Technical Analysis

Watch out, fence sitters

ArunaGiri N. | Updated on July 28, 2012 Published on July 28, 2012

If you are one of those waiting on the sidelines for the murky macro clouds to clear , it can be comforting to know that you are not alone. But the market in its wisdom is scripting a stunning twist to the plot that is intriguing and encouraging at the same time.

If one looks at the period from last December to now, it is obvious that all macro data points have gone bad. Rupee is near all-time low there is a policy log-jam, twin deficits, persisting inflationary pressures and so on. With respect to Europe, lesser said is better. Post Greek and French elections, uncertainty has only deepened with periphery regional bond yields at alarmingly high levels.

In the face of such frightening prospects, investors waiting on the sidelines while can justifiably feel vindicated, deeper trends in the market portray inherent strength. The case in point is the Sensex’s surprising rise of over 9 per cent in the last six months while macro was worsening. The icing on the cake was the performance of broader markets. Small and mid-cap indices rose by over 18 per cent in the same period (data as on July 25, 2012).

Such a rise in the broader market against the backdrop of weakening macro has some serious underpinnings for the investors. Strength in broader market implies that stock-specific momentum is gaining significant traction. Number of stocks that have rewarded handsomely (outside the Sensex of course) have multiplied in the last few months adding to the conviction that this trend is here to stay.

There is a boom amidst burst. It is a stock pickers market with momentum favouring bottom-up style. Investors deserting the market misled by persisting macro noise, risk leaving a lot on the table by not participating in the broader market. Key to success in this market is “stock-picking” and here is how one should approach it .

At a fundamental level, bottom-up investing is all about shunning trend stories (flavour of the season sector stories) in favour of ground-up companies that are (a) generating free cash-flows year-on-year (b) delivering superior return-ratios (ROE/ROCE) employing low-leverage / debt (c) growing market share year after year.

Companies that fall into this category in general have attractive “economics of business” in terms of superior pricing power , strong revenue model, higher entry barrier, yet not highly capital-intensive. These characteristics enable them to be resilient in down-turns. Further, as an additional category, the selection will also include companies that are likely to benefit from favourable company specific development such as tactical turnaround, new projects/expansion, consolidation or any other re-rating triggers. Once such a set is drawn, the next step is to ascertain “what is in the price”.

If all the positives are already factored in the price, then one should give a pass to that opportunity. On the contrary, if the price offers substantial margin-of-safety (deep discount to intrinsic worth), then load it onto the shopping cart.

Current market offers many such undervalued opportunities. As always value investors prefer such a bottom-up market than a raging bull market.

(The author is CEO and MD TrustLine Holdings Pvt Ltd. The views are personal)

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