Purely from a fundamental and a macro basis, are you worried about the spike in CPI inflation? Are you worried about what RBI’s next move is going to be?
One needs to be cautious because inflation is a real thing. Most of the results that we have seen have been impacted by input costs going up. This includes not only raw material cost but packaging and transportation costs as well, all of which have gone up in Q4. Some of the companies have said that Q1 will be even worse. We are seeing that in the shape of CPI and WPI numbers, which are all much above expectation and much above the comfort zone.
As regards the expectation from RBI, these days it has become a fashion for everybody to talk about inflation being transitory, taking cues from the US. Some people are saying that it is probably because of supply chain disruptions. Our understanding is that it may not be temporary and ultimately people will realise that this is going to stay for a long time mainly because once the costs of not only the raw materials, but also of many other allied activities go up, it is very difficult to bring them down.
So from RBI’s perspective, we can say that they might hold till the next meeting. In our base case scenario, RBI will do anything on rates only in the second half of this financial year. They will not do anything before that. Maybe they will wait and give a little long hand but in Q1, numbers we will definitely see an impact on profitability. In fact, in the last two months, I have been expecting the downgrades to earnings to start happening.
But just to put things in perspective, last month the earnings have been upgraded by 2% consensus earnings. This is because metal earnings have been much better than all other sectors. So while there has been a decrease in expectation from auto, financials and consumer companies, the metal upgrades have been much more and that has taken care of the overall consolidated numbers. When one goes sector wise, one can see the impact of inflation and it is likely to remain there. So Q1 profitability will definitely be impacted.
In such a scenario, how should we manoeuvre ourselves when it comes to the rate sensitives? Do you think it is time to tread with caution when it comes to real estate stocks?
Yes, it is. In fact, there is no real estate stock in our portfolio as of now. The first rally had more to do with pent up demand, fence hitters and the incentivisation from the various state governments in terms of stamp duty etc. That rally has played out.
In the last two months, we have seen much lesser numbers in terms of registrations. Some of this could be because of the second wave of Covid but also as the immediate pent up demand has been fulfilled, the next round of demand will come only when people are free from issues related to health and expenses that they have done in the recent past.
Secondly, the interest rates, the future prospects of business, jobs etc. will create a shadow on the rate sensitive sectors and therefore we are cautious on the real estate sector as well as the consumption sector. There is only one Emami in our portfolio. There are no other consumption related or auto stocks in our portfolio. However, one or two auto ancillary stocks are there.
What is the opportunity you are sensing within the broader universe?
There are many stocks or sectors which have come out of hibernation after many years, especially in the case of soft commodities like sugar, tea, coffee. There are many stocks which have started performing after 10-12 years. Many of the stocks have already moved up substantially but there is a lot more place for them to go up. That is one area we are looking very positively within the broader space. Then there are stocks which are aligned to the metal sector. Metal is our most preferred sector as of now after IT. IT is 25% and metals is almost 10-12% of our total portfolio.
Within metals, besides the main metal producing companies, we are very positive on graphite stocks and on calcined coke stocks. After many years, they have started moving and will be in focus for quite some time. A disclosure, we have spoken about many stocks. I personally do not hold any of those stocks but we have recommended some of them to our clients, our directors, promoters and associates.
How are you looking at some of these PSU stocks with the divestment drive kicking off? Privatisation seems to be the key theme that market men are betting on as a trigger for the space as a whole. Is this something you would look at for the long haul?
Going by the track record, there have been many slips between the cup and the lip. For example, for more than one and a half years, there has been talk about BPCL disinvestment. They are moving slowly on it but that is the way they are. If you are banking on this theme, then you have to be with the theme for a very long time and have to be prepared to have patience and wait for that move to get over because short-term as well as technical players will come in between and go out as soon as some negative news comes. If some positive news comes, there will be a flare-up in the stock.
So that way, these stocks do not qualify for being a part of the investment portfolio because one is playing for tactical reasons and things are changing on a day-to-day basis depending upon the news flow and the actions by the concerned authorities. We have none of these companies in our portfolios but if people want our advice, then we will tell them that this will take much longer than is expected.
Normally stocks behave as if it is going to happen tomorrow. If you see BPCL moving 10% one day and 5% the next day, it will appear as if the government is going to act tomorrow itself. But then we see that some other thing has come in and it will take three or six more months. So, there is no leverage position, no expectation of very fast execution. If you have patience, then probably you can look at some of these stocks. But this theme is a very old one and everybody has already played it. There is not much juice left. It is a very stock specific approach with the view that one might have to stay with the stock for much longer than expected.
What are your views on the overall ad revenue environment subscription growth?
As revenues can definitely bounce back because we have seen a very bad situation in last one year so most of the companies had almost one to zero in their expenses in terms of ad etc. and most of the things were close to so there was no point also in advertising. Now as the unlock happens obviously many companies will try and come out with new ads and will try to reach out to their customers. Therefore media companies will do well. In media companies, we do not have too many options as there are very few available. So one could look at Zee but going by their previous corporate governance records, we have till now not initiated anything on that and in fact none of the media stocks are there in our portfolios as of now.
PVR is more of an unlock play and we believe that it can be a very good option because most people are fed up with staying indoors due to lockdown. As soon as this unlock happens, they would come out to watch movies in multiplexes. They will have a lot more pent up demand and a readymade audience available. So both PVR and INOX can be good media plays. INOX is much more of a valuation play but PVR is also very attractive. As of now, we do not have it in our portfolio but we have a positive view.
How are you looking at the theme of consumption growth? What about the companies within the QSR space?
This theme would continue for a very long time in India because we have a lot of demand drivers in place for almost all of them. In between, there will be hiccups here and there and therefore specific companies can take a beating at some point of time but most of the companies are now moving in the same direction. All of them are beefing up their online presence. Omni channel is the buzzword for everybody. And the stock valuations are also factoring in almost all of that.
The change of guard at Godrej Consumer led to a runup in the stock price although the new management is yet to come up and tell us what is their strategy. It is all hope trade as of now but the stock has already given more than 30-40% returns and everybody is still hoping that things will be much better. So we need to hear from the new management what they are going to do or what is the new thing that they are going to bring. I think the first expectation and the hope has played out now the reality and the execution will have to be shown in order to support that movement.
In terms of QSR stocks, they are again always fully priced in. One does not really have too much– there can be momentum stocks but you cannot have them now to think that there will be a lot of value creation. We have the
stock. Macdonald’s is in one of our large long-term portfolios that is based on the theme that the penetration level will keep on increasing and therefore they have a very long way to go for the next five, 10 years.
That portfolio is designed for those stocks where the penetration currently is very low and over the next five, 10 years, the pie will increase and the company will gain more market share. So that is a very long investment theme, but in the near term, I do not think there is too much potential to get returns from these stocks because they are already priced at 70-80 times and there is hardly any scope for further rerating.
What about the USFDA warning letter coming in for Lupin?
In pharma, compliance is a given. So the FDA issues have to be borne. In the last one and a half years, due to restrictions of movement, the inspectors were not able to come. In between, Shilpa Medicare also got the warning letter. Lupin continues to face these issues. So to assume that USFDA will be lenient and these issues will go away on their own is naive for anybody investing in pharma. The companies which have the capability to manage and the culture to take care of the quality issues, will be the winners in the long run.
Within this space, we like Gland Pharma mainly because of the USFDA compliance issue. They have an impeccable track record of seven years but more than that, their product pipeline is in injectables which is a fast growing area and there are many products which are in the shortage list. That means the company’s business base is very strong. Also, there is an added opportunity from the vaccine. The way to play pharma these days is; a) play for the short term for the next two quarters — may be through vaccine players like Dr Reddy’s, Cadila, Panacea Bio, Gland Pharma. b)Play it for domestic growth because IPM is showing very strong growth. Torrent Pharma, Alkem, Ajanta Pharma have all been showing very strong growth on the domestic front also.
The US generic business will not come into reckoning very fast, it is going to be slow and steady and there is no pricing power. There is no major new approvals coming in. Aurobindo is one company on the US facing side which we like mainly because they have a very strong portfolio of injectables and antibiotics and they are also a vaccine play which is a combination of many things. As of now, Gland Pharma is the only stock which we are holding in our portfolios.
