The news on the medical front is getting better but the markets have not reacted to the second wave. Why are markets getting complacent?
A couple of reasons for this. One is clearly the element of negative surprise that was there last year when the pandemic first broke out. That is not there this time around because over the last one year, people have in general have got acquainted with the problem. While, of course, it has gotten much worse in the second phase compared to the first one, there is greater familiarity with how to control and the protocols to follow to be able to get over this.
The fact that we are probably not following as much of it is a different issue but we know what to do in order to get this thing under control. Second, of course, is the fact that this time around, the lockdowns are not as severe. Obviously the government has made it very clear that they do not really want to go in for complete lockdowns, So a good part of economic activity is still around and kicking, especially the ones which are not associated with social distancing.
Third is the fact that we have seen the evidence of the vaccine rollout in some of the other countries and their ability to control the second or the third waves out there. India has lacked many of the initiatives in the last couple of weeks. Vaccination will pick up materially in the next three-four months. Our view is that within a year’s time or probably less, we could get 70% or more of the eligible population vaccinated with at least one dose and 20-30% might even have got two doses. All these things have not necessarily evoked the kind of panic reaction one would have thought on account of the second wave.
Is it time to buy the bad news or time to hunker down and bring expectations to realistic levels?
Do both — buy the bad news simply because the compression of economic activity will not be as much as what we saw last year and on account of various factors that I mentioned. The other is to keep your expectations under control. You cannot expect the kind of returns that you got last year to follow through in this year as well because a fair bit of momentum or valuation catch-up has happened in the markets.
I would not, therefore, want to say that the markets are extremely overpriced. But they are not of the discount that we probably got last year and therefore we should not even think of 30-40% gains. We should revert back to trend returns or mean revert to more average returns between 10% and 20%. With that expectation, one can even buy the dips. So I would say buy the dips, buy the bad news but keep your expectations within control.
Would you stock up further on defensives or would you go deeper into cyclicals right now?
The cyclicals make a little more sense to us, given the impending recovery not just in India but also globally. In fact, global cyclicals are probably better positioned for the very near term given that India will probably face a little more challenge over the next maybe a quarter or perhaps a little more than that to get the consumption part of the economy going.
So cyclicals, industrials and maybe financials are some of the value plays that offer more money making opportunities at this stage. Also because some of these places have seen some reasonably decent cuts in prices in the last couple of weeks in the correction of the market. So while optically the market may have just corrected 5-6% from its peak, many of the stocks have corrected a lot more. Our focus would be especially on banking as it has corrected quite meaningfully. That is where we would probably spot value.
Basically I am looking at areas like financials, industrials, certain global cyclicals and commodities. These are the places that are holding out a lot more promise at this stage. The consumption related stocks will probably take a little bit of time to come back. We have not seen much of a correction out there to begin with. We are trying to increase the value component of the portfolio.
Would you stick to the frontline names in these pockets or would you also look for opportunities in the broader markets?
Well we are absolutely market cap agnostic. At this stage, I do not really think we have any great preference for large cap or mid and small caps, I mean, whatever comes to the table which makes sense to us. Maybe we are finding probably more opportunities in the broader market and so perhaps from that standpoint, maybe mid and small caps look a little more attractive. But we are not necessarily averse to buying large cap stocks if we see value out there as well.
So we are not cutting it across market cap at this stage and we are not trying to be defensive either. We took a stance since the beginning of the year that we are likely to see an economic recovery, however modest. At least in comparison to the last couple of years, we should be a little better off.
Of course, the second wave has hit us and has interrupted this journey for a while but somewhere down the line this is going to subside. The pandemic will abate. The government response despite being delayed is now really very strong and probably the rate at which infection would come down would also be as high as the rate at which it went up. All these things make us believe that we are still on course to get that economic recovery objective that we have in mind and therefore we are positioning ourselves from that standpoint. Within that, we need to fine tune.
We probably need to give a little bit of back seat to consumption related stories at this stage. People-centric consumption-centric businesses will probably take a little bit of time to recover and probably early next year we will get a large percentage of our population reasonably covered. That would bring face-to-face businesses back in action. But up until then, industrials probably make more sense as these are not necessarily constrained on account of the present situation.
Do you think that the second wave is really going to challenge the prospects for the capital goods sector?
Well I do not really have stats to support it but anecdotal evidence does not really seem to suggest that there is a lot of reverse migration like we saw in the first round. Even after the first round of migration that we saw last year, the comeback was quite quick and economic activity resumed pretty fast.
I do not really think the dent this time around on capital goods or infrastructure related activities is going to be very big. It will be a reasonably shallow impact as things stand today, assuming what we are expecting pans out in the next two, three months. Where I see a little bit of a challenge for sure is smaller businesses, mid size, small scale industries because small retail is the place which gets hit all the time,
Whether it was in the first wave of the pandemic or the second, small retail has always taken a beating. What is quite clear unfortunately is that whether it is a limited period lockdown or a prolonged lockdown, some of these very unorganised or retail oriented businesses will be the ones which will take probably the most of the brunt. Maybe, in the near term and medium term, that will benefit some of the larger enterprises as the unorganised to organised shift accelerates but it might probably lead to a bit of a long term problem as well. This is the segment which imparts a boost to consumption. It is unfortunate but that is where the largest share of the pain of these lockdowns have been observed.
How are you playing the entire tech and digitisation theme?
Most of our choices are from the point of view of available opportunities revolving around the pure IT services space. There are one or two tangential ones but not much to speak about whether in terms of breadth or size. There are a couple of engineering R&D (ER&D) related IT services which we like. So it is a mix of that. We have been overweight IT for the last two to three quarters and it has worked out quite well. We are still fine with it.
The only thing is that in this correction of the market, tech has not necessarily corrected as much and therefore when we try to look at opportunities or places where there has been some value erosion or prices have come off, we would like to use some part of tech to rotate into some of these opportunities on the industrial and cyclical side. So we are in IT but maybe at some level we have reduced a little bit of our overweight as far as tech is concerned. They are still good to go as they provide a reasonable amount of visibility of earnings at least for the next 12-18 months.
