Worst is behind us, but the road ahead will be a long one
Dec 09 2013
How critical a trigger the outcome of the assembly elections is going to be for the stock market? Do you expect a big bounce in stocks if the verdict goes in favour of the BJP?
The market seems upbeat on the prospects of a strong government at the centre, which it interprets to mean decisive governance. Decisive governance is expected to create a stable business climate, where economic growth gets a chance to come back to the 7-8 per cent level that we have come to expect as our long-term growth trajectory, along with employment and consumer confidence. The state elections are being seen as an indicator of the general elections, but that is still some months away, so it seems a bit premature to project all of these expectations into the decisive result predicted by these polls.
The finance minister claims signs of recovery in the economy, but if one were to look at core sector data, PMI, they present a confusing picture. How do you read the health of the economy at this stage?
The improvement in CAD is not structural, as gold demand is artificially suppressed even as there are reports of rising gold smuggling. I would think the worst is behind us in terms of macro, but the road ahead is still a long one.
Stocks continue to show strength irrespective of the macro numbers. Do you think at some level the market has stopped reflecting the fundamentals of the broader economy? If so, would you blame the FIIs for that?
It is in the very nature of the market to either run ahead or to lag fundamentals at any given time, and to paraphrase Benjamin Graham, in the short-term it acts more like a voting machine than a weighing machine. Today, market volatility across asset classes is exacerbated by doses of central bank actions from across the world even while fundamentals prove to be the counter-balance. Global asset allocators, such as ETFs, look at markets from a relative viewpoint while domestic fund managers are more likely to follow sector fundamentals, macro or take bottoms-up stock calls. The sheer quantum of money in recent allocations has no doubt distorted the Indian market, but eventually fundamentals are likely to prevail. That said, the Indian macro fundamentals do look like they have bottomed out, which implies at worst that the market may simply be running a bit ahead of itself and it is not necessarily in bubble territory.
Some fear the FII money may have created bubbles in certain pockets of the market. But data show many of the stocks where FIIs have raised their stakes are actually down year to date. What’s your reading?
I am not sure of the causality there, for instance, if one FII sells to another, the overall FII holding will not change but price may rise. I do not think FIIs have any lead over others in terms of stock ideas, also their size confines the scope of their investment mainly to largecap stocks. However, I would be cautious in some midcap and smallcap names, where there is hardly any domestic institutional holding, let alone FIIs, but the stock prices have shown sharp uptrends, which is usually not a good sign.
How do you read the September quarter numbers? Where do you see earnings upgrades/downgrades after these numbers?
It will be difficult to extrapolate the quarter’s numbers into the months ahead as it has been a mixed bag. There have been seasonal factors in some sectors, while others have been affected by the rupee movement. The change in earnings has been skewed and it is difficult to read an underlying trend shift. Besides, changes in earnings estimates are affected by the anchoring bias of analysts and are usually not the best forecasters of a discontinuous change in trend.
What is your outlook for the rupee? This seems to be a big risk before all the government targets.
The structural bias in CAD is still towards deterioration. Short-term measures have merely staved off a crisis. We see the rupee drifting down slowly to 65-66 in 12 months. If tapering by the US Fed is faster than market expectations, say it begins next month, we could reach these levels much earlier.
There is a steady rise in interest rates and the demand environment, as seen from auto sales data, is bad. Do you expect the consumer sectors to take a beating from here on?
The confidence in the urban markets seems to have taken a beating while rural markets have been reasonably resilient till recently. But now there seem to be early signs of a slowdown in rural markets and valuations in a conventional sense leave little margin of safety, especially in consumer staples.
In case a slowdown is visible in the sales data there could be a knee-jerk reaction in some stocks. But I think the key difference when people look at valuations in Indian FMCG companies is that given the size of India, penetration levels are still quite low and thus growth trajectory in the medium term is much higher than in other parts of the world, and to that extent valuations will be higher. This construct can be extended to similarly-placed segments in the automobile sector, which are consumer-facing and have a large target audience.
Is there a room for retail investors to play in the market now? What will be your advice to them?
There is always room for the disciplined patient investor. For those who cannot take out the time or spare the effort of research, there are mutual funds. But here again the game of comparing returns amongst peer funds have gone to ridiculous levels, with minuscule differences being played up, helping some distributors churn and earn brokerage, but hurting investors in the long term.
It would be best to allocate according to risk appetite, in schemes with a fair track record from established fund houses, and look to get inflation beating returns over a 15-year period. But given our short economic history, that may be a big ask, requiring a lot of discipline and big shift in investor mindset, something which may not be everyone’s cup of tea.
How do you look at the midcap basket? Do you see some interesting opportunities there?
There are a few bottom-up opportunities, but unfortunately there also equally as many, if not more, rotten apples.
Being a long-term player, how have you been playing the market of late and which are the sectors you have been avoiding and why?
We have been looking at resilient business models in this uncertain macro environment. These companies at times tend to congregate in certain sectors. We believe cash flow at a reasonable valuation is the best way to play, what is and will remain for some time, due to global macro factors, a sideways market. The domestic consumption story, from a longer term perspective and the export sectors of goods and services, from a medium term perspective throw up a lot of businesses which are facing healthy demand and to that extent are resilient, with healthy cash flows. There are still opportunities in some of these stories in terms of valuations which is where we would like to focus.