'SIP is best option for small investors'

Motilal Oswal, chairman and managing director, Motilal Oswal Financial Services, outlines an equity market strategy for retail investors in a freewheeling chat with Business Standard. Edited excerpts:

What is your view of the current market?
I think the markets are doing well. There is a lot of skepticism among people that the market is overvalued, but they are ignoring the fundamentals of the economy.

For the next two years, corporate earnings are likely to grow at a compound annual growth rate of 25 per cent.

We are talking about eight-nine per cent gross domestic product growth. More than $10 billion of foreign institutional investor money has come in the past seven months only.

Corporate earnings, GDP growth and a good monsoon are all contributing to a positive market sentiment.

So, is getting into the equity market a good move for retail investors?

In my opinion, a systematic investment plan in a good mutual fund is the best option for small investors looking at an exposure to equities.

I expect the mutual fund market to improve once the systems are in place, since the undercurrent is very strong. Today, where can you put your money?

Fixed deposit rates for less than a year, at six per cent, will not even cover inflation. The inflation-adjusted returns are actually negative. Today, options are very limited.

In such a scenario, equity is the only asset class that has given a 17 per cent CAGR (if you consider the index movement from 1979).

But then, investors need good advice, and must invest in good stocks to consistently derive superior returns from equities.

What is the best strategy for a retail investor today?

Every investor, big or small, needs to be sure of how much capital he wants to allocate to the various asset classes.

Equities offer superior returns, but investing in equities is risky. My advice to small investors investing directly in equities is -- always invest in companies whose business you understand, instead of just following the trends in the market.

It is important to be aware of the risk at hand. Big investors may have experts doing the risk-profiling, but it may be difficult for small investors to get quality advice.

Three important aspects to derive superior returns from equities are -- good stock selection, a long-term horizon and buying stocks at correct prices.

How can an investor identify a good stock? What is your advice to them?

An investor should remember that he is investing his money in a company and not in the markets.

He has to be sure that for the next two-three years, the company will do better than the markets and make money for him. Ideally, if the economy is growing at 12-13 per cent, most companies will also grow at the same rate.

However, a smart company should be able to deliver more — say, a 30 per cent-plus growth.

So, any company that offers a sustainable 15-20 per cent earnings growth today is worth investing in. Ideally, over a period of time, the stock price should also grow over 15-20 per cent. But it may take time for the stock market to get aligned to the fundamentals of the company.

A retail investor should also make sure he is buying the stock at a reasonable price. The best way to do this is by identifying companies that have a price-to-earnings (PE) ratio of less than that of the index but have great growth prospects.

Such stocks offer a good margin of safety. In a falling market, such stocks will fall, but when the market recovers, they will recover faster than others.

Which stocks and sectors are you betting on?

There are several stocks in banking, engineering, infrastructure and automobile sectors that could be looked at.

A few companies from pharmaceuticals and realty sectors also have good fundamentals. I think fast moving consumer goods stocks are good but are valued too high. I believe oil marketing can be the next sunrise sector, given the fact that the government has started taking steps to deregulate oil prices.