How to approach investing in a market dominated by liquidity? Answers S Naren

“So on one hand, you have fantastic liquidity in equity. On the other hand, you have fantastic macro. And on the other hand, you have valuations that are outside of what you’ve seen in your career,” says S Naren. ED & CIO, ICICI Prudential AMC.

In the last 10 days, we have seen perhaps all shades of market emotions. There were emotions. He was afraid. There was denial. There was acceptance. It had a short cover. So what’s coming next? What is happening in the market? Ten days we’ve seen a bull and a bear market, haven’t we?
I think a common thing is that retail investors have a bullish interest in the market. I don’t think it has changed. So I think that’s a commonality that I think we’ve seen all the way from three to six months after COVID to June 2024. So I don’t think whatever you can talk about other things, I don’t think this has changed. Where are we going next? One side is this brute force of liquidity, be it retail or DII, be it returning FIIs. How can you access this market when you are getting about 20,000 crore SIPs every month and a lot of retail participation coming through direct shares? How to invest in this type of market dominated by liquidity?
Very difficult task because you see, over the years and over experience I would call it, we are trained to be fundamentalists. We are not trained to think so much in terms of liquidity. We are trained to think in terms of fundamentals and valuations. And we have seen this phase. In my investment career, I have seen such a phase, especially in this phase of 94-95, where you had a lot of liquidity in the market, and we have this phase again.

So what happens is that when you have a lot of liquidity and valuations are high and there doesn’t seem to be any threat to liquidity, there is no margin of safety. And the other positive right now is that India’s macro, macroeconomic environment is fantastic. So if you look at fiscal deficit, look at RBI dividend, look at current account deficit, look at inflation, look at economic growth, look at economic growth differentials, all these things are also fantastic. So, on the one hand, you have fantastic liquidity in equity. On the other hand, you have a fantastic macro. And on the other hand, you have ratings that are outside of what you’ve seen in your career. So it puts you in a very confusing situation, which has forced us to recommend asset allocation and recommend hybrid products and that’s what we’ve done with no intention of ever moving into recommending aggressive investments over six to nine months. last time, never give us a chance. And it continues at this point.

What is your view on PSUs because this is where we have seen the maximum amount of excitement and revaluation? Since there is now talk of continuity, at least on the political front, how do you see PSU as a moving basket?
I think basically we were the first bulls in PSU along with some other local investors. And, at that moment, the PSU ratings were surprising. And I couldn’t understand why, except for a few of us in the industry, everyone else’s mouths didn’t show.

Today, we have a situation where there are some PSUs that trade reasonably, which is that they trade in line as if they were private sector companies and they are some of the best PSUs in India.

And some of the others are trading like they’re in some other country because they’re not trading in line with their private sector counterparts, they’re trading ahead of their private sector counterparts.

And so we don’t know how to apply our investment theories. So, surprisingly, the best UVPs are trading more reasonably. And I wouldn’t use the word better, I would say that the PSUs that we are looking at are trading more reasonably.

But the PSUs we didn’t look at are much, much more expensive. So that’s the investment challenge. And you see, one of the biggest problems with equity investing is if you make a lot of profits in a stock and because of that the stock has gone to very high levels, at some point in time somebody is going to have a loss and the losses done are never pleasant and this is something that is very disturbing to me and this is a problem.

I don’t know how this can be resolved because if a share has a fair value of say Rs 5 and is trading at Rs 10, the process of that fair value going down from Rs 10 to Rs 5 is never pleasant. On the other hand, if a share has a fair value of Rs 5 and the share is trading at Rs 2, the process of the share going from Rs 2 to Rs 5 is graceful even if it takes three to five years, as happened in PSUs. In fact, it gave us more time to buy, it gave us more time to buy and it could have allowed us to buy into more schemes.

So that’s the challenge and that’s why when you’re managing other people’s money, it’s very helpful to have fairly valued markets and not overvalued markets because overvalued markets lead to market losses and you never feel happy losing money for other people and this is a challenge. Whereas fair value markets or slightly undervalued markets are much more enjoyable when you are in the mutual fund system.

The markets are not cheap, the markets are fairly valued, but the markets are not terribly valued. And when markets peak, it’s a cycle. They will move to two extremes. So it’s not like the COVID positioning, which I fully support, that the markets are not free. There’s no haggling in the market, but the markets aren’t terribly expensive either. So when markets are fairly valued and when markets are terribly undervalued, what should be done?
The markets are not terribly valued across the board, but the markets were not terribly valued, especially in mega cap and large cap. But slowly, the markets are not fairly valued, they’re slightly above fair value everywhere, and that’s why the only approach that seems rational and can be considered very conservative is asset allocation, so you allocate money to equity, you distribute money in debt. you distribute money to goods and you distribute money to money, this is the right approach at a time when almost all market segments are no longer fairly valued, they can be at least slightly above marginal value.

There was a time, maybe six months back in the past, where mega caps seemed quite appreciated. But while we are talking about 23,400, it seems that even the mega caps are not valued fairly, they are slightly above fair value. But still, mega hats are much more comfortable.

Mega caps are more comfortable than large caps, mid caps, small caps, micro caps. So the only approach that can work at this point is asset allocation and that approach involves investing in all asset classes at this point in time and that’s the only possible approach and an approach that allows you to participate in the event that there are corrections, it gives you the opportunity to invest and that is the only way forward at this moment. And saying that there are things that people ask us, does it mean that India is not a structural story? This is not true. India is a very good structural story.

I don’t think there is any structural history like India today where the banking system is in good shape, central government finances are in good shape, central government stability is in good shape, you have continuity and you have growth potential for the next 10 years , 20 years, 30 years. So it doesn’t look like the long term outlook is bad. Only, the valuation has gone above what we would like to see for the new money. At the same time, we spent a lot of time trying to tell people, all the sane people who have invested over the years to 2021 or 22, we said to them, try to make sure you don’t get your money out, instead enjoy it the money, the profits you made and don’t make the mistake of cashing out because the market is in such shape that it doesn’t look like the markets are going to crash.

That’s what we told people. It is that new money that you should be more careful about than the old money that you are making big profits from at this point in time.