2023 outlook. Picking the right investment in turbulent times

Anand Srinivasan

Sashwath Swaminathan

With the coming of 2023, the prudent investor looks back at 2022 and critically examines it.

The investor understands the principle of hindsight bias which propels one to overstate their prediction of an event after knowing the outcome.

It is difficult to say whether most could have predicted the rising tensions on the Ukraine border culminating in an overt conflict or the impending collapse of the cryptocurrency and NFT markets with apparent precision.

Moreover, the self-attribution bias persuades investors to take credit for random chance occurrences or windfall gains from price swings.

It is still imperative to examine the past year regardless of the countless biases at play in the exercise to better understand the macroeconomic environment in the current year. When looking at the past year, one cannot ignore the laggard returns offered by the Nifty 50 index to its investors (down 3.57% from its peak on January 14, 2022, at the time of writing this piece).

When interest rates are low, equities are treated as an avenue to increase the average returns on a portfolio. It follows that in a rising interest rate regime, one cannot rely on stocks to boost one’s investment returns. Moreover, the inflow of foreign capital heavily influences the Nifty 50 index. This implies that capital flees from emerging markets to developed markets when rates are raised.

Valuation haircut

The Nifty also has multiple overpriced stocks, which bring up its valuation to above its mean, leading to an inflation in the price of the entire index. When the markets correct (due to capital flight), these securities will be the first in line to face a haircut in valuations leading to even poorer returns in the index.

Gold as hedge

The Federal Reserve has signalled a slowdown in the rate hikes made over the past year on improved inflation data. A slowdown in rate hikes signals a possible rally in gold prices due to the dollar’s value not swelling as rapidly as it did previously. Moreover, gold offers a flight to safety for most in times of recession.

With the possibility of a soft-landing by the Federal Reserve thinning, gold appears to be a promising asset to consider adding more to one’s portfolio. Also, India’s current account deficit is at record highs foreshadowing a weaker rupee during the coming year. A weak currency paired with the threat of an economic slowdown bodes well for gold as an asset class. Gold also offers a hedge against inflation, should it pose a problem any time soon, rounding out one’s portfolio.

Additionally, any Indian stock which earns a return in the U.S. dollar is worth purchasing due to gains from the depreciation of the rupee against the dollar. The U.S. dollar offers a flight to safety for investors worldwide, making its rate hikes more beneficial to investors whose stocks earn profits in said currency. When there is a flight to safety to the U.S. dollar, weaker currencies depreciate in comparison, and the dollar rises in value.

The INR looks shaky when one examines the current account deficit paired with the rising interest rates. Thus, a company earning its revenue predominantly in dollars faces the benefit of having its profits augmented without making any additional changes to its business. The industries which earn primarily in dollars are the IT and Pharma.

They also offer services that happen to be necessities (information technology and medicine), which means that revenues do not fluctuate much, even in an economic slowdown.

The question then arises of whether to continue indexing in the Nifty 50 if the outlook for its performance looks gloomy.

The answer for the Indian investor lies in continuing to index but in the S&P 500 rather than the Nifty 50. As discussed before, the depreciation in currency leads to windfall gains for the Indian investor, who has now partially accounted for their loss in purchasing power by investing in the dollar.

Another vital advantage the Indian investor faces is that they can now invest in the MNC stocks previously inaccessible. Buying the parent company offers a better P/E ratio, dividend yield and greater returns.

The Indian investor is positioned in a unique spot to take advantage of the current economic conditions to maximise their returns throughout 2023 and the years after. A rational investment strategy paired with critical analysis and reflection can yield great returns in the coming future for the retail investor.

(Anand Srinivasan is a consultant and Sashwath Swaminathan is a research assistant at Aionion Investment Services)