You say the sectors to avoid are FMCG and auto. Let us begin with auto. Have you changed that view at all given what all has been happening at Tata Motors, the big move in Escorts and auto makers looking to get more EV ready?
On a stock specific basis, we continue to be quite positive on a couple of stocks. Tata Motors is part of our Braveheart series and it has been there for a while. We also think that this shift towards EVs is only going to accelerate, it is a fundamentals shift and globally we see a lot of value is going to start shifting to that side. That said, remember these are big sectors as they exist and at the end of the day, they are very demand sensitive and that is what drives them.
As far as the auto side is concerned because there is a high element of discretionary spend and because the jury is still out in terms of how much the economy has rebounded, that is what we got to watch more closely. This year, Diwali season was marked by lacklustre demand. So to that extent, it is still a little early to start making an aggressive auto call at this point in time. Demand is going to be a little overriding and one will have stock specific stories, but at a broader sectoral level, we just wait a little bit more to see demand jumping back.
Read Also: Easy gains over for realty; IT sector can be backed for 3-5 years
Is FMCG a sector to watch out for or should it be avoided because of the recent valuation runup?
Yes, it is avoided largely because valuations are high. We are just a little cautious in terms of how much return one can make off this sector, particularly because there was a point in time where earnings were very slack in the market in the broader economy and there was a modicum of stability and consistency as far as earnings were concerned.
When we have a rebound in the economy like we have now in some segments, in any case then the market is going to start paying up more for sectors that show large earnings growth or at least where you can expect step up functions at some point in time. That I think is unlikely to happen with FMCG. While a lot of margin pressure has probably been taken, it is probably because of costs. I am not so sure that the costs are going to drop off dramatically enough for the earnings trajectory to start changing very dramatically over the near to medium term.
In that context, they are a safe haven if one is very bearish on the market. But from an earnings and growth profile, it is going to be a little bit more muted. So from a portfolio perspective, we would tend to give it an underweight there. We think that there are other sectors where there is either a catch up to play from a pure valuation perspective or there is a robust demand cycle which allows you to piggyback that.
What explains the underperformance of banks at large? Also, would you say that this underperformance is a good opportunity to add to your portfolio?
So two things; I will answer your second question first. I do think it is an opportunity to actually pile into this sector. We are running it a large overweight and it is about time it started working. To your bigger question on what explains this underperformance, it is a little bit of a challenge. Firstly, we are seeing this globally. Secondly, we have actually started seeing loan growth pick up a fraction and so to that extent, it should have started coming through.
I would attribute it to the fact that at this point in time, the market seems to be seeing this as a phase where there is a transition happening from traditional to the newer forms of lending and also the fact that equity capital is coming in large measure. But if one is expecting these banks to go back to their peak valuations, then one is being too optimistic. But if one looks at them in the context of the fact that having underperformed, there is a de-rating risk and staying away from them, one could miss out because once the economy starts picking up a little bit aggressively with loan growth coming through, it is going to be the traditional cycle of loan growth picking up, interest rates firming up a little bit and a margin upside. That is when we will start seeing a valuation rebound.
I would just say that this pain is a little transitory. At this point in time, I see it as much more of an opportunity than a structural trend where one should typically stay away.
The other thing that one needs to keep in mind is that pure earnings from a reversion of provisions are going to be fairly supportive and the sector is much cheaper than a lot of sectors in the market. So we are overweight in this space. Everything is falling in place and we would tend to believe that this is a sector that will do pretty well from here.
