- Can markets deliver 15-20% earnings CAGR?
- Are investors still betting on PSBs?
SageOne's Samit Vartak in conversation with Niraj Shah on ‘Talking Point’. #NDTVProfitLive
- Are investors still betting on PSBs?
SageOne's Samit Vartak in conversation with Niraj Shah on ‘Talking Point’. #NDTVProfitLive
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01:22 - Well, it promises to be an interesting morning.
01:30 It has been an interesting morning thus far,
01:32 and we have a listing coming up.
01:34 So just let's quickly mark that listing as well.
01:37 It's BLSE Services.
01:39 It got subscribed about 162 times.
01:42 So very strong subscription numbers for that one.
01:46 And they are obviously at the National Stock Exchange.
01:49 And let's see what's the kind of premium
01:52 that this one gets.
01:53 The flashes will be on your screen, of course.
01:56 - Congratulations.
01:56 - As to what's the kind of listing price we get in.
01:59 Maybe we'll just get the price up on the screen,
02:01 BLSE Services and see how it's starting off.
02:04 Well, no surprise there.
02:05 By virtue of the kind of subscription numbers that it got,
02:08 that BLSE Services should have had a good start, and it has.
02:12 The question is, can it build on from here?
02:14 Let's wait and watch.
02:15 Still a listing for BLSE Services for sure.
02:18 Meanwhile, just some other updates out there on NTPC as well
02:22 saying that the green energy, clean energy unit,
02:26 the company plans to list it in FY25.
02:29 So that's the other stock in focus.
02:31 Thanks for tuning into Talking Point, of course.
02:36 And the case for the chat today
02:39 is by virtue of the guest that we have,
02:42 who focuses squarely on earnings and earnings growth
02:46 and companies within that.
02:47 So is a 15, 20% earnings cagger
02:50 over the next few years possible?
02:52 I think we'll ask that question to him.
02:54 We'll also ask about whether the premiumization play
02:58 will sustain the strong run that it has already had.
03:01 So that's a key question because we know consumption
03:04 record is a bit of a K-shaped curve right now in India.
03:07 And can investors like him still bet,
03:10 or have they bet and are they still betting
03:13 on public sector enterprises?
03:14 Because frankly, as we've speaking to multiple guests,
03:18 if you missed out the PSB rally,
03:19 in some sense you missed out something
03:21 that has worked really well over the last 12 months.
03:24 Our guest today is Samit Vartak
03:27 of SageOne Investment Managers.
03:29 Samit, so good having you.
03:30 Thanks for taking the time out and speaking to us.
03:33 - Hi, good morning, Neeraj.
03:36 It's always a pleasure.
03:37 I mean, I always look forward to this.
03:39 Pleasure is always mine.
03:40 - Thank you.
03:41 Samit, there's a talking point the next few days,
03:44 weeks, months, or maybe the last few
03:46 has always been the valuation of the market.
03:47 So I'll leave that out.
03:48 My only question is, do you reckon that
03:50 the earnings growth in India, I think largely,
03:55 which will determine what the index eventually does
03:57 over the long run, can it live up to the kind of valuations
04:01 that we are trading at?
04:02 - Yeah, I think that's the hope.
04:08 I think that's the hope which is built into the market
04:10 that earnings will live up to the expectations.
04:15 I think the common consensus is that,
04:17 the government, this is the third term.
04:19 So the first term was more trying to fix things
04:24 which were wrong.
04:25 There were not too many big reforms
04:28 which happened during that term.
04:31 And the second term was more of big reforms
04:35 and corporate tax cuts, PLI schemes,
04:38 and many, many other reforms.
04:41 And also we were hit by COVID during that time.
04:44 So it wasn't that easy for growth to go through
04:49 when we have such a big pandemic.
04:52 Now the expectation is that the pace is set.
04:57 I think the skies are blue.
05:00 And now during the third term,
05:02 the government will sort of unleash the capex even more.
05:06 I mean, last couple of years,
05:08 the capex has been pretty aggressive.
05:10 Almost 30, 35% kind of a CAGR
05:14 in terms of capex on infrastructure.
05:16 Whether it's the railways, road,
05:18 I mean, any kind of infrastructure power.
05:21 And I think that's expected to continue.
05:24 There is always a lag between when the capex
05:27 and the gross block gets built
05:29 to when the actual earnings start coming through.
05:32 Even this quarter, if you look at,
05:35 there has been about 18, 20% kind of an earnings growth
05:38 for the companies which I've listed,
05:40 which is not that bad.
05:43 We had a really tough 10 years,
05:45 from say 2013 to 2000 and maybe 21.
05:50 Also when the earnings CAGR was single digits.
05:55 So I think there is a case where maybe
05:58 we will revert to mean.
05:59 Our mean is about 12, 13% earnings CAGR in the long run,
06:04 closer to the nominal GDP.
06:06 And since we underperformed over the last decade or so,
06:10 maybe in the next decade,
06:11 it's possible that we will do the other side of the mean.
06:16 So that's the hope.
06:18 The grounds are set for it.
06:22 - Interesting, the grounds are set for it.
06:24 In such an environment summit,
06:26 because you always mentioned that you look for ideas
06:31 which will grow 25% for the next three, four years.
06:36 Do you find such opportunities at compelling valuations?
06:40 That's my question.
06:41 I'm sure you find opportunities
06:43 in the last three to six months.
06:44 We've seen enough preferential issues or bulk deals
06:47 where we've seen SageOne participating as well.
06:50 So you found ideas in the last six months for sure.
06:52 Are you finding them now as well?
06:55 Wherein you would be inclined to invest more money to work,
06:59 wherein the earnings growth might be 20, 25%
07:02 or higher for the next three, four years?
07:04 - So finding earnings growth is not that difficult.
07:09 You will find many companies which are 20, 25%
07:12 over the next three, four years.
07:15 So that's the easier part.
07:17 Difficult part is the valuation.
07:19 I think valuations are stretched across the board.
07:22 Maybe large caps,
07:23 you may say that they are closer to the 10-year mean.
07:27 But if you look at the mid and small caps,
07:29 they are definitely stretched.
07:30 I mean, I've seen that in the last 10 years,
07:32 which themselves were premium valuation
07:36 than compared to the previous any decades.
07:39 The range used to be trailing multiple of 25 to 30 times.
07:44 And these, I'm talking about just the top,
07:47 say three or 400 mid caps and small caps.
07:51 And today that range has shifted to 35 to 40 times.
07:54 That's the median P multiple that we are working on.
07:59 So it's not that easy to find valuation.
08:02 You are lucky if you find fair valuation.
08:07 And that's what we strive to go for,
08:10 where the expectation that earnings will double
08:12 in the next three to four years.
08:14 And at least you are entering at fair value
08:16 where the probability of taking a big hit
08:20 on the P multiple side reduces.
08:24 Markets are tricky.
08:25 I mean, this is a very tricky part of the markets.
08:28 One of the toughest markets I think I have experienced.
08:32 There are multiple bulls in one way.
08:37 You will see the craziness that you see
08:39 in the biggest bull markets, the froppiness.
08:44 There are pockets which have not moved for the last one year.
08:49 The earnings are coming through.
08:52 Fundamentals look really good.
08:54 So you'll have things on the fundamental side,
08:57 which is more closer to like a normal or a bear market.
09:02 Whereas on the valuation side,
09:04 you'll see things which are like the craziest of market.
09:09 And that's the tricky part, I think.
09:13 - So therefore, are you therefore sitting on the sidelines
09:16 or even sitting on a bit of cash summit?
09:20 - Now that's also sort of a dike for talking.
09:23 (laughs)
09:25 When you look top down,
09:27 you will see the markets are so crazy
09:30 that you want to sit on cash.
09:35 But when you look at your portfolio,
09:37 unfortunately you feel, I can't sell any of these
09:39 because I still find them attractive.
09:42 And hence, the cash level are more determined
09:45 by what I see at the bottoms up,
09:48 from a bottoms up perspective.
09:50 And it's very difficult to really sell out
09:53 of any of these companies that we hold.
09:56 And which I believe are reasonably valued.
09:59 And I think the fundamentals are very strong.
10:01 Next five years could be strong earnings too, as I said.
10:05 And in that fair valuation is not a time to really get out.
10:10 - Got it, okay.
10:11 So, okay, let me,
10:13 maybe the track of my questioning was wrong.
10:15 When I was trying to figure out
10:16 where are you putting incremental money to work?
10:18 Let's talk about,
10:19 because if you're holding onto stocks,
10:21 it's effectively buying those companies
10:23 at the current valuations, right?
10:24 You could argue that
10:25 because you have a chance to sell them, you're not,
10:27 which means you are keeping that money invested
10:28 or kind of acceding to those valuations.
10:33 Where is it that, or which theme,
10:35 where is, which sectors,
10:38 which probability are you betting the most on?
10:41 Is it cap exited place?
10:43 Is it consumption?
10:44 Is it new age economy?
10:46 What is it?
10:46 Because there's lots happening across all of these spheres.
10:50 - Yes, I mean, see,
10:51 one has to gravitate more towards
10:54 wherever is the,
10:55 whichever customer is spending the most.
10:57 So you need to maybe invest in companies
11:02 who will benefit from that spending.
11:04 Now, which are these customers who are spending the most?
11:06 I think government is the biggest customer
11:11 who is spending on building cap ex.
11:14 Government is tweaking policies
11:17 or incentivizing foreign companies to come into India.
11:21 They are making it more attractive to manufacture in India,
11:25 whether it's defense, any kind of capital goods,
11:29 renewables, across the board.
11:34 And because of which,
11:35 I think the straightforward investments
11:40 have just run up like crazy.
11:42 If you see the railway stocks,
11:43 if you see the defense stocks,
11:45 anything to do with capital goods,
11:47 any company which will directly benefit from this spending
11:51 has gone up.
11:52 Other category which I think is doing well
11:56 is the premium category,
11:59 which mostly if you look at 10, 15% top population
12:03 who are doing really well.
12:04 Their salaries have gone up post COVID.
12:08 They have made a lot of money in investments,
12:10 whether it's the stock market,
12:11 whether it's gold, real estate, across the board.
12:14 So they have, I think today they are sitting
12:16 on the wealthiest balance sheet.
12:20 I think it's missed by any of the government data,
12:23 but if you see the wealth accumulated by people,
12:26 whether it's the promoters, whether it's the investors,
12:30 it's at a extreme lifetime high.
12:34 So wherever they are spending are the categories
12:36 where I think those are doing well.
12:39 So we are focusing on those.
12:41 Direct plays, like if you just bet on the PSUs,
12:46 they have become extremely expensive.
12:49 Even if you purely bet on capital goods,
12:52 they have become extremely expensive.
12:56 I would say that one has to pick pockets
12:59 because as I said, there are pockets which haven't done well,
13:02 which may not seem to be direct beneficiary,
13:05 but I feel you need to bet on the niche plays
13:10 which will contribute towards infrastructure building
13:14 of India.
13:15 Now it can happen through power finance.
13:19 Again, that has become slightly expensive now.
13:22 You can bet it through the cables and wires.
13:25 You can bet it through some middle companies
13:28 which are niche, where it's not possible
13:30 for the number of players to go up
13:32 or the supply side to increase where demand will go up
13:35 and the company you're betting on will benefit
13:39 majorly from that kind of growth.
13:43 You can find niche manufacturing plays
13:46 which may be catering towards defense
13:49 or which may be catering towards any components
13:52 which will go into the infrastructure.
13:54 So something which are,
13:56 these are completely bottom sub stories.
13:58 You will find pockets where these are cheap.
14:02 So at a portfolio level, we are able to find companies
14:05 where the median P multiple is 25 times,
14:08 whereas if you look at the small cap index itself,
14:12 the median P multiple is upwards of 35 times.
14:16 So again, as I said, there is a huge divergence.
14:21 There is a huge gap between certain pockets
14:25 and one has to look at pockets where there is no excitement.
14:29 People want to look at things which are gonna work out
14:33 in the next two quarters,
14:34 but we are looking at things which may not work out
14:37 in the next two quarters,
14:38 but which may work out,
14:39 which will surely work out in the next three to four years.
14:42 - Okay, hold that thought, Sumit,
14:44 because we will talk a bit about that thought in detail
14:47 on the other side of the break.
14:48 What we will also try and ask Sumit,
14:49 while he has not written an investment letter
14:51 maybe recently, is what does data
14:54 that he might be perusing through suggest to him
14:57 about the very point that he mentioned,
14:59 the average valuation of the small cap space
15:02 being at nearly 35 times or thereabouts.
15:05 And is that a danger relative to history?
15:08 That part of the conversation, viewers,
15:10 coming up after this very short break.
15:11 Stay tuned.
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18:05 - All right, back with talking point right here
18:13 on NETB Profit in conversation with Samit Vartak.
18:16 He made this point about how it is imperative
18:20 to look at well-valued mid-caps and small caps
18:25 at a point of time when the valuations
18:27 of some of these small caps are sky high.
18:29 So, Samit, just wondering, you look a lot at data,
18:33 historical data around this space.
18:36 Everybody looks at the nifty data,
18:37 but you look a lot at the data around this space as well
18:40 and try and draw inferences about what could happen
18:42 relative to historical parameters.
18:46 I'm just trying to understand,
18:48 what does any of the studies that you may have done
18:50 recently suggest about what happens to markets
18:53 when they trade at such valuations
18:55 at the broader end of the spectrum?
18:57 Could there be a sharp spiral downwards
18:59 or is this time different because of the economic activity,
19:03 which is conducive for a lot of new age, smaller companies?
19:07 - Right, so let me maybe provide some analysis
19:14 to set the stage for my talk later.
19:20 So if you look at the top 100 stocks,
19:22 so I do look at large cap valuations,
19:25 mid caps, small caps, separately,
19:27 because they sometimes are at completely different levels.
19:31 So today, if you look at the large cap valuations,
19:33 top 100, median valuation is about 31 times.
19:36 Historical last 10 year median is also about 31 times.
19:40 So pretty much similar to what they are at.
19:44 Mid caps, they're trading at almost 40 times multiple,
19:47 the historical valuation probably closer to 30 times
19:52 last 10 years and small caps trading at about 36, 37 times,
19:57 historical valuation 25 times last 10 years.
20:00 If you go 10 years before that,
20:03 the valuations would be even cheaper
20:06 than where they are now.
20:08 And I mean, most of the time what gets reflected
20:11 on the indices level is weighted by market cap,
20:14 but I'm talking about the median valuation.
20:18 So from all perspective,
20:21 I think the valuations are stretched
20:24 and more so on the PSU sides.
20:26 So if you look at just the PSU basket,
20:29 in the last one year,
20:30 if you just split BSE 500 into PSUs and non-PSUs,
20:33 the PSU index along with the non,
20:38 has gone up by more than 100% in the last one year,
20:42 whereas the non-PSUs have gone up by 32%.
20:45 So there is a huge divergence there.
20:48 And if you want to put the PSU basket
20:51 in historical perspective,
20:53 the P multiple in 2003 to 2008 period
20:58 had gone up from 5X to 22.9X during that time period.
21:03 This time, the P multiple since the COVID bottom
21:09 has gone up from 7X to about 28 times.
21:13 So 4X then, 4X now already has happened
21:17 in a matter of three years or so.
21:22 Whereas the ROE at that time had reached 18%,
21:25 the ROE today has reached 12%.
21:28 The earnings CAGR during that time,
21:30 or that six year period, 2002 to 2008,
21:34 was 27%, the earnings CAGR over the last,
21:37 since pre-COVID has been 10%.
21:40 So there's a huge divergence,
21:43 there's too much hope built up
21:45 in that pocket of the market.
21:49 And when such things happen,
21:51 there is very little room for error.
21:53 And small cap has a lot of these PSUs companies.
21:58 Again, there is a big divergence
22:01 between pockets within this space.
22:03 So I'm talking generically,
22:04 but this divergence you'll see it across
22:08 multiple of these pockets.
22:11 And I don't know, I mean, see, the question is,
22:15 what is risky?
22:16 Is sitting out of this market risky
22:18 or staying invested risky?
22:20 I feel staying out may be risky
22:23 because see, top 100 stocks, the large caps,
22:26 if you see financials, FMCG, IT,
22:31 maybe the oil and gas companies,
22:33 they make up almost 65% of the top 100,
22:38 where the growth rate is gonna be maybe low teens,
22:41 closer to the nominal GDP of India,
22:43 11% or 12%, that's what government forecasts.
22:46 Even top 100 growth is gonna be 11, 12%.
22:49 Whereas the real growth,
22:51 if the government really spends on CapEx
22:55 and this is the five year where they're gonna go all out
22:58 in terms of CapEx spending,
23:01 the beneficiaries are gonna be much smaller companies,
23:05 because the larger companies are not gonna be that beneficial.
23:09 See, the corporate India is so deleveraged
23:12 that they're making reasonable ROE
23:14 in that 16 to 18% range that they can fund themselves.
23:18 You don't really need huge banking leverage to grow.
23:23 So the banking credit growth may not be as high
23:28 as what we saw maybe in that 2003 to 2008 kind of a period.
23:32 But the growth can be pretty sharp.
23:35 So it's easier to find companies
23:36 which are going at that 25% kind of a range.
23:41 And I feel it would be much easier to find such growth
23:45 in the next five years compared to what we put
23:47 in the last 10 years,
23:49 because the growth rate at a market level
23:51 will be much higher than what we saw in the last 10 years.
23:54 So it's important.
23:55 See, historically, if you see what happens
23:57 when things reach at this level is that
24:00 every three, three and a half years,
24:01 small cap index has fallen on average by almost 40%.
24:06 Whether it will happen this time,
24:09 I mean, if history, you just go by historical statistics,
24:13 it should, but question is fundamentals.
24:17 I think every cycle is different.
24:19 Fundamentals when it fell from 2018
24:21 were completely different.
24:23 The banking system was in a mess.
24:27 Even at a small mid-cap level,
24:28 there are a lot more corporate governance issues.
24:32 Leverage had reached high levels.
24:34 Even in 2008, if you see the leverage level,
24:37 that corporate balance sheet, it was really high.
24:42 Credit terms were very loose.
24:43 Working capital cycle had stretched.
24:46 And the operating cash flow was lower than the net profits.
24:50 Today, the operating cash flow is at least 115%
24:53 of the net profit.
24:55 The corporate balance sheet is the least leverage.
24:59 ROE, even at a small cap level,
25:01 has reached close to 16, 17%.
25:05 During that cycle, it was 12%.
25:07 And the historical average is 12%.
25:09 So across the board in terms of cash flow,
25:12 return profile, things have improved.
25:15 And I'm pretty sure there are a lot of pockets
25:17 which may fall by 40, 50, 60%,
25:19 just given the way things have run up.
25:21 There are too many, I guess,
25:24 I mean, the lower the flow, the higher have been the returns.
25:26 The higher the risk, the higher have been the returns.
25:29 That's the kind of market we have been.
25:32 So if you have 200 stocks in your portfolio,
25:35 the chance of you doing way better is much higher
25:38 because at least you will have some of these stocks
25:41 which are completely operated or which are PSU basket,
25:44 which probably has gone up,
25:47 independently of what the fundamentals probably deserve.
25:52 But I feel that it's risky to sit out of this market
25:58 because there are a lot of caution calls
26:01 which came out in August, September,
26:03 saying get out of small caps.
26:04 Since then, I think the index and a lot of portfolios
26:08 would have gone up by 30% and that's two year returns.
26:11 So do you sit out of this market?
26:13 Because it's possible that before this ends,
26:16 you don't know how much can they go.
26:20 I mean, PSUs in 2003 to 2008 had gone up by 15X.
26:25 A lot of small mid-cap companies
26:26 would have gone up by similar times.
26:29 This time, I don't think the small cap index
26:32 or any of that has gone up even 3X.
26:35 So there may be room for growth.
26:39 Going forward, I think valuation
26:41 will not contribute towards any growth.
26:43 It will be completely earnings growth
26:45 and earnings growth is most important.
26:47 I feel rather than staying out of the market,
26:49 it's important that whatever portfolio you invest in
26:53 falls much less whenever this fall happens.
26:55 I think that's the only way you can stay in the market
26:58 as well as protect yourself.
26:59 Protecting yourself has to be the key goal going forward,
27:04 but also not compromising on the earnings growth.
27:08 There's no point in going into defensive
27:10 where you will get three, four, five, 10% growth.
27:13 - Got it, got it.
27:14 Samit, very quickly,
27:15 I mean, we have a minute and a half left on the show.
27:17 Since you've mentioned PSUs in this conversation as well,
27:21 are you constructive PSUs?
27:25 I know it's wrong to paint them in the same bucket
27:27 because it's bottom-up sectoral,
27:28 but still if I attach the conditionality of the owner,
27:33 I have you bet on PSUs,
27:35 do you believe there is more steam left?
27:37 - I'm sure in terms of earnings growth,
27:40 there is a lot of room left for growth,
27:43 but unfortunately valuations are way beyond what such,
27:48 I think it's completely pressing in three, four,
27:52 five years of growth and beyond.
27:54 So they were reasonably valued,
27:56 maybe a year, year and a half back,
27:58 but what's happened in the last one year,
28:00 there are so many stocks which are one of four, five X,
28:03 and it's not just small pocket,
28:04 but huge pockets of stocks, which are one of four, five X.
28:07 I think there's no value left on the table,
28:11 not only just value,
28:12 there is too much risk left on the table.
28:15 And I don't know whether it's worth,
28:16 there are some pockets, I mean,
28:17 we are invested in the power finance side.
28:20 That's the only PSU sort of way we have participated in.
28:25 We have tried to look through many more PSU companies,
28:28 but there is no value left.
28:30 And unfortunately value is important for us,
28:35 but more important is the growth.
28:36 I think private side will grow much faster
28:39 than the PSU side,
28:41 because overall CapEx when it comes through,
28:43 it may initially benefit the PSUs,
28:45 but it will contribute towards the entire economy
28:48 and many companies.
28:50 And one needs to focus on those.
28:52 - Great.
28:53 Samit, such a pleasure listening to you.
28:55 Thanks so much for taking the time out
28:56 and being with us today.
28:58 - Thank you so much.
29:00 - All right.
29:01 And viewers, thanks for tuning in
29:02 to this edition of The Talking Point.
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