Whether it is liquidity or profit-booking or maybe both, the market has taken a hard knock in the last couple of days. Is it too early to say that the fear of bears is back?
Yes, probably it is too early. We have had a very strong momentum over the last few months and the correction is more like a pause. I wouldn’t even call it a correction yet. This is basically a consolidation, given the kind of runup that we have seen and way valuations have run up. So, I would say it is more a consolidation rather than anything else and the uptrend is pretty much intact.
Nobody is arguing with the macro. Macro is very favourable as inflation is low, liquidity is high and the FII narrative to invest in India is at an all-time high. The challenge is that a) valuations are stretched and b) markets have already started talking about FY23 and FY24 earnings. Isn’t that a stretch?
It depends on the perspective. If you are essentially a medium-term investor, then obviously you need to be focussed on what the emerging scenario is going to be over the next two to three years and that is always basically the case. It looks like after a very long time, we are seeing some robustness in terms of the macro economy as well the growth outlook. There is no denying the fact that the next 12 months are expected to see double digit growth in terms of GDP and hopefully that will set the platform for a sustained growth there on. Maybe, we will not step into an extended period of double digit growth but one year of double digit growth followed by a high single digit growth is fantastic. It is not going to be seen in any other part of the world and to that extent, India’s attractiveness is still intact and is probably getting better with every passing day.
The joker in the pack is going to be commodity prices, given that we are huge importers of commodities and that has its own implications in terms of interest rates. Otherwise, we remain a very attractive destination and will remain amongst the best growth opportunities the world has.
Commodity prices have gone higher and are hurting margins of companies like HUL. Are we reaching that point in time where commodity prices are likely to sustain because if that is the change, then tha will mean a lot of changes for industrials and cyclicals?
Clearly, that is the big risk that we face as investors and in terms of growth. In the past when India has witnessed high levels of growth that has been inevitably followed up by pretty high inflation as well which comes in because of high commodity prices. It is early days yet and most of these commodities are probably at their three-year or five-year or in one or two cases, at a seven-year high.
But, a) I do not think there are new highs in terms of commodity prices number one; b)I still believe that strong franchises and producers still have the ability to take price hikes in terms of their end realisations. So companies like Maruti, HUL are favourably placed to take price hikes. Some of them have started taking price hikes and are able to pass it on to consumers.
Maybe we have reached a level where we are close to a threshold and may be an increase in commodity prices is fine but another 5% to 10% increase in commodity prices from here will start to hurt because beyond a point, producers will not be able to pass on those hikes. There will be a push back in terms of consumer demand.
Clearly that balancing act will go on for some more time. We need to keep one eye on how inflation and how commodity prices behave.
A lot of the pressure continues to be on the financials even though earnings have been pretty much in line or in fact positive what is making the market still so jittery when it comes to the financials?
Directionally, whenever there is looming inflation and we see correction happening in financials. I still believe it is early and that may not be the prime or the solitary reason. The big reason is essentially the uncertainty around recognition of NPAs given that there are certain directives in terms of the moratorium and the recognition of NPAs or the asset quality issues. I truly believe that is going to be the single big event in a very short to medium term and that needs to be out of the way. Once that is sorted, markets will take a more normal view of asset quality and its implication for banks. So, till the moratorium related issues for banks get sorted out, they could be under some pressure. The frontline banking names are up 40-50% from their lows in October. There is a lot of room for profit taking for people who want to take some money off the table. I still think that the competitive intensity is going up. Earlier, there were just two leading private banks which were in a way pretty much calling the shots and leading the party in terms of credit growth. But now some of the other private banks and some of the PSU banks have in a way set their house in order.
They are well capitalised and have essentially recognised most of their problems relating to asset quality and are well set for growth. Clearly competitive intensity is going up. What is getting reflected in terms of the interest rates for home loans is clearly a manifestation of the competitive intensity and that is also leading to some bit of corrections. It is a combination of these three things which essentially is setting the stage for correction in financials and especially banks.
Do you buy this decline just yet from a longer haul perspective? Have we fallen enough to buy the IT, pharmas of the universe?
Absolutely. We are extremely constructive on both pharma and IT. Of course, one has got to be selective but nevertheless pharma and IT present again a good entry opportunity post this correction and we expect them to relatively outperform as businesses and consequently as stocks going forward.
Clearly there are two pockets: one is the pharma and technology services pocket which consists of more global plays where the demand for their products and services is not discretionary and to that extent, there is relatively higher visibility in terms of growth going forward.
The second pocket caters to mostly domestic economy and includes some of the discretionary space like auto and related sectors. The real estate and property and the connected sectors including building materials are again fantastic pockets of growth and opportunities.
We believe that on a combined basis, these four opportunities need to be looked into. in the current times. Their last quarter earnings have been relatively fine and we expect these businesses to do well over the medium term. Any kind of correction creates an opportunity to either enter or add up to our existing positions.
Are you still sticking on to your old favourite which is LTTS?
Yes we continue to own and we like what they essentially do in terms of the ER&D space. They have the benefit of dealing with the low base given that the last four to six quarters have been relatively tepid or weak for them. Given the deal wins that they have announced, the forthcoming quarters could be good but irrespective of how the business shapes up in the very short term, it is a good stock.
Have FMCG stocks corrected enough? Are they getting ready for a good 2021?
The consumer staples pack is coming out of a period of very extended outperformance. A lot of the outperformance has come from the fact that the rest of the economy was not growing. The last 10 years has been the decade of the consumer staples broadly. HUL as a business has been growing at 10-11% but the stock price appreciation has been more like 20-24% which means that a significant part of the returns have essentially come from a PE rerating.
That was fine because some of the other pockets, especially the core sectors, the infrastructure sector, capex cycle, investment cycle were pretty much dead or moribund in the last decade or so. But that probably is set to change and we might see some of these pockets begin to do well. One example is real estate and building materials doing well.
Once some of these other businesses start to gain momentum, consumer staples will no longer be a choice by default. Yes, I mean, of course, investors will continue to own them but they may not be significantly overweight on them going forward unless valuations normalise further. For the next year or two, these stocks or maybe the consumer staples sector may just move sideways despite the earnings growth of 10-12%.
So valuations will catch up with them but in the process, other parts of the economy might do better and grow at a higher pace and we might see incremental liquidity go into those sectors and pockets. Earnings may grow at 10-12% for the consumer pack but the stocks may move sideways for the next year or two.
