The Year of Gloom and Doom

The last 1.5 years in stock market has tested the patience of the best of us. Major issues kept hitting the markets like a series of earthquakes & tsunamis and have caused irreparable damage to most portfolios. So first let's look at all the fault lines

Corporate Issues

• Scams and bankruptcy of large listed corporations in both debt and equity markets that wiped out  lakhs of crores of investments from the market IL&FS Group, ADAG Group, Essel Group, Jet Airways, DHFL, Gitanjali gems
• Corporate feuds yes bank, indigo, finolex 
• Scams in several well known mid and small cap companies Vakrangee, Manpasand, Sintex Group, Cox & Kings, Eros Int, LEEL, Kwality
• High leverage, debt & pledge issues Sterlite Tech, Eveready, McLeod Russel, Gati, Talwalkar
• Many Mutual/debt funds holding these entities in large chunks suffered huge losses. Add to that there was no hope of recovery as these instruments became ill-liquid and majority of these had to be written off. Poor market conditions dried up fresh investments flowing into these funds leading to a free fall due to redemption pressures. 
• Many corporate entities had invested their cash reserves into debt instruments of companies like IL&FS and DHFL which had to be written off as losses
• Many of these companies enjoyed highest credit ratings by top credit rating agencies like ICRA, CARE and audited by top auditors like PWC & Deloitte. The scams in these companies impacted trust & confidence in these institutions. This lead widespread rumours and share prices crashing at the slightest hint of possible scam based on rumours. Indiabulls Housing is a great example of the widespread mess. 

Policy changes & govt crackdowns 

While the Govt intentions were good but continuous back to back disruptions with no recovery or absorption time broke the back of the market and industries

• First shock was demonetisation that impacted several day to day income dependent businesses
• LTCG was introduced in Budget 2018 that lead to aggressive long term profit booking before such taxes come into effect
• Auto Industry was hit by aggressive transitions to BS-IV followed by BS-VI followed by EV transition
• Uber/Ola revolution has made owning cars both unnecessary & undesirable
• GST made businesses process & compliance very difficult for small players 
• Govt crackdown on benami accounts, properties and shell companies disrupted the functioning of several companies that were surviving on corruption, Ponzi schemes and  fund siphoning. This was a good measure but even if these companies were corrupt and chor companies, these were running businesses employing people and generating economic activity. The crackdown was swift and heavy handed and brought these to a grinding halt
• Over the last few decades banks had accumulated large NPAs. Most companies were servicing their loans by taking more loans. When liquidity in the system tightened primarily due to IL&FS default banks stopped issuing fresh loans which lead to several companies defaulting. Defaults lead to credit downgrades, blacklisting making it more difficult for these companies to raise fresh funds from any source banks, nbfcs, private funds ultimately leading to collapse of these companies.
• Reclassification of MF holdings that did not allow large cap funds to hold any small and midcap companies triggered a massive selloff in mid and small caps besides drying up future investments in these counters
• RBI policies continued to be very defensive in a world where most central bankers were aggressively stimulating their economies through massive liquidity infusion. RBI was taking timid & cautious steps that failed to bring any meaningful change in the economy. This coupled with several exits from the institution Raghuram Rajan, Urjit Patel, Viral Acharya and continuous tussle with the govt gave a feeling of instability in the institution and its decision making abilities
• Trade wars driven by US meant global slowdown, disruptions in import/export, forex fluctuations, commodity price fluctuations especially crude, etc caused havoc around the world. 
• Govt has been continuously sucking the money out of an already fund inflow starved market through continuous supply of CPSE ETFs, IPOs, cross selling between PSUs and instances of using LIC money to buyout stressed banks like IDBI. LIC used to usually support the market in the face of heavy FII selling but has lost its resources to forced investment by govt
• BJP lead govt was aggressive in responding to terrorism which lead to heightened risks of geopolitical tensions on borders with Pakistan and China as India narrowly escaped a full fledged war with Pakistan post Pulwama terror incident
• Election freebies like farm loan waivers, free electricity, substandard high risk loans to underprivileged sections who have no experience in starting and running businesses has contributed more to already stressed state, centre and bank finances & NPAs 
• Extremely regressive populist measures attempting reservation in public & private jobs for people belonging to specific regions (Jagan in AP) and economically backward section of the society (proposal at centre) instead of merit is extremely repulsive to foreign investments in the country who can instead setup in Indonesia, Philippines, even Bangladesh instead of India
• A really stretched polling season for lok sabha elections brought govt orders and approvals to a grinding halt stalling several projects. Even after polls things have not picked up upto July as per Industry updates probably as the govt was busy with Budget and other long term plans
• Several others .. 

Poor Monsoon 

India is still rain dependent and 2019 Monsoons were extremely poor & deficient upto 37% as of July as per IMD stats. Add to this completely dried lakes and rivers in all states leading to accute water deficiency. This has a chain effect on monsoon dependent rural economy like bikes, farm equipments, rural consumption, everything. India cannot prosper without a booming rural economy. Right now it is in complete distress.

Budget 2019

While these issues were impacting low quality companies, final blow to Indian market came with Budget 2019. Budget hit the best quality companies in the market

Tax surcharge on incomes above 2 Cr and 5 Cr was made applicable on FPIs also which would make investing in Indian markets even more unattractive compared to other markets. This triggered a massive FII/FPI exit from Indian markets

• A proposal to increase minimum public shareholding from 25% to 35% meant that companies were promoters were holding more than 75% would have to offload their holding in the market to bring it down to 65% creating excess supply in already weak markets. Trying to absorb such selling can be expected to cause considerable price damage. 
• Dividend and Buyback tax was introduced which allowed the govt take a bite out of whatever little people were getting in return from the market through these mechanisms thus reducing shareholder rewards even further
• Budget 2019 was expected to be aggressive on growth impetus especially given the mandate with which BJP won the second term. However actual budget was seen as defensive on reforms and aggressive on tax collection
• Post budget interviews, pres releases from govt dept & FM office was of no help either as govt kept on stressing that they will continue with their existing policies of increasing tax burden on contributing members and redistributing it for services to underprivileged section of the society. Govt also seemingly ignored several calls of reconsideration of such policies from fund managers managing millions/billions of FII wealth. They openly warned that it is becoming increasingly difficult to market India as a investment destination but to no avail.  

Economic Slowdown

All of the above has had serious impact on the performance of the listed companies. There is hardly any growth Q-o-Q or Y-o-Y. Weak companies have gone into losses and bankruptcies. Strong companies are facing stagnation and reduced profits and un-utilized capacities. Poor results keep the Indian markets looking expensive on P/E ratio basis despite steep corrections in their equity valuations.   

Chain reaction

The chain effect is kicking in. HNIs have lost heavily in the stock market which has impacted the sales of luxury items. You don't buy a car, you won't buy seat covers, insurance, servicing, road assistance, you won't go on long road trips, you won't take a break at the highway hotel, you won't buy cola, chips, you won't need a puncture repair. These small vendors will have lower sales, they will stick to rice daal and won't buy biscuits, they will try to save on soap, hair oil & toothpastes. When these things don't sell small vendors and factory owners will layoff labourers. When they lose their job, they will further cut spending to the most essential items only and there you go, you have a full fledged slowdown across all categories. I don't know why some people are mystified by this?

An unbalanced ecosystem

Government needs to understand the rich don't just earn for themselves. Every rich man creates employment and income for several poor men drivers, house maids, small vendors & servicemen, travel agents. You cut the the rich, the economy will collapse. The rich section of the society is like the tigers, elephants & wolves in the forest. Yes they command maximum resources, but without them ecosystem will simply collapse. 

Rest of the year

As of now there is no silver lining in the horizon. Govt continues to be adamant in it's pro-poor and tax-rich stand. Monsoon continues to be weak and FII/FPIs continue to be pissed and dumping in Indian markets. This cannot turn-around on its own without a big change. My strategy (and I don't recommend it to anyone to follow it blindly) is that I have exited almost entirely from my equity portfolio and mutual fund holdings. I am using my capital mostly to trade with a short bias but I am hyper vigilant to any possibility of turn-around given the deep oversold conditions in the market. At the same time I am very cautious of the possibility of a complete meltdown given poor fundamentals and aggressive policy disruptions from centre. We are now standing at a crossroad from where anytime either we could see a golden opportunity or a horrific collapse over the next year and half. Mid 2020 to Nov 2020 will be US election season and I do see a possibility of global fund managers shifting their money from uncertain US markets to EMs like India which could lead to a massive rally here but the question is what happens between now and mid-2020 ? slow turnaround or complete crash? That part is not clear. From the immediate data points I see a crash coming instead of turn around and we need to be well prepared for it. The only glimmer of hope is festive season that starts from October 2019. But I doubt anyone will be big on spending in this festive season given the massive drawdowns on individual investment portfolio and depressed economic conditions. A disappointing festive season can actually accelerate downturn in the market since companies will be posting poor results on high expectations leading to amplified market reactions. According to me this will be a year of gloom and doom and it is better to write it off before the doom sets in on the masses and all exit doors get crowded. Hoping for a better 2020 !

Signs of turnaround to watch

• Look for resolution in high profile scams & bankruptcies IL&FS, DHFL, Zee, ADAG, Jet Airways 
• Look for reversal in FII sell numbers. I would be comfortable if they buy back atleast 1/3rd of what they have sold in this post budget cycle (14K Crore in the month of July and counting) 
• Look for acknowledgement from govt about the issues and some solid steps towards rectifying it like FPI tax issue
• Look for aggressive promoter/HNI buying
• Look for any big bang reform or infra project .. anything revolutionary coming from govt which was missed in Budget 2019
• Look for extreme pessimism and complete bloodbath in the market that makes Indian market look cheap even with current earning numbers. Something like even highest quality stocks trading below 25 P/E
• Look at signs of fund shifting from US to other markets as 2020 election chatter heats up