A couple of data points that shed light on the unprecedented retail exuberance and its impact on the markets would help us put the issue in perspective. In 2021 alone, American investors have downloaded 15 million business apps and invested $ 1 trillion in stocks. This investment is higher than the accumulated investment made during the last 20 years. US retail investors now own 12 times more shares than hedge funds. Cheap money has provided a favorable context for investing / trading stocks.
This explosion in retail participation is a global phenomenon triggered by the pandemic. In emerging markets, this trend is noticeable in India. Retail participation is desirable, but the concern is exuberance and outright disregard for valuations.
Massive crashes are followed by strong rebounds
An important lesson from stock Exchange The story is that a sharp decline is followed, most of the time, by a strong rebound. The stock market often overreacts - both up and down. During the euphoria of a bull market, valuations reach unsustainable levels, leading to a sharp correction. Panic during a crash drives the valuation very low, which in turn leads to buying, triggering the recovery. This pattern repeats. This has implications for investors.
Let's take the story of recent market dips and rebounds from dips. During the 1998-2000 tech bubble, valuations reached unsustainable levels, causing a massive 49% drop from the 2000 peak. The market consolidated for a time, and then there was a strong 140% recovery in nine months during 2003-04. One of the worst crashes in the history of the stock market occurred in 2008 during the Global Financial Crisis. The accident was 65 percent massive. Then, from the lows of March 2009, there was an impressive 180 percent rally in 15 months. The 40 percent drop after the outbreak of the pandemic in March 2020 was swift and huge. This was followed by a strong rebound of 135 percent in 18 months.
What is the lesson of this trend? Stock market profitability they come stumbling. There will be periods of euphoric upswing, strong corrections and consolidation. You don't make a lot of money by buying at the peak of the bull market, but by investing consistently and patiently through a bear market. More importantly, superior returns are generated by a simple investment strategy: investing in high-quality stocks that consistently generate superior cash flows. The smart investment strategy is like running a marathon; not like running a sprint. It is impossible to synchronize the market. Spending time in the market is more important.
It seems that the sprint after the collapse of March 2020 is over. This sprint, which took the Nifty from 7,511 in March 2020 to 18,604 in October 2021, generated a return of 135% in 19 months. This one-way rally ended with a correction of more than 10 percent from the peak. Unsustainable valuations and the incessant sell-off of FII (foreign institutional investors) have put a cap on the upside now.
Expect moderate returns in 2022
Returns in 2022 are likely to be moderate. Therefore, the focus of investors should be twofold: one, to look for segments and stocks that can generate returns that exceed the market and, two, to invest patiently for the long term. New variants of the virus and rising interest rates may pose challenges in 2022. Market corrections triggered by these challenges may turn into buying opportunities.
Beat the market with focused investment
In 2022, the outlook for the IT, finance and construction segments are good. Valuations of financial companies, particularly those of leading banks, are attractive thanks to sustained sales from FII. IT is on a multi-year upward cycle caused by accelerating digitization. TI's valuations are high, but earnings visibility is very good. Low interest rates are fueling a construction boom, which would benefit all construction-related stocks. Focusing on high-quality stocks in these segments can deliver returns that will outperform the market in 2022. Invest in small and mid-cap companies through SIPs (systematic investment plans) of mutual funds.
As a precautionary measure, set aside some earnings and move some money into fixed income. Investing in gold ETFs would also be a good hedge against rising inflation and depreciation of the rupee. Look beyond 2022 and invest patiently for the long term. Continue with SIP. The sprint that took the Nifty up 135 percent from the March 2020 lows is over. Now the marathon begins.
