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Deepak's Memos

Wealth Letter May 2022: Roadblocks on the journey


[This is an excerpt from the May 2022 letter to Capitalmind PMS Clients] 

In a few months, things in the market have changed substantially. There’s high inflation everywhere, with crude prices hitting $120 recently. The overall markets are down 15% from the top, but many stocks are seeing a lot more damage. This is a natural correction, of sorts, but we haven’t had one in two years, so it sounds a little more dramatic than it is.

Our performance, first. As of May 31, we’ve barely kept our head above water in two portfolios: Momentum and Index. Index returns were lousy because of a horrible Nasdaq return in the last year (Nasdaq’s down 20% in the last six months) 


After a stellar 2020 and 2021, Momentum is going through a rough patch for about a year now. Returns are only 4% (indeed negative if you entered after July 2021). The more important metric, in our opinion, is that it still remains strong in the three year period.

You might be thinking – oh goodness, he’s going to give the same spiel. Be with us long term, and you’ll make it out well. Our short term return is not great but look at us long term (wow). 

That is also the correct thing to say, but it seems pointless because that’s what you expect to hear from a fund manager. What if I told you the exact opposite? That this is the worst time to be invested in markets, and you will make better returns for the next three months in a fixed deposit. This could be true because:

  • Oh goodness, inflation. It’s everywhere, even in biscuits, especially biscuits.
  • Everyone’s raising interest rates, and if you’re getting great returns in government bonds, why would you bother with equity?
  • The Ukraine war doesn’t seem to end. 
  • China’s shutdowns will have a substantial effect on the world economy
  • And India’s not immune to all this. 

These are all true. And it could be that the next three months are horrendous for returns—even the next six months. 

But what does that really mean? It would only satisfy you for the next few months if you were to go entirely to fixed deposits, even if the prediction is correct. Selling is easy; buying back isn’t. Unless you have a systematic way to build cash and exit regularly (our momentum strategy does this), it is not useful to make the timing decisions. 

The markets and the emotions of the underlying economy are often different. When the market falls, it often appears premature – why is the market falling when earnings are so good? And then the evil inflation appears, and the economy looks like it’s hurting big time. At some point, markets start to go up when the worst seems to be ahead of us – and that’s the time to be invested. Yet, most of us will be spooked by the economy and the recent fall to react.

This happened in 2009. In March, the markets hit a low of 2,500 on the Nifty, and by the end of the month, they were up 20% at 3,000. In April, markets went up 15%. This sounded too good too soon, so very few people saw the move coming – and by the end of the year, markets were up another 50% (measured from the end of April!)

Human nature is that we like to catch falling knives (“how much more can it fall anyway”). But falling knives are dangerous to catch, even literally. A stock that falls 90% is one that first fell 80% and then fell by half. 

Recently, a cryptocurrency called LUNA fell 98% from $100 to $2. The very next day, it was at $0.02, another 98% down. What falls 98% can easily fall another 98%. ( But no matter how many examples I give you, you will hear this in the next big fall of something: “How much more can it fall? Might as well buy now.”

Human behaviour is also such that we don’t like to buy stock markets when they run up fast after a steep fall because “I’ll buy it when it falls a little”. That feeling of not wanting to take a loss – because the market fall was very recent and in mind – makes it difficult to enter, especially when the bad news still seems to be ahead of us. 

Most of us can take the pain of a bear market. We just want to know how long it lasts.

Should you rip off the bandage or take it out slowly? The answer to that question is not about the pain. It’s about how many times you have to do it. Ask a person who only has to take the bandage out once – she’ll say rip it off because it’s over. Ask a person who needs to be re-bandaged every day, and the slow approach is far better because the person knows what to expect. 

Unless you need the money now – and no longer need to be in equity markets ever – your response will be to take the pain slowly. We expect to see pain, and even though markets have been kind the last few years, we know there will be times when kindness will be scarce. But at the end of all, pain in markets is usually followed by a very decent return. 

I won’t sugarcoat this. There has been pain. It has sucked to be on the receiving end of this pain. And it is likely to be more painful for some time, even if I firmly believe we’ll come out of it well. 

Momentum has had many rough months, and here’s what Anoop has to say about it:

Maybe there are other quantitative fund managers who, at such times, shrug their shoulders, point to the decade and a half of backtests, and say, “Hey, this happens, but it outperforms in the long term”. Maybe they reiterate that the portfolio gets picked using quantitative rules meant to win over the long term while taking short-term hits. And are unperturbed while making those (factual) observations.

Sure, when only our family’s portfolios are involved. But when there are client portfolios involved, it feels different.

Make no mistake, this hurts. Like what Michael explains to Tom:

“Tom, don’t let anybody kid you. It’s all personal, every bit of business. Every piece of shit every man has to eat every day of his life is personal. They call it business. OK. But it’s personal as hell. You know where I learned that from? The Don. My old man. The Godfather. If a bolt of lightning hit a friend of his the old man would take it personal. He took my going into the Marines personal. That’s what makes him great. The Great Don.” – Mario Puzo

So yes, this hurts. But not in a way that makes us question the core principles.

Ok so, what next?

Markets continue to be weak, notwithstanding the mild rebound in the last week. Whether that leads to sustained recovery is anybody’s guess and remains to be seen. We can’t say how much more bashing momentum-led strategies have left. We certainly aren’t going to make daft predictions about future returns.

(back to Deepak)

Our focus now is to figure out when the times will change and to take advantage of the opportunity in adversity. The war will end, inflation will come down (it’s the nature of the beast), and interest will keep rising until the central banks realise they have raised them too much. The markets will reward the survivors, and as this gets evident, they will be in our portfolios. 

Predictions of a glorious victory are motivating, but the battles must be fought, and blood has to be lost before we claim victory. It’s time to be on the battlefield now. 


Keeping it real,


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