Equity markets, where stocks are bought and sold, go through ups and downs – they rise, reach a peak, fall, and then hit a low point. It can be hard to predict these changes. Many people think that when the economy grows, equity markets should do well, but that’s not always true.
In India, the long-term returns from equity markets have mostly matched the country’s economic growth. However, there have been times when this wasn’t the case. For example, from 1993 to 2002, India’s economy grew by 12%, but the equity market didn’t change much. In contrast, between 2016 and 2023, while the economy grew around 9%, the Nifty 50 – a major stock index in India – gave returns of 15%.
Globally, there is often a weak link between a country’s GDP growth and its equity market performance, and India is no exception. In fact, the correlation between India’s GDP growth and Nifty 500 returns is low, at -0.31 for the next year and just 0.05 for the same year.
So, how can you better navigate these market cycles? To understand this, we need to look at equity markets as made up of different sectors. Each sector, like technology or real estate, behaves differently than the overall market. For example, the IT sector was a top performer in 2020-21 but struggled in 2022. On the other hand, real estate did poorly in 2022 but became a top performer in 2023.
Sectors aren’t the same either; they contain different businesses with different situations. For instance, the financial services sector includes private banks, public sector banks, and insurance companies. In 2018-19, public sector banks faced serious losses while private banks thrived. Recently, from November 2022 to October 2023, public sector banks went up by over 45% while private banks only grew by 6%.
The performance can even vary among companies in the same industry. For example, even when most public sector banks did well in profits recently, some still struggled.
This means that understanding the cycle of both the industry and the specific business is essential for success in the stock market. When looking for investment opportunities, it’s smart to prefer industries that have recently performed poorly (since they might bounce back) and to look at their current valuations.
For instance, private banks might not have performed well recently but are currently fairly priced and have good prospects for the future.
In the words of experienced investor Howard Marks, “The study of cycles is really about how to position your portfolio for the possible outcomes that lie ahead.” While following these strategies can’t guarantee success, they provide a helpful way to think about market cycles and improve your chances of navigating them effectively.
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