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NIFTY to FIFTY (50,000) – Mitigation of risks to the journey

The article, "Nifty to Fifty: 50,000 - Mitigation of Risks to the Journey," unveils a captivating narrative surrounding Nifty and its possible ascent to the substantial 50,000 journey. As a Portfolio Manager with over two decades of experience in Equity Markets, and the distinction of being worked through the cycles of market, I felt compelled to delve into this noteworthy piece.

In September 2023, markets exceeded 20,000 for the first time in its history, with more than 20% from its one-year lows.

While midcap and smallcap indices rebounded by more than 45% from their lows, the real show stunner has been SME IPO delivering 113% growth over the past year.

Value and investment-oriented sectors i.e. PSUs, Railways, Capital goods, and Power stocks performed well in the past year. Globally European markets consolidated, Japanese markets surged, and NASDAQ had a turbulent 2023.

While inflation moderates, crude oil and interest rates are closely watched especially with re-emergence of geopolitical issues.

What are we thinking ?

This article ventures into thinking about potential perils, and strategic imperatives indispensable for steering the course to 50,000.

Recently, we conducted a poll on LinkedIn and Twitter, garnering over 5,000 impressions and growing, with more than 170 participants voted on when NIFTY is likely to reach the 50,000 milestone. Astonishingly, a substantial majority, more than 70% of respondents, envisage NIFTY surmounting this level within 7 years to 10 years implying a return between 9.6% to 14.0%. This buoyant sentiment reflects the market's potential, yet it simultaneously underscores the need for astute risk management.

Drawing from my extensive 20-year tenure as a portfolio manager, during which I've navigated through significant market upheavals such as the Internet bubble, the Global Financial Crisis (GFC), twin deficits, and the unique challenges posed by the COVID pandemic, I've come to a crucial realization. I've observed that market cycles, characterized by periods of exuberance, downturns, and sideways movements, are intrinsic to the financial landscape. Rather than attempting the daunting task of predicting these cycles, I firmly believe that investors stand to gain more by dedicating their energies to understanding and thriving within the present market conditions and build a robust risk management around the same. Considering the current market's historic ascent to all-time highs, it becomes imperative to scrutinize the immediate risks that could potentially impact our investment landscape.

  • Crude Oil Volatility: Heightened crude oil price swings are concerning, with prices jumping from near $72 per barrel in June 2023 to around $95 per barrel currently, a 32% surge. This is partly due to supply constraints, including reduced shale oil production in the United States. OPEC members, such as Saudi Arabia and Russia, have extended supply cuts of 1.3 million barrels per day until year-end. The ongoing oil price uncertainty couple with geo-political issues threatens to disrupt the downward trend in inflation.

  • Global Economic Challenges: The global economy faces complexity with divergent growth across regions, moderate inflation, tight finances, geopolitical tensions, and fragmentation. Market sentiment leans toward a "soft landing" and an early end to monetary tightening. Several emerging markets grapple with weak external demand, high debt, and strict external funding, risking growth.

  • Short-Term Interest Rate Concerns: In the developed world, short-term interest rate spikes are worrisome. The shift to a "higher for longer" scenario could impact corporate balance sheets, especially for those with weak profitability, narrow margins, extended cash cycles, and weak products. Startups reliant on funding for monthly operations may also face challenges in this new interest rate environment.

While in the near term above risks may dampen the market sentiments for a shorter term, Medium to longer term risks that may need a better look would be;

  • Greed overshadows consciousness and judgment: The post-COVID era has given rise to a sense that making money in the market is effortless. We've witnessed a remarkable surge, with promoters cashing in a staggering 80,000 crores in the first nine months of 2023, surpassing the four-year average of 40,000 crores. Private equity funds and foreign institutional investors (FIIs) are also capitalizing on their gains. Corporates are capitalizing on this bullish sentiment by raising funds at inflated valuations on the SME exchange and cashing in on their stakes, celebrating their newfound wealth. Historically, market cycles have seen management stretching their commentaries to meet guidance, artificially inflating valuations despite deteriorating business realities. Bankers have sometimes extended themselves to offer overvalued deals, while large investors continue to pile on despite inflated valuations, driven by liquidity. These actions risk creating steep overvaluations.

  • Overcommitment of public money by political parties: While the market's base case assumes the continuation of the current pro-growth government, recent state elections and budgets from opposition parties have indicated a trend towards promises of direct transfers, freebies, and subsidies. These policies, such as free electricity, unemployment benefits, increased monthly rations, and subsidized loans/grants, reflect the challenges posed by a weak rural economy and high inflation. Large welfare policy announcements in recent pre-election budgets have raised concerns about overburdening government finances. While India has showcased financial prudence in overcoming the COVID situation compared to developed nations, political compulsions could jeopardize the discipline needed to sustain future economic growth.

  • Rapid technological development leading to demographic burden: India has embraced technology, positioning itself as a global leader. Despite its large population entering the workforce each year, India has channelled these resources into entrepreneurship, private and government employment, fostering aspirations for progress among its youth. India boasts one of the youngest working-age populations, with a median age of 28.7 years and accounting for nearly 69% of its total, will remain higher than most nations well into 2050. However, substantial investments in automation and artificial intelligence, driven by abundant liquidity over the past decade, have the potential to displace knowledge workers. The commoditization of skills may lead to job displacement, turning the demographic dividend into a burden, as was seen in countries like Egypt and Nigeria, where promising demographics couldn't translate into economic growth due to a lack of opportunities.

India is at the forefront of global megatrends, including leadership in the G20, technological advancements through Digital Public Infrastructure, rapid urbanization with substantial infrastructure investments, increased formalization, and a commitment to addressing climate change. With its diverse economy, vibrant startup ecosystem, rich cultural heritage, increased female participation, and strategic geographic location, India is well-positioned to realize its potential. India has consistently demonstrated real GDP growth of 6-7%, and global projections anticipate a continued growth rate of around 7% for the next 8 to 10 years. This suggests that markets may see a broader level compound growth rate of 10-14% over the next 7 to 10 years. However, to navigate potential long-term risks and ensure stability, it is imperative to implement risk mitigation strategies.

These risks warrant caution and prudence from all the stakeholders in the market, such as investors, corporates, regulators, etc. Some of the possible actions that they can take are:

  • Investors must adopt a balanced and diversified approach to their portfolio allocation, taking into account their risk appetite, return expectations, time horizon, and financial goals. They should avoid chasing momentum or overvaluations, and focus on the quality and value of the companies they invest in. Retail investors must not get swayed by advice from scrupulous people and ensure to increasing the corpus of emergency funds and the funds are made available for larger near term goals/purpose expected in the next 12 to 18 months like higher education, Marriage or any health goals.

  • Increased consciousness in stewardship activities: Investors must increase their consciousness devoted towards stewardship activities to be much more vigilant on actions and approvals taken from shareholders for voting. They should ensure that the major decisions proposed by the management are aligned with the best interest of the company and its stakeholders.

  • Board of directors and more so the independent directors must be the guiding factor in times of excessive greed taking over consciousness to help the management take prudent decisions. Apart from fiscal prudence the board must also ensure that appropriate investments are done in technology and talent upskilling to fight the obsolesce risk given the rapid change in technology taking away the competitive advantages. CSR funds may be diverted to upskill jobs getting impacted due to technology and automation.

  • While Corporates may leverage the favourable market conditions to raise capital for their growth and expansion plans, but also maintain fiscal discipline and governance standards. They should avoid over-leveraging or over-diversifying their businesses, and focus on their core competencies and competitive advantages. They should also communicate transparently and regularly with their shareholders and stakeholders, and deliver on their promises and expectations.

  • Vote for Growth and fiscal prudence: we have seen many countries race to bottom where political parties have overcommitted promises and thereby strained the public finances. While the current generation believes that the freebies have made their life simpler, the burden of paying prices shifts to the next generation. Unfortunately in our country the people who are capable enough to understand these political gimmick are non-voters. For a sustained economic growth of the country, we need to vote for a candidate and/or a party that can be financially prudent and visionary for the future potential and leadership of the country. The decision is yours: whether you want a successful country, or a country governed by electorates elected by freebie voters and let economic growth suffer.

  • Regulators should ensure that the market functions smoothly and efficiently, with adequate safeguards and checks to prevent any manipulation, fraud, or systemic risk. They should also promote financial literacy and awareness among the investors, especially the retail and new entrants, and protect their interests and rights. They should also foster a conducive environment for innovation and entrepreneurship, while ensuring compliance with the laws and regulations.

In conclusion, the Indian equity markets as well as economy has shown remarkable resilience and strength post COVID, reflecting the potential and prospects of the Indian economy. However, they also face several challenges and uncertainties at the current juncture, which require caution and prudence from all the participants as investors, corporates and responsible professionals/citizens. The key to success in this market is to be informed, disciplined, and rational, and not to be carried away by greed or fear. Are we overvalued the answer is NO, can the markets correct the answer is possible given the run to digest the rapid flows. India Continues to be on a strong footing to scale newer heights, however we must not loose the sight of the upcoming evolution and build risk mitigating strategies as a community of investors, for the journey towards “NIFTY at 50,000 !”

Sumit Poddar

Chief Investment Officer & Smallcase Portfolio Manager

Tikona Capital

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