brainer – one only needs patience to ride through the volatility which is inevitable in this asset class, and avoid potential pitfalls.
There is reasonable evidence to suggest that equity returns over the next several years can average about 12-15% or more, particularly for those businesses which grow in line with the GDP and have an ability to pass on inflation to their customers. The goal of the investor should be to clearly maximize the probability of achieving the market rate of return, and have a reasonable probability of doing better than the market. There are 2 temptations that stand in the way of the investor – buying a company that does not grow intrinsic value consistently over time, or buying a company at an expensive price, or God forbid, committing both sins simultaneously. In a rising tide that lifts most boats, temptation is lurking at every corner – the wise investor will steer clear of temptation and focus on the goal at hand – which is to make a reasonable return without taking disproportionate risk. After years of making many mistakes, we have learnt that safety is the better part of valour – high long term returns accrue to investors who stay on the path of quality and who are also mindful of the price they pay. We look forward to another decade and more of safe investing.