June 2011: Uncertanity is an opportunity

The Indian equity market was weak for most of the month, but due to a strong rally in the last five days of the month, closed in positive territory. Our portfolios continued to outperform and finished up strongly for the month as well. As a result, while the Nifty is down 3.2% in the June quarter, our portfolios are up quite strongly.

The weakness in global markets of late is partly triggered by the financial crisis in Europe, wherein some of the governments are struggling to finance their debt and the cost of borrowing for countries like Greece, Ireland and Portugal has shot up significantly in recent months. After being handed a 110 billion Euro bailout package last year, Greece says it needs a further bailout package of similar proportions. While efforts are on to prevent a default by Greece, an impasse could have far reaching implications for the global financial system.

Fortunately, India does not have problems of the scale that are faced by the Western countries. The larger issue in India continues to be high inflation and the RBI wanting to take on inflation at the cost of growth. The RBI is focused on controlling inflation and more importantly inflationary expectations and has become more aggressive in its stance lately. Due to the increased transmission effect of RBI’s moves, this has led to a significant increase in the borrowing costs for industry and consumers. The increase in interest rates and the high rate of inflation seem to have begun to have an impact on consumer purchasing behavior, and can potentially affect growth for some companies. The next few months could potentially see growth slowing down for several pockets of the economy. Companies which have borrowed heavily to fund growth are likely to see stiff headwinds in this scenario.

In this sort of an economic environment, we are quite often asked whether there are good opportunities to invest in the market. The truth is that if one invests in high quality companies, whose long term trajectory is unlikely to be affected by these events, uncertainty in the stock market often presents a good opportunity to get invested. As a wise man said, “In the stock market, one pays a heavy price for a cheery consensus”. The converse is also true. The fact is that there are some fantastic companies out there, which have withstood the test of time. One of the companies we bought recently has been in existence for well over 100 years, and continues to operate in its market with sufficient agility. The longer term growth and profitability of these companies are not likely to get affected by these negative macroeconomic events. The negative market sentiment allows us an opportunity to buy into these companies at good prices. To that extent, such periods are actually welcome for a long term investor.