Is Averaging Down a good strategy?

Markets have been jittery this week as well and now that markets have been consolidating for the past 6 months or so, the popular advice doing rounds is to buy the dip and average down on existing positions. While averaging down does seem intuitive, it has been observed to be a wealth destroyer for many investors.

When investors average down, they either take a contrarian approach or hope for the stock’s past performance to replicate in the future. For instance, let’s say a stock was worth Rs. 150 in the past and you entered the stock at Rs. 100. Now it has fallen to Rs. 80. In this situation, many investors, especially retail, tend to hope that the price will rise back to its previous highs, without examining what has caused the stock to almost half. So they double down their position, feeling elated that their average cost has dropped but the reality is that now they have a higher allocation to a trade, which is more likely to be a losing one. This is primarily because investors fail to understand that going against the trend can also mean you’re overlooking the risks that are causing others to sell.

Also, averaging down is susceptible to behavioural biases such as the Sunk Cost Fallacy and Loss Aversion. The former is the phenomena in which a person is hesitant to leave a strategy because they have invested substantially in it, even though abandoning would be more profitable, whereas the latter is the phenomenon in which investors are apprehensive of accepting losses.

Further the fact that stocks that have collapsed due to lacklustre fundamentals or due to poor corporate governance, such as DHFL, Reliance Communication, Suzlon, etc., tend to have among the highest retail holdings, also proves this point. This is because smart investors generally exit such positions post seeing signs of stress on the company, rather than averaging down on their investment.

So, the key takeaway is that averaging down only makes sense if you are convinced that the fundamentals of the company haven’t deteriorated and that the future prospects are likewise appealing. Else, you will end up fitting into the popular phrase ‘Losers Average Losers’, coined by the famous hedge fund manager, Paul Tudor Jones.

Event of the Week

The market has been debating and researching on LIC for months and now the much-awaited IPO is set to hit the streets. In an attempt to entice investors, ensure enough liquidity and also initiate meeting their disinvestment targets, the government has decided to sell a merely 3.5% stake in LIC. Even post the reduced issue size, LIC remains the biggest IPO in Indian history and is expected to test investor appetite next week amid bumpy markets globally. What’s surprising is that IPO is valued only at about 1.12x of its embedded valuation, much lesser than what was being speculated by market participants. Given the ultra reasonable valuation of the insurance behemoth, an upward re-rating of the private players is off the table as of now.

Technical Outlook

Nifty 50 Index closed on a negative note and continued to consolidate in the range of 16,900 to 17,350. The support zone around 16,800 is established as a very crucial level as there have been multiple rebounds from these levels. Last week Nifty formed a doji candlestick and this week the index has formed an inverted hammer pattern just around the support zone. This hints that a minor bottom is in place and possibly a breakout on the upside is expected. We suggest traders maintain a bullish stance on Nifty for a couple of weeks, targeting a retest of 18,000 levels. A strict stop loss just below the immediate support of 16,850 should be maintained.

Nifty50 Update 30 March 2022

Expectations for the week

The main headliner globally would be the FOMC meeting, and it is largely expected that a 50bps point hike is incoming. If Fed’s actions are more hawkish than expected, knee jerk reactions may be seen. Also, the unemployment rate will be tracked closely. Back home, the monthly auto sales numbers are bound to pique the interest of investors attempting to forecast future trends in auto stocks. Also, as India’s biggest IPO, LIC, is about to hit the street, there may be some impact on the secondary markets considering that liquidity will be channelled towards the IPO. Given these events and the current earnings season, the volatility experienced this week is expected to continue into the following one as well. Nifty 50 closed the week at 17,102.55, down by 0.40%.

Is the retail saga nearing its end?

The tussle between bears and bulls continued this week as well. Apart from the global headwinds and the fall in index heavyweights, another observation of why Indian markets are failing to hold up is that lately, FII sell-off is not being completely absorbed by the DIIs, who were pumping funds on the back of the high retail SIP inflows. So far in April, DIIs have absorbed less than 60% of the FII sell off. The DII absorption for the last two months was close to 92%. Further, even between October and February, the combined investments by DIIs and retail investors surpassed the net sales by FIIs. Now as signs emerging that incremental retail participation in the short term at least may not be as buoyant, it remains to be seen if retail participation can hold up.

Over the past two years, there has been a high influx of retail investors particularly stemming from the quick returns that equities have generated. However, since the market has put up a lackluster performance during the previous six months, retail investors may feel less motivated to trade with the same frequency. Even with the complete opening up of the economy, investing in equities actively may be pushed to sidelines for quite of them. Further, the rising inflation can likely reduce retail participants' disposable income, and thus investable funds. Furthermore, with SEBI's embargo on NFOs till the end of June, incremental investments over and above SIPs may be limited. So taking all of this into account and the fact that retail investors have a tendency to be loss averse, it will be interesting to see if they can survive a protracted period of poor returns. Chances are that considering the fear gauge and volatility in the markets, they may delay making new investments until a glimmer of hope appears.

Event of the Week

The kick start of the result season failed to appease market sentiments as most of the positives even on the earnings front are completely priced in the current valuations. What is being observed is that stock price reactions are magnified for every hit or miss vis-a-vis market expectations. Basis the IT majors who reported their results so far, the numbers are not as disappointing as the market has perceived them to be. The management commentary suggests that there are more supply side issues that are eating into the margins and the overall outlook still remains optimistic as the underlying demand is robust. However, the stock price movements hint that Mr. Market is now penciling in a de-rating of these stocks considering the margin misses and rich valuations. This can also partly be attributed to the tech carnage we have been witnessing globally. Considering that the IT sector’s outlook continues to be promising, investors can now look at companies where risk reward has become favorable for initiating long term investments.

Technical Outlook

While Nifty 50 index ended the week on a negative note, it quickly re-gained most of the loss after re-testing the crucial support of 16,800 mid-week. Nifty Small cap and Midcap indices are outperforming the benchmark indices, which is a bullish sign. While the index is now constrained within a broad range of 16,800 to 18,100 levels, we advise that a mild bullish outlook be maintained going ahead. Since 16,800 has emerged as a strong support, traders are advised to remain watchful, as a decisive break below it can lead to weakness in the short term.

Nifty50 Update 22 April 2022

Expectations for the week

The quarterly results of the companies will continue to occupy center stage and will be the key factor steering the market's direction. Further due to the monthly expiry, volatility will be on the higher side. Mr. Market will also keenly monitor the war situation, the movement in treasury yields and in the dollar index. Further, given that there has been a resurgence of Covid cases in some regions of India, the pace of infection spread will also be tracked. Taking these factors into account, market movements will be choppy. Investors are therefore advised to tread with caution. Nifty closed the week at 17,171.95, down by 1.74%.

Can Large Caps make a comeback?

In this short-action packed week, Indian indices moved in tandem with global peers and experienced volatility with midcap indices inching towards one of the sharpest single-day fall in nearly 2 months. The performance of midcaps thus far has been quite resilient. If we look at the last 6 months, Nifty Midcap 50 has moved almost in sync with Nifty 50. Currently, in spite of the broader corrections, midcaps are still trading at a premium to large caps. As we stand at the cusp of an economically crucial situation, the key question is whether we should fasten our seatbelt and ride the mid caps or opt for a stable ride with large caps?

Historically, in times of declining economic growth, it is the large caps which have outperformed. When GDP growth dropped between 2010-2012, Nifty50 rose close to 13% whereas Nifty Midcap 50 declined by 11.9%. Similarly, in rising inflation phases, such as between 2007 to 2010, the former gained 53% while the latter gained 30%. This is also attributable to the fact that in the environment of rising inflation and moderating growth, generally larger companies having dominant market positioning tend to have more pricing power, allowing them to take price hikes without significantly impacting demand. This makes large caps better placed than mid caps. Apart from this, large caps will likely be the major beneficiaries if the FIIs make a strong comeback in Indian equities. Further, with Fed tightening its balance sheet and given the building pressure on global markets, the short term direction seems unclear. In such uncertain times, large caps due to their lower risk factor turn out to be preferred investment choices. Therefore, as the road appears foggy, investors should overweight large caps in their portfolios and chose a relatively stable ride.

Event of the Week

Mirroring the US treasury yield, India’s benchmark 10-year bond yield surged to its highest level in almost three years and breached the 7% mark. This is mainly attributable to the hawkishness underlying the country's monetary policy committee measures announced last week. Even though the stance is still accommodative, rising inflation seems to have finally caught RBI’s attention. While the spiking bond yields can negatively impact existing investors, it makes bonds more attractive as an asset class thus keeping the investors muddled for investment options. As the trajectory of the number and timing of interest rates hikes by RBI become clearer, the 10-year bond yields are likely to rise further from here.

Technical Outlook

Nifty 50 closed the week on a negative note and formed an evening star candlestick pattern on the weekly time frame, which is a bearish sign. After October 2021, the benchmark index has been forming a lower top lower bottom pattern and the overall structure of the market across broader indices also has been shifting to the bearish side. Nifty is now trading just at the immediate support of 17,450 and a sustained move below the same may lead to a retest of 16,900 levels. We suggest traders maintain a mild bearish outlook going into the next week. Immediate resistance is now placed at 17,850 levels.

Nifty50 Update 13 April 2022

Expectations for the week

In absence of any significant macroeconomic events, markets will concentrate more on quarterly results as they gain pace. Banking and financial services stocks will be in the spotlight and market participants will closely follow management insights about their outlook on economic activity, loan and deposit growth, asset quality, and collection efficiency. As a slew of IT firms are set to announce their quarterly numbers, this sector will also be in focus. Stock specific movements will be prominent and as investors react to earnings misses and beats, they are advised to assess the company's long-term potential rather than basing the investment decisions solely on quarterly performance. Nifty50 closed the week at 17,475.65 down by 1.74%.

What to bet on – Growth or Value?

Markets greeted the new financial year with high spirits as Nifty crossed the levels of 18,000. Though the rally failed to persist over the week, questions over the valuations of benchmark indices and investing in value stocks started doing the rounds as Nifty rebounded ~15% from the lows of March. Over the past two years, markets have skyrocketed to new highs, with the MSCI Value index delivering ~90% and ~16% gains in FY21 and FY22, respectively, compared to the MSCI Growth index, which climbed ~56% and ~17%. This indicates a clear outperformance of the Value index over the previous two fiscals. Now, the real question for the market participants is which theme can dominate in FY23 – growth or value?

From where we stand today, interest rates have bottomed out and a slew of rates hike await us. The rising inflation and interest rates will only lead to a spike in bond yields. In the past decade, there has been a positive correlation between bond yields and the performance of value stocks as during periods where the 10 year Government Security yield has risen, the MSCI Value Index has also rallied. Similarly, in periods of falling 10-year bond yields, the value index has largely declined. Further, the current macro-dynamics especially the supply disruptions, the soaring inflation and the potential dent on demand can, to some extent, eat into the growth of companies. Considering the robust recovery since the pandemic, high growth expectations have already been built in the stocks valuations. Even a minor miss in delivering on these expectations can result in a magnified impact on the stock price and lead to earnings downgrades. While the upcoming quarterly results will be critical in determining the trend that can dominate, the factors laid above suggest that value stocks are likely to outperform growth stocks, at least in the short term.

Event of the Week

The consolidation in the Indian financial sector has just clinched a sequel. Unlike the first part which was directed by the public sector banks where the industry witnessed a series of mergers, this time however, it is the private sector players. On Monday, HDFC bank announced the merger with its parent entity HDFC Ltd with a rationale to enhance its housing loan portfolio, increase its customer base, and enable HDFC Ltd’s portfolio an access to the low cost of funds. This news was announced while the echo of Axis bank acquiring the retail business of Citi was still audible. These mergers have a broader implication for the sector rather than merely increasing the competitive intensity. New players might find it difficult to sustain their momentum as offering higher interest rates on deposits may not be a sustainable option in the long run. Additionally, post RBI tightening the non-banking norms, NBFCs now face regulations almost at par with those of banks. These factors can further propel M&As in the financial services space.

Technical Outlook

Nifty 50 index closed on a positive note but faced strong rejection at 18,100 levels as selling pressure rose. The index has formed a shooting star candlestick pattern at channel resistance drawn from the all-time high, which hints at a bullish momentum slowdown. Similarly, US indices as well as European ones are establishing a lower top. Having said this, their short-term trend is still bullish. With this backdrop, we suggest traders maintain a mildly bullish outlook as long as the Nifty does not break below 17,600 levels. Immediate resistance is now placed at 18,100 levels.

Nifty50 Update 08 April 2022

Expectations for the week

While globally investors will be keenly monitoring inflation figures in the United States and China, Indian CPI print will be a key domestic factor to monitor. It is expected that the number will be north of RBI’s tolerance limit but a higher than anticipated spike in inflation can cause knee-jerk reactions. Further, Indian IT companies will be in focus as the leaders will be reporting their Q4 results. While it is likely that revenue growth in IT businesses will soften sequentially, margins, revenue guidance, and attrition numbers will be crucial indicators to track. Given the macro factors and onset of earnings season, volatility will be elevated in the upcoming truncated week. Investors are therefore advised to invest in resilient stocks which have a reasonable risk-reward ratio. Nifty50 closed the week at 17,784.35 up by 0.64%.

Should you subscribe to the upcoming IPO season?

The last week of the FY22 kicked off with an upbeat mood, moderating the fear gauge indicator IndiaVIX. As the D-street is showing signs of stabilization, primary markets seem to be buzzing again. While FY22 was a record year for IPOs, the momentum is likely to continue in FY23. Thanks to the booming bull market, 74% of the IPOs that hit D-Street in the fiscal that ended witnessed stellar listing gains, ranging even upto 270%. Having said this, the real winner amidst this IPO frenzy were the PE/VC investors who managed to garner a whopping ~Rs. 827 Bn from the Indian primary markets, which is over 4 times the amount they cashed in FY21.

Primary markets have a tendency to be euphoric in bull markets and this proves to be an opportune time for promoters and PE/VC investors to ask exorbitant valuations for their companies. Fascinated by the greed of quick money, irrationality prevails and all investors jump on to grab a piece of the pie irrespective of the valuation. What investors miss is that when the tides turn, such companies are the ones who underperform substantially. Although the BSE IPO index has outperformed the Sensex over FY22, in the past 6 months the IPO index has significantly underperformed by 17%. In fact, currently, nearly 40% of the IPOs are trading below their issue prices and 62% trading below listing price, thereby eroding the wealth of investors, especially the retail category. SEBI also, recognizing the pain of retail investors, has initiated tightening certain rules pertaining to lock in for the anchor investors, offer for sale norms and pricing of the new loss-making firms. If there is one learning that retail investors want to take away from FY22, then it should be to not fall bait to such frenzies. They should evaluate each IPO based on its merit and remember that overvalued ones most likely will be available cheaper once the euphoria ends.

Event of the Week

Mergers and acquisitions (M&A) deals in India reached an all-time high in 2021 and this week seemed to have set the ball rolling for 2022. D-street saw three huge mergers across industries, including one in the film exhibition space that nearly gives the merged entity a lion’s market share. All the three announcements were cheered by the street and the respective stocks were seen in shooting up swiftly. It seems that inorganic growth plays and industry consolidation theme have begun dominating. In 2021 as well 60% of the deals were between companies engaged in the same line of business. The primary goal of such transactions has been to transform a company, gain significant penetration and scale rather than merely growth. On the other hand, larger conglomerates are using the inorganic route to reshape their portfolio and venture into emerging business areas. While FY22 has seen most of the acquisitions in the technology space, it will be interesting to see how the trend shapes up in FY23.

Technical Outlook

The market posted a couple of gap-up candles and closed in the green for the week despite rather weak global markets. Post the narrow range-bound trading last week, Nifty index seemed to have found a cushion around 17,000 levels. With the benchmark successfully breaking above 17,500, the short-term trend continues to be bullish. Thus, we suggest traders maintain a bullish bias targeting a retest of the immediate resistance zone around 17,800 levels. Declines on the downside are likely to remain capped around 17,000 levels.

Nifty50 Update 01 April 2022

Expectations for the week

Markets globally will react to FOMC’s minutes’ that will be released next week. Back home, RBI's MPC meeting will take centre stage guiding the mood of the market. Unlike its overseas counterparts, RBI has thus far been growth supportive rather than targeting measures to curb inflation. The changing macro-dynamics due to the war, rate hikes projected by FED, need to nurture domestic demand and support the government’s increased borrowing indicated in the budget, have put the RBI in a challenging situation and all ears will be on how RBI chooses to address these. These factors coupled with the pricing in of expectations of the upcoming earnings season can cause jittery movements in our markets. Investors are therefore advised to be cautious before venturing into any aggressive bets. The Nifty50 closed the week at 17,670.45, up by 3.02%.