How are you looking at the market set up and the quality of earnings?
It is important to put the context of what has happened in the last one month which has been fairly surprising. If we go back 2-4 months back, the dominant anchor variable for the market was inflation and then there was some furious selloff in bonds and that dislocated the markets.
In the last one month, bond yields have rallied globally on growth concerns, I have a slightly different take on this. Now a normal in a normal situation is when every time the growth falters, the bond yield stands to rally because we expect the Fed or the central bank to cut the rates but that is true when inflation is not a problem.
This time around, even today,if we just look at the US and the estimates for inflation, if we look at the CPI estimates for December, they are running at 7%. The normal PCE, which is a variable that the Fed looks at while framing the monetary policy, that is expected to be 5.1%.
Now assume that you run three months out and if you believe that the growth is faltering in the developed markets and then the inflation is at 6%, 7%,. How will the Fed cut the rates? How will the Fed change the pivot? I am not very sure and therefore I believe that the global markets are running ahead of themselves in terms of trying to assume that the Fed will react to slowing growth and inflation is no longer a problem.
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I suspect that once we start getting inflation prints, this could very quickly reverse. In this set up, India stands out. You actually want a situation where there are global growth concerns, inflation is a problem and the commodity price is the only thing that goes against India if we are worried about what happens to oil and commodities which I believe in the current setup should not be a problem.
Sometime back, Goldman came out with a note which resonates with something which you just said – global equities may be running ahead of themselves in jumping to the conclusion that inflation may moderate very meaningfully and all of that. You are also saying that India may stand out. In next three to five years, can India decouple and perform on its own away from the West?
It is a very interesting question and however we may wish that we decouple, we will decouple in a sense that if US goes up by 10% we will go up by probably 15% or when the US falls by 10%, we will fall by 5% but I believe that we are part of that system and there are collateral damages.
We can have relative outperformance or underperformance but it is unlikely that we will have directionally different movements. That is number one. So I am not a big buyer of that theory. Now when I said that India stands out, I mean I am very surprised at the resilience of the Indian economy. Just look at the BMI figures for services and manufacturing and the core sector growth rate, the real estate –all the high frequency indicators are doing extremely well.
I think we have managed the economy beautifully and this is a hindsight 2020 analysis. We did not go overboard and had the right amount of stimulation during the pandemic, which means our inflation is running lower than that of developed markets. So we have done a beautiful job. This is despite the fact that food accounts for 40% of our weight. That means that we may not necessarily have to be as aggressive in terms of raising the rates which means that India actually stands out in terms of assuming that we can actually have a soft landing.
So our constructive view on markets, India essentially comes from a rather a constructive view on the economy itself and I think after a long time, we are seeing that a lot of the pillars are in sync in the sense that real estate is doing well, the government capex, the state government capex and finally the corporate capex. So investment seems to be picking up, credit growth which is a leading indicator in terms of how the economy does, is trending in the right direction.
One can only argue that the valuations are probably in fair territory, maybe slightly ahead of the story. If you take a two-three year perspective, some serious money will be made in the Indian markets.
Coming back to the other question in terms of China, markets at large will now appreciate a large democratic setup, rule of property, rule of law which at some point of time stands to get blurred when some serious money is being made. People tend to overlook that and obviously because of geopolitics, the economy takes a back seat and you are more worried about the business continuation and stuff like that.
Again we are talking about the need to replace large markets. It cannot be done with some pony tiger economy. Even an elephant economy like India stands out. If we play our cards well and look at the PLI template, that has been done extremely well and we have got a very good setup for macroeconomics and therefore for the markets as well.
How are you recommending positioning the portfolios right now given the way data is coming – be it credit growth, auto sales or any other?
If I take a top-down view, then we are looking at domestic cyclicals. We are worried about all those sectors that are overexposed to what happened in the developed market in terms of what happens in the US and Europe will be in a bigger mess because of gas prices and stuff like that. India stands out and so yes we are very bullish on autos.
We are bullish on the domestic investment cycle which includes capex, capital goods. The only thing is that in domestic, we do not necessarily like consumer staples because of valuations and people will read too much into this margin pull back that will happen as commodity prices come down.
Our big theme is that it is time to go wide in Indian markets which means that unlike consensus we are bullish on the midcap and the smallcap sectors. They have corrected significantly that valuations are now below those of largecaps and the breadth of investment opportunities is significant. So broadly domestic oriented sectors till the time we get more clarity.
I am tempted to ask you about financials as a space because it is like a very clear bet on recovery of the Indian market. If we go past ICICI, Axis and and look at numbers, turnaround attempt at and Bandhan claiming the worst is over, would you look at this space?
Absolutely. If you just remove the top three-four companies which essentially standout because of very strong liability franchise, which in turn means that they do not have to take excessive risk for a given level of ROE, India offers ample opportunities to create asset franchise even when there are strong liability franchises. One of the things that we have been debating internally is that it is almost unthinkable that we are completely cut down on risk.
So we meet a lot of midcap and smallcap companies and we have got a different spectrum in terms of risk. We just look at the banks and their disbursements. 80-90% of the disbursements are above A or above AA, how many AA, A companies are there in the country? Now I believe that as we start seeing a pickup in the growth, the animal spirits will start coming back which has been completely absent in the last 8-10 years. The balance sheets are in fantastic shape, most of the banks are very well capitalised including some of top-tier PSU banks.
I believe that a lot of the alpha is going to be made outside the top three banks and it has been playing out in some fashion.
has not gone anywhere. You have seen over the last one-and-a-half years, the rally had been led by and a lot of the banks are going to come back. We are just seeing how strong the rebound was there in . It is up 20-25% after its results because of a knock down to below book values on headline news rather than the numbers. We are seeing some momentum in . The numbers were okay and market was very apprehensive getting into the results season. We are very excited about the space.