Best time to differentiate the good companies from the bad ones is when the market is down

Rabindra Bhattarai is a prominent stock analyst in the country. He has been actively engaged in promoting financial literacy about the stock market for the last one and a half decades. He has penned a number of books, given numerous trainings, and even published audio-visual materials to educate the people about the stock and commodities market. ShareSansar recently caught up with him to give insights about the stock market, especially at a time when it is in the thick of a bullish trend. We hope our esteemed viewers will benefit from this interview.

Tell us how you got into the stock market.

It all started while I was doing my thesis for the Master’s degree on the clearing and settlement in Nepal’s stock market. I had completed that thesis in 2059 BS. Inspired by my thesis, a friend of mine asked me to write for new journals. Eventually, I got an opportunity to write articles for New Business Age. Now that I had to write about the stock market, I was compelled to understand the market better. Then I saw a lot of opportunities in the market. That’s how I got into the market.

We hear that your office, Securities Research Center and Services, deals with the latest developments in the domestic stock market including CDS and Clearing, portfolio management company, anti-money laundering and investing and computerized investment management. Please tell us more about its activities.

Our major objective is to promote financial literary of the stock market. We are neither a brokering firm nor a consulting agency. Our work is to conduct research on the stock market and publish the findings in the form of articles and books. We have published more than half a dozen book so far. We also conduct interactions with the stakeholders and give training on the stock and commodities market.

We also held a capital expo in 2009 for the first time. The idea is to sensitize the people about the benefits of the capital market through different means. We have produced a film titled Aasha on the stock market. we have also released a musical product called Share Dohari, which is a folk duet about the stock market. Hence, we have been continuously generating all possible materials to promote general awareness and financial literacy about the capital market. But we do not do this free of cost.  We charge for our services.

How many people have you trained so far?

We started the training back in 2062/63. We must have trained tens of thousands of people directly and indirectly so far, though we have not maintained the exact record.  We give training not only here in the capital, but also outside the Kathmandu Valley from time to time. We conduct trainings at major business hubs such as Biratnagar, Birgunj, Pokhara, Itahari, Narayangarh, Butwal, Dhading and Nepalgunj.

So, it’s been around a decade since you have been actively engaged in the stakeholders of the stock market, and have trained numerous people. It must have enriched your experience. Would you like to share it with us?

Over these years, I have also completed a market cycle. The market that rose in 2060/61 started to decline from 2065/66 and hit the bottom on 2067/68 and then began rising from 2068. Now I also have witnessed the effects of that market cycle on the stock exchange, brokers, merchant bankers, investors’ behavior, and even share training centers. From 2065, my training center was without any business for almost four years! I had to resort to different cost-cutting measures to keep my business afloat.

The market cycle has also taught me that the best time to differentiate the good companies from the bad ones is when the market is down. Once the market started to pick up and I started to get the students for the training, I taught them about various effects of market cycle. You can see that many investors are selecting the scripts more carefully these days. Only the companies with sound financial health are being traded by and large, and their prices are also rising. This is one major change you can see in the market, then and now. If we look back when the market was in bearish trend  back in 2064/65, investors were mindlessly investing in any available scrip – even those with negative EPS!  

It is not surprising that other scripts, which are not that bad, are also gradually rising since the entire market is bullish now. Though we cannot rule out the possibility of investors getting overexcited by the bull and repeating the mistakes they made in the past, we hope that they won’t go that extent this time around.

What are the factors that are driving the current bull in your opinion?

I think it is a demand-pull market. After a certain period of the bull, the market stops following fundamentals, and is largely driven is investors’ excitement and demand-pull. This is what’s going on now. Increasing liquidity in the market is another reason that is pulling the demand in the market though fundamentally neither the relative profitability of most of the listed companies has not increased as compared over the year, nor has there been drastic economic changes.

Can the market continue to grow significantly without bringing in the real sector companies?

It’s not necessary that bringing real sector companies will ensure further growth of the stock market. Around 20 years back, most of the listed companies were from the real sector. But they are nowhere now. Most of these are delisted. We need to see how transparent and profitable are the real sector companies. I don’t have high hopes from manufacturing industries in the country at this point mainly because they are hardly transparent. It will be very difficult for the investors to get good returns from such scrips. I think what we need to bring in more of hydropower companies because they have to be transparent while selling electricity and also because this sector has soon balance the market, which is currently dominated by the BFIs. But again, if Nepal is not able to sell its electricity to its neighbors such as India and China, the growth of hydropower sector will also end after a few years.  To sum it up, we should bring in manufacturing companies from the real sector, but only after the regulators develop mechanism to ensure their transparency. Otherwise the market does not need another Harisiddhi, Gorakhkali Tyre and Jyoti Spinning Mills. Such companies would ruin investors as they did in the past.

How do you see the implementation of CDS in the country, and when do you expect it to be fully operational?

CDS is the latest technology for clearaing and settlement in the stock market. It is essential. It came into operation around the world in 1990s. Without CDS it is not possible for the share trading to take place across the country, and the investors will have to come to the Kathmandu Valley for that. Some stakeholders say that the share trading can be expanded outside the valley if the brokers open their branches there. But I don’t agree with that logic. Even if the brokers are to operate outside the valley, signature verification cannot take place there.  For instance, even if an investor from Mechi approaches a broker office in Biratnagar to buy a share, the share must be sent to Kathmandu for verification. And he will be able to trade that share only after Kathmandu sends back the share after verification. It takes long time even months, if not week, to complete this process. This is not practical in this technological world.   

On the other hand, we have not been able to implement the CDS even four years after announcing it. CDS is being delayed to poor management and policy of the authorities concerned. They have levied high charges. A listed company, which wants to issues shares worth Rs 60 -70 crore, will have to pay around Rs 70 lakh in various charges, by the time it reaches CDS after registering the scrips with Sebon. Hence these charges have to be reduced if more companies are to be encouraged to join CDS. They can gradually increase the charges as the market grows. The government is also responsible for the delay. If the government come up with the directive asking all the stakeholders to mandatorily settle share trading only through CDS, it can be implemented immediately.

How optimistic are you that the CDS will come into full operation soon?

I do not think CDS will be fully implemented any time soon. It’s been four years since we have been hearing about the CDS implementation. The government talked about the credit rating through the budget speech of 2059, and it was eventually introduced only toward 2068/69. We had to wait for a decade for the implementation of credit rating. Now, when the CDS would be fully implemented is anyone’s guess.

Generally BFIs are doing better than most of the other companies, including the insurance companies. While the insurance scrips have surged dramatically over the recent months, why there is no significant movement in the BFI scrips, which covers a chuck of market capitalization?

It is an effect of sectoral boom. Prior to 2064/65, the boom was only in BFI scrips. Among the BFIs, too, the bull was largely limited commercial banks up to 2061/62. From 2062/63, after the Madhes movement, the bull hit development banks and finance companies. Now the BFI scrips are by and large stable, but the insurance sector is witnessing boom. The insurance scrips are in fact a bit inflated at this point. Cross-holding is one of the major reasons behind this sectoral boom in insurance, owing to surplus liquidity in the banking system, especially due to heavy investments made by development banks and finance companies in insurance scrips. The surge in the price of hydropower scrips is also due to the same reason. On the other hand there is limitation for the insurance companies to invest in stock market. They can only invest 52 percent in the market.

Another reason is for the surge in insurance sector is the capital increment for the insurance companies. The life insurance companies were asked to raise their paid-up capital to Rs 50 crore while the non-life insurers were asked to raise it to Rs 25 crore. This entailed more and more rights and bonus shares. The price of insurance scrips have further surged due to rumors in the market that the regulator is going to ask the life insurers to shore up their paid-up capital to Rs 2 arba and the non-life ones to raise it to Rs 1 arba. These rumors remain unverified, but they have led to the inflated price of insurance scrips. If you had noticed, the prices of insurance scrips were gradually falling down, before the latest rumors started to do rounds over the recent months. BFI scrips also surged in the similar fashion in the past due to news and rumors about the capital increment in the monetary policy. But what the investors need to realize is that the investors will not benefit in the long run from the capital increment policy. The more the companies shore up their paid-up capital, the less the rate of returns for the investors in the long run. What is happening today in the BFIs sector is the impact of their decision to raise their paid-up capital up to 2064/65. After raising their paid-up capital, the EPS of a BFI that stood at Rs 150 fell to Rs 60 after the capital increment. In the same way, the impact of the recent decision to raise the paid-up of insurance companies will be felt after a year or two; their price will start to fall.

Many investors say that the insurance scrips are rising also because there is cornering by some big players. They have been cornering the insurance scrips since they are limited – unlike BFI scrips. What do you say?

Look, cornering always take place in the stock market. Even some banking scrips were cornered toward 2064/65. But we should not forget that some players can corner a few scrips in the market for a few months -- in short term. However, nobody can corner the market in the longer run. The market will find its own way.

How do the investors stand to benefit in the ongoing bullish market, and what are the risks involved now?

When the bullish market leaves behind fundamentals, and is driven by demand, it will lead to lesser returns and higher risk.  Smart investors should square off the shares equivalent to the amount they have actually invested in the market. And if they want to remain in the market, they should keep only those shares which they have not directly invested. They should retain the remaining shares only if they are of good companies, which are fundamentally strong and will give good returns in the long term. I call this zero investment. This also means zero risk and infinite benefit since the investor has already recovered his or her investment.  For instance, those who did not square off Standard Bank scrip when the market was about to crash last time, and still retain the scrip are still not in loss since the company is fundamentally strong. Hence we have to be very careful about the kind of scrips we want to retain at this point.

Will the NEPSE benchmark index breach the previous all-time high level of 1175, or will it end in a depressed bull?

If we look at the benchmark index per se it is below 1175 level, but actually it is above that highest point. Why? When NTC was listed in 2063/64, its stake in the total market capitalization stood at around 20 percent. The surge in NTC price was largely responsible for the benchmark index to reach 1175 level. As this scrip began to fall, the market also fell along with it. Today its stake stand at around 10 percent, and the market has not been affected by its price.

Actually our benchmark index calculation is flawed, and is affected by the price of a handful of companies. We need correct this problem immediately as ours is largely an index-based market and not company-based one.

Irrespective of all this, one good thing about the market is that it will not collapse in the way it went down  after reaching the 1175 level, as there is excess liquidity in the market. For the time being I feel the market will continue to rise in days to come for some time and cross the previous peak. The market can go into immediate correct only if the central bank strictly tightens margin lending or the BFIs raise the interest rate significantly. This does not look like as of now.

Nobody needs to over exaggerate the importance of information for any investment. How transparent are the listed companies when it comes to information disclosure?

Insofar as the BFIs are concerned, the central bank regulations make it mandatory to disclose their information in various forms. BFIs are more regulated and transparent than the non-banking sector. But there are some problems with regard to disclosure of information of most of the listed companies. However, there are some companies which are very effective and efficient when it comes to corporate good governance and disclosure of information. Standard Chartered is, in my view, the best company in this regard. Sebon needs to be stricter when it comes to disclosure of information. There should be strict provision of punishment against the executives of the listed companies who leak the information in the wrongful manners.

There are some problems even with the BFIs regarding information disclosure. They have to mandatorily publish their quarterly report. But many banking institutions do not give comparative data. For instance, many of them publish EPS of the concerned quarter only. The investors cannot compare this figure with the company’s EPS of the corresponding quarter. What are they to make of such a figure? Many BFIs publish the financial report in one newspaper and EPS, P/E ratio, etc on some other paper. Some publish P/E ratio in terms of percentage, while others do so in rupees or times without clearly mentioning whether the ratio is calculated as percentage, rupees or something else. If I were in the regulatory body, I would have immediately prepared standards for information disclosure.

The central bank has also opened the path of acquisition of a BFI by another. What kind of impact this policy will have for the market?

Though the central bank has come up with regulations on acquisition, it does not clearly outline the procedures to be followed for the same. Actually the current acquisition policy is more like a merger policy because the shareholders from the acquired BFI are retained in the BFI that acquires their BFI. As far as I understand, the only difference here is that the BoD and staff of the acquired company may or may not be retained in the acquiring company. Hence, the central bank has to clearly define the procedures. I think things will get clearer in days to come.

Nonetheless, acquisition policy is good for the BFIs, and the market. A big company can acquire a smaller BFI with good financial health. It saves their time and resources such as expanding their branches.  It also helps increase a BFIs market share and capital base.

Mutual funds are being traded below their NAV in the market? But mutual funds are important tools in the market, and are doing pretty good business. Why are they undervalued then?

Firstly, the Nepali investors, who want to make quick money in the market, is not much interested in steady but limited returns that mutual funds offer. It’s not that Nabil Balanced Fund-1 and SIG1 are not faring well. If we calculate the returns they have offered around 50 percent return since both are priced around Rs 15, up from Rs 10 per unit when they were floated a year ago.

Secondly, these close-ended mutual funds are not proper mutual fund as such. The real mutual fund should be open-ended with its price determined by the market movement. Investors can directly buy and liquidate their policy in the market as and when they want. The market needs open-ended mutual funds, but the mutual fund operators are hesitating to bring such schemes.

Now more mutual funds are coming to the market. But they cannot show the NAV growth posted by the existing ones over the year since there is hardly any scope for that level of capital gain and price appreciation for some time.