Indian Retail investors obsess about headline index levels, often missing out the main contributors for the rapid rise in the SENSEX. Investors get the market direction correct, but end up with stocks in their portfolios that are under-performing the market. One of the common reasons this happens, is because of the tendency of investors to look at the big winners of the previous bull market and to assume that they would re-emerge as winners in the next bull run. In the bust that follows the boom, the leaders of the previous bull run, after an exaggerated rally, typically see a very sharp correction in stock prices.
Consider the case of the Indian information technology sector in the year 2000. After the bubble burst in March 2000 tech stocks took a severe beating. However, there was a 57% echo rally from March to June 2000 that created the illusion that tech stocks could stage a comeback. Well it might have been true, but clearly at price earnings multiples of 100x the stocks were building in a growth trajectory that could not be sustained.
Similarly, the Industrials sector saw a huge rally from 2002 to 2007, rising more than 20 times3 from the lows. In the bust that followed in early 2008, the sector fell 78%4. This was followed by a strong echo rally of 258%5 from the lows, but that has since faded, although not without many half-hearted attempts to make a comeback. While the importance of the sector from the viewpoint of the Indian economy cannot be disputed, what is often forgotten is that the 2002-2007 phase saw these companies earn super-normal profits, thanks to crony capitalism. And that is unlikely to repeat.
Where is the Next Big Thing ?
A few common traits in the early stages of the emergence of the next big thing in the markets are – Very Few Listed Companies in the Sector and Low or No Representation in the Benchmark Indices. Can you spot those Goose that Lay Golden Eggs ?