How you are looking at the overall set up for the equity markets? The on-ground situation is adverse because of Covid and the FIIs are also continuously pulling out money.
Varun Daga: The market, as we always say, has a mind of its own and is now probably looking into the future. From the earnings side, we have had some good news as many sectors did well. So on the market front, things are looking alright. Markets are not willing to sell off that easily. The bull market looks robust. We have seen pockets of overvaluation at some places, but the overall market looks fine.
Before the second wave, we were doing so well across all sectors and this (Covid 2.0) was a setback. But hopefully, if things get back to normal on the economy side, the market is waiting for that issue to get sorted. Fundamentally, we do not see any big reason (for selloff). Domestic demand might get a little affected but there are a lot of opportunities on the exports side.
How will the inflation in raw material prices impact the FMCG sector, given its high valuation?
Charandeep Singh: There are headwinds in consumption-oriented sectors. There is no doubt that many of these companies are performers. But you have an earnings headwind over here because of commodity price inflation and the consumer slowdown in general. So it is possible that you may not get the desired outcome in terms of long-term IRR in this sector.
One often wonders as to how long is the metals rally going to last. Copper and other base metals are hitting fresh all-time highs. Do you feel that there is more upside left or would you say that the best is behind us?
Charandeep Singh: The last time you saw metals performing was in the rally from 2001 to 2008, and then a little bit at the beginning of this decade. It is very important for us to understand that the profit pools in a lot of these metal companies are cyclical. In the last decade, there were demand headwinds and many of these companies did not make good capital allocation decisions. The markets tend to react in an excessive manner, both pessimistically and optimistically, when it comes to cyclicals.
But to paint all the companies in the sector with the same brush is not fair. This rally could also be because of restructuring in some of these metal companies in the last decade. They have cleaned up their balance sheets and divested non-core assets. This sector has got consolidated in a large way. In steel, for example, the top 4-5 steel producers in India produce bulk of the metal now. Through the NCLT procedure, a lot of valuable assets got gobbled up.
The second thing you have is better asset allocation incrementally. Third thing, I would say, is that the best steel companies in India produce a decent return on capital and have a very secular demand scenario. So if you look at them over the last 25-30 years, they have done volume growth north of GDP and that is quite commendable.
In the near-term, they are benefiting from a great pricing scenario globally. If you are selling 50% more metal, then you have a great chance of creating more operating leverage, especially if you are capital disciplined.
Let us not assume this is a one-time thing or just a reset. It could be a compounding story as well. We should be open to that.
Is the rerating in speciality chemicals going to continue going forward? Are there opportunities or would you say that the best is in the price already?
Varun Daga: To a large extent, the multiple re-rating is probably done. But in terms of the opportunity size, it is huge. India is a hub for manufacturing and all these companies have become sizable ones now. They are generating enough capital on their own and do not really need to borrow money. So they can take up contracts from anywhere in the globe and produce at the cheapest cost.
Having said that, they have run up a lot but all we have to focus is on growth and the size of opportunity. There are times when the market corrects and you get enough opportunities where some of these good businesses can be bought.
On pharma stocks
Varun Daga: I do not think the best is behind for pharma. It is a very typical sector because every company has its own fundamentals. There are different sectors within pharma – APIs, formulations, domestic and exports. You need to pick leaders in different areas. The story is still under play and they have better times ahead.
