Brace Yourself it's going to be a Bumpy Ride

- Vikram Kotak

Dear Investor,

It's possibly the most strange and difficult time to write a note when everything is changing rapidly and is quite uncontrollable. As I write this note: The Fed has hiked rates by 50 bps yesterday night, preceded by RBI waking up and realising they don’t want to be behind the curve taking back the cut of 40 bps done in the First Covid wave in 2020, and the cherry on the top, they hiked CRR by 50 bps points despite good liquidity in the financial system. I am sure they know more than all of us.

The world is suddenly surrounded by a surge in inflation, supply chain issues, geopolitical war, supply shortages, (starting with chips to wheat to now palm oil), and a non-stop rally in commodity prices well supported by new investing tigers with lots of liquidity but lacking wisdom. The biggest risk that right now no one is talking about is China. China is the factory of the world. It is going through possibly the worst Covid crisis adding more woes to supply chains and exports. Let me dwell upon it.

Nearly 400 million people across 45 cities in China are under full or partial lockdown as part of the Zero Covid policy. Together they represent 40% of the annual GDP of China. Global financial markets are undermining the impact of this Chinese shutdown. Ports are at a standstill, food shortage is hurting, and cargo airlines are operating at minimal capacities. Sony and Apple supplier plants are idle, and Quanta, the biggest notebook manufacturer and MacBook maker has entirely stopped production. This situation has had huge consequences on world GDP as well as exports.

5-10% lower global GDP for 2022 was any way forecasted due to the Russia-Ukraine war. I am sure China’s GDP growth will be much lower than 5% (predicted over 5.7-5.9%) and it's not yet factored in. The Chinese government’s pandemic response of shut down impacting them by approx. $50 bn a month. This can further hurt world growth rate.

Would this mean good for commodities and oil as China will consume less?

Yes, surely in the short-term, if we were in the globalised economic arena which was a few years back or the Russian war issues was not there we could have seen oil and commoditiesfalling and given the world a relief from inflation for the short term. But that’s not the case for now. Also, thanks to Covid and excess currency printed by the developed world has left more money in hands of investors and traders who keeps on deploying the money in every asset class at every fall. Like Warren Buffet said in the last AGM, “the stock market is now less of an investment destination and more of a gambling parlor”. Exchanges and brokers make more money when they trade and do not invest.

Also, Charlie Munger rightly described in the same meeting “We have people who know nothing about stocks being advised by stockbrokers who know even less. It's an incredible and crazy situation that's not good for the long term for any country.”

Hopefully, the situation is changing worldwide and most markets have started seeing a deep correction.

Many US small-cap tech and creative stocks are down by 50-80%. In India, the situation is not so bad despite many IPOs flunked and many stocks being corrected from crazy valuations. Still, momentum and eagerness to buy in dips is still on due to historical under-allocation to equity and well supported by Technology (ease of trading and investing). However, there is a difficult time ahead for many creative and crazy valuation stocksin times to come which will have some impact on the rampant start-up valuation frenzy. One of the examples which come to my mind is climate change and green energy.

I am sure over-optimism and over-valuation in this stock will cool down. Australian $188 bn worth pipeline of projects are yet to translate to a single drop of green hydrogen being sold.

We believe the world is going to see inflation pressure in near future not only due to logistic constraints or de-globalisation but due to underinvestment in essential commodities over the last many years and with consumer demand going to remain more or less strong we will reel through the pressure of inflation in times to come and we will see Fed and more Central banks will follow the path of raising rates because that’s the only path to restrict inflationary trend till we sort supply side challenges.

The worst brunt of inflation is faced by the bottom 40% of the population (mostly non-farmers). This will have a huge impact on demand and consumption in the medium term. The stickiness of inflation may outlive commodity price shocks because of the greater pricing power of large firms and higher MSP and higher tariffs. The next 3-6 months will give us a good buying opportunity in Indian markets particularly with a 2-3 years horizon as valuation and expectationsstart settling down.

I am happy to inform you that for the year ended on March 31, 2022 both our funds have done exceptionally well keeping in mind our conservative and large-cap focussed investmentstrategy. Both funds have done better than overall markets and done significantly better than comparable peers.

I think you will find it interesting to run through the excerpts of the last 12 months’ C.I.O. notes.

Wishing you good health and happy times.