BackInvesting trends we may see in ’21 and how to gain from them
Pricey equities along with extremely low yields from bonds may make 2021 a difficult year for investorsSome investment advisers are rebalancing clients’ portfolios from equity to debt if they are equity heavy
PremiumThe end of each year witnesses a series of notes and press conferences by financial services firms on the year to come. The spectacular rally in equities during 2020 in the face of a large contraction in the economy has turned several brokerages relatively cautious.
In a media concall on 16 December, Kotak Securities announced its Nifty target of 13,500 for the end of 2021, below the index’s present level. A Credit Suisse’s note on 17 December said that compared with global and emerging market equities, Indian stocks are no longer cheap and only a short distance from the most expensive they have ever been.
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In this piece, we look at four investing trends that may play out in 2021 and how investors can position themselves for them.
Subdued markets
On a trailing basis, Nifty trades at a price-to-earnings (PE) ratio of 37.63 and a price-to-book (PB) ratio of 3.87 as of 16 December 2020 against 28.09 and 3.72, respectively, at the same time last year. Analysts usually look at forward rather than trailing PE ratios since markets discount future earnings. According to Kotak Securities, a long-term forward PE of 19 implies a Nifty target of 13,500 at the end of 2021 even assuming a large 29% jump in earnings per share (EPS) due to economic revival in 2021.
“We are rebalancing clients from equity to debt if their portfolios have become overweight equity," said Vishal Dhawan, founder, Plan Ahead Wealth Advisors, a Mumbai-based Sebi registered investment adviser (RIA). “Some clients are also beginning to have doubts about gold given its subdued performance in the past three-six months, but we’ve asked them to maintain their agreed asset allocation. If interest rates continue to be low, gold should remain supported. Similarly, we’ve asked clients to stay geographically diversified rather than allocating everything to Indian equities despite their strong performance this year," he added.
the big churn
Kotak Securities expects banking and finance to outperform pharma, which has been the star of 2020, a sentiment echoed in the note released by Credit Suisse. “We are overweight on banks, industrials and metals, while our underweights are consumer discretionary, NBFCs, healthcare and cement," it said.
Pharma sector funds are up around 65% in the past year while banking funds are down 5.43% (as of 16 December) making some mean reversion possible. According to experts, mutual fund investors are usually better off avoiding sectoral calls. Investing in a diversified fund leaves these decisions to the fund manager, and they do not see any big differences in the valuation of large-caps and mid- and small-caps. “Mid-caps and small-caps are not as overvalued against large-caps as they were in late 2017, nor are they as undervalued as they were in early 2020. That start of the year discount has gone. But they will outperform if there is a broad-based economic recovery. These companies tend to have higher operating and financial leverage," said Shridatta Bhandwaldar, head, equities, Canara Robeco Mutual Fund.
Operating leverage implies the ability for higher revenues to translate into higher profits due to fixed operating costs. Financial leverage allows shareholders to benefit from higher revenues and profits since bondholders’ payout (interest) is fixed.
Shift to value
Growth investing involves buying fast growing companies even if their valuations look expensive. It has outperformed value investing (buying cheap companies in the hope of a turnaround) for several years and 2020 was no exception. However, the post covid-19 rally that began in May has caused the gap between growth and value stocks to narrow. The Nifty 50 Value 20 Index delivered a one-year return of 17.06% (total return) as of 27 November compared with 8.72% on the Nifty 50. Mutual funds have also noted the shift, with DSP Mutual Fund launching a value fund in November. “Generally value stocks are asset heavy, cyclical and are more exposed to the real economy as opposed to say asset light, expensive and perceived more ‘growth’ oriented companies that also benefited from digitization and related technological shifts. Value stocks get impacted more with economic downturns and generally move up when the real economy revives," said Harish Krishnan, senior fund manager, Kotak Asset Management. “Companies which make successful changes to their business model will be rewarded by the market. I don’t think that value stocks will continue to go up simply because they are cheap," he added.
Short yields may rise
The year 2020 saw heavy easing measures by the Reserve Bank of India (RBI), causing a precipitous dip in short-term yields, and hence, the returns of liquid and overnight funds at around 3-4 % over the course of the year. This has caused a shift towards slightly longer debt categories such as low duration and short duration.
However, Anurag Mittal, fund manager, IDFC Mutual Fund believes that the gap will narrow in 2021. “While the economic activity is normalizing and is expected to improve further, medium-term growth trajectory for India is likely to remain weak which might require RBI to keep rates lower for longer. However, we expect RBI to withdraw some of the extraordinary measures it took in March and April. This is likely to push up yields in the short-end and narrow the gap between the short-end (say three-six month paper) and one-three year debt in the latter half of 2021. So there will be less to be gained by moving up the duration curve in the coming year," he said.
“Within debt, we continue to stay with liquid funds for systematic transfer plans (STPs). For other goals, we prefer the one-three duration bucket. Clients do not like volatility in fixed-income and only where there is risk appetite around fixed income volatility, 10-20% is invested in longer duration or dynamic bond funds," said Dhawan.
Investors have a set of difficult choices before them. A pricey equity market sits side by side with a debt market with extremely low yields.
An asset allocation that is broadly aligned with financial goals, time horizon and risk appetite is likely to weather these shifts.
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