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What is your stance on the Indian market vis-a-vis the Asian market and why?
In our Asia ex-Japan model portfolio, we are currently overweight India. It may appear surprising in the context of the continuing economic slowdown in India but stock selection is relatively easier in India. There is a pretty wide universe of companies which generate excess returns routinely. That means return on equities is higher than cost of equities and these companies are strewn across a wide range of sectors like consumer discretionaries, consumer staples, private sector banks. Even IT companies have been staging recovery of late. In other words, foreign investors have a much wider canvas to choose from which is reaffirmed in the trend that we see in terms of foreign flows. Whenever it recovers in Emerging Markets, India is one of the key beneficiaries.
While markets have touched record highs, the economy is at multi-quarter low and earnings are still illusive. How would you explain it?
We have seen a liquidity-driven rally. Earnings growth estimates for FY20 kept on drifting down over the year and as a consequence, valuations for India have actually moved up as the market rallied. That said, I must also point out that there was a wide divergence in valuations across different classes of stocks. Everyone looks at the top tier high quality stocks. They are expensive at this point of time but the foreign institutional investors are still attracted to them not just because of their high quality but also the relative stability in their earnings estimates and the liquidity that they offer.
If one goes down the top tier stocks to the midcap and small cap stocks, there is a degree of divergence even within those classes. The relatively high quality midcap stocks are way more expensive than the second and third tier ones. We think that while the market may appear expensive when one looks at headline valuations, it does offer stock picking opportunities and it would be possible to outperform the broader market with careful stock selection.
Is it fair to say that 2020 would be a year of midcaps and smallcaps?
I would hesitate to paint a broad brush picture saying that okay it would be a year of midcaps because within the midcap universe or even within the smallcap universe, there is a divergence in terms of quality and valuation. One would have to be selective in terms of stocks. It really would be a stock pickers’ market.
When do you think earnings recovery will come by and what would lead earnings recovery in India?
There are a few macroeconomic factors that need to fall in place. Currently earnings growth in India is being predominantly led by financials, particularly the private sector banks and insurance and a few companies in the consumer staples and consumer proxy areas. We need to see a bit of divergence and broadbasing of that universe before we see a sustained earnings estimate recovery.
One would have to see some degree of recovery in the industrial space which would happen once we begin to see a sustainable recovery in capacity utilisation which would in turn be triggered by a demand recovery. Now, obviously these are difficult to achieve in the near term and I do not think there is any magic bullet that is available either for the government or for the central bank. I would think that one would have to wait for maybe the second half of FY21 to see some of these variables fall in place.
We can expect to see some degree of stabilisation in the second half of FY2021.-Manishi Raychaudhuri
When would the economy recover from here and what would lead the recovery going ahead?
If I look back at the key economic components, private consumption and investments in government consumption, the first attempt on the part of policymakers should be to improve private consumption or in other words consumption demand and that in turn can lead to private investments improving at a later date. It would mean some degree of fiscal support which unfortunately the government does not have at this point of time.
So a more sustainable economic recovery, from pure base effect, it would take another two to three quarters at least. So, we come back to that same old equation that we can expect to see some degree of stabilisation in the second half of FY2021.
Which are the sectors which could spew up compounders from here on?
The sectors which have possibly spawned the most compounders in India are consumer staples, consumer discretionaries, private sector banks and IT services. These are the four sectors where you find most of them. Our ways to identify them are simply to look at excess return generation or in other words the companies that generate a return on equity higher than cost of equity on a sustained basis, over 15 to 20 years or so.
The majority of these excess return generators fall into these sectors that I mentioned just now. Indian companies historically have been very careful. One could even use the word stingy about raising capital and investing because India was a capital starved economy historically and that is why Indian companies routinely generate higher ROE and ROCE than rest of the emerging markets. That is the characteristic which has stood the Indian market in good stead and also engendered FII interest on a sustained basis.
What are your expectations from the Budget?
The wish list would be basically that I am not really looking at an absolute number when it comes to fiscal deficit. I would rather be concerned about what goes inside the fiscal deficit or fiscal spending. I would look carefully at whether the measures are designed to support or invigorate private consumption. I would try to look at some of the structural ways of resource raising, structural in sustainable ways. If one gets a credible impression of the government trying to raise resources from either divestments or asset sales, that would clearly be a positive. One would also look for credible assumptions on tax revenue growth or broader GDP growth. In a nutshell, it is not just the headline numbers that we would look at, we would try to see what are the assumptions that have given rise to those headline numbers.
We had Roubini the other day saying that a CAA protests have worried foreign investors. What are you hearing from your clients?
In our conversations with our foreign investors, most of the questions are actually centred around the economy, corporate earnings to be more specific. What are the implications of the measures that the government or the central bank can take on these? In a nutshell, foreign investors at this point of time are more concerned about the specific numbers concerning the broader macroeconomy and corporate earnings than about other variables that the domestic Indian investor base or the market watchers may be concerned about.
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