Value investing works very well when we find companies trading at a significant discount to their intrinsic or fair value. In bull markets, it would be next to impossible to find attractive value propositions. Most stocks trade well above their historic valuations, so their attractiveness is bound to be low. This is why value investors sell their “overvalued” stocks during every bull market and wait out periods of extreme exuberance.
The time to actively hunt for value opportunities is when the broader market trades cheaply. The market conditions in March 2020 presented a great opportunity to find value. Investors simply needed to buy a basket of good, well-managed companies that had fallen too quickly. The returns over the next three years would be eye-popping. Company valuations swung from extremely undervalued to highly overvalued between 2020 and 2024.
The current market phase hardly presents such obviously cheap investment opportunities. Our economy’s macros face adverse challenges due to heavy FDI outflows, a weak exchange rate under constant pressure, and a spike in energy costs that could impose serious inflationary risks. This could cause the economy to slow down as the country fights inflation. Further, pressures on the fiscal deficit can also increase our worries. FII selling shows no signs of abating, and the pace of selling is leading to rapid valuation contraction in heavily sold stocks. This, combined with weakening macros in a slowing economy, will further moderate valuations. This could lead to pockets of undervaluation in sectors, themes, and companies. The challenge for investors is to capture those opportunities in their portfolios during every correction.
When economic growth slows, company profits won’t grow fast enough to sustain valuations. This inevitably leads to a fall in valuations. When economic growth returns, company profits grow faster. Naturally, their stock prices quickly reflect these changing fortunes.
The best investment opportunity lies between these two market stages. Investors who are prepared to participate in the market during sharp sell-offs will capture value opportunities in their portfolios. Aggressively pursuing this strategy during a prolonged sideward phase makes portfolios compact, strong, and future-ready. Investors active during this phase tend to beat benchmarks, peers, and their own return expectations.