Volatility or stable ascent for the markets ahead?
Niraj Shah in conversation with Demeter Advisors' Ashwini Agarwal on 'Talking Point.'
Niraj Shah in conversation with Demeter Advisors' Ashwini Agarwal on 'Talking Point.'
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00:00 [MUSIC PLAYING]
00:03 Thanks for tuning into today's Talking Point.
00:14 I'm Neeraj Shah.
00:15 And the case for a chat today with our guest, Ashwin
00:18 Agarwal, is multifold.
00:20 There has been a one-way rally of sorts in the market.
00:23 Could there be volatility ahead, or will we
00:25 continue to steer a stable ascent?
00:27 So that's part one of my questioning to him.
00:31 Where is it that there are relatively comfortable
00:34 valuations existing, coupled with some growth?
00:37 I think we'll try and talk about that as well with him.
00:40 And of course, if indeed flows are to come back,
00:44 if you can make a thesis around flows coming back into India,
00:47 will the ones which have suffered the most from that,
00:50 which is private banks, again make a bit of a comeback?
00:52 It's very important with the bank nifty markets
00:55 at large for private banks to start doing well again
00:57 on the bourses.
00:58 And that can happen with flows, which can possibly
01:01 happen only with global flows.
01:04 So I think in some sense, we'll try and talk to Ashwini
01:06 about that as well.
01:08 He's the founder of Demeter Advisors,
01:09 and joins us right now on the show.
01:11 Ashwini, good having you.
01:12 Thanks for taking the time out.
01:13 Hope all is well.
01:14 Morning, Neeraj.
01:15 Thank you.
01:15 All is well.
01:17 Ashwini, a lot of chatter around how the Indian valuations
01:22 defy, in some sense, what's happening
01:24 across the world on the growth front,
01:26 even if India were to be growing well.
01:29 I'm trying to understand, are you
01:32 OK with the kind of moves that we've made index-wide,
01:35 though the last two months we've been largely flatlining?
01:39 And what's the way ahead, therefore?
01:41 Would we continue to flatline?
01:43 Could we see an ascent in the run-up to the elections?
01:46 And would that be something that would make you uncomfortable?
01:50 Neeraj, two important points here.
01:53 Like you said, the growth globally has been slowing down.
01:57 And the second macro reality is that with the expectations
02:04 of very sharp interest rate cuts that we had,
02:08 let's say, around September, October last year,
02:10 have now been pushed out.
02:12 Even in the Indian context, there's been no cut in rates.
02:18 And if you read through the RBI policy,
02:20 it appears that there may be no development on this front
02:24 for at least the next three or four months or post-elections.
02:28 We might see something not right away.
02:30 And it's similar trajectory for rates, at least in the US.
02:35 So the question I'm asking myself
02:38 is that if you look at growth, is the growth accelerating?
02:43 And I'm talking about real GDP growth here.
02:45 Or is the growth stable?
02:47 Or is the growth slowing down?
02:49 In the Indian context, I think we
02:51 saw very strong growth in the first half
02:54 of the current fiscal year, which is
02:56 the period April to September 23.
02:58 And now we are starting to see the base period catch up.
03:02 I think growth should be stable around 6% to 6.5%
03:06 over the next one financial year or so.
03:09 And there is no acceleration visible yet,
03:12 despite significant push by the government
03:15 on infrastructure spending, especially
03:17 in the areas of defense, railways, and so on.
03:21 So my sense is that with earnings growth
03:25 of the order of maybe about 14%, 15%,
03:28 slightly ahead of nominal GDP growth,
03:31 the market is already pricing in a significant amount
03:35 of near-terms earnings upside.
03:38 So to answer your question that do we
03:41 see a continued move upward from here on an index-wide basis,
03:47 I think that's a tall order.
03:50 Within the emerging market space, if you were to look at it--
03:52 and I know several people keep saying that that asset class is
03:55 dead--
03:56 India is a really expensive outlier.
03:59 So notwithstanding the diversity of the Indian market,
04:02 notwithstanding the growth, I think a lot of good news
04:06 is priced in.
04:07 That's what I see from a global perspective looking into India.
04:13 However, if you look from within India, for savers in India,
04:18 what's happening is that we are hostages to our own market
04:23 because of capital controls.
04:24 And there is, of course, a home bias
04:26 that every country has with its own investors.
04:31 And these investors have done very well
04:33 in the last four years, notwithstanding correction
04:36 that we saw between September '22 to maybe about--
04:42 September '21 to about March of '23.
04:46 So that was an 18-month period where
04:48 we saw the markets go down.
04:50 And despite that, over the last four years since COVID,
04:53 investors have done well.
04:55 So the domestic money continues to flow in,
04:57 and that may prevent the market from going down a lot.
05:00 So flatlining is what we've seen over the last two or three
05:05 months, and that might continue, notwithstanding
05:08 my concern on valuation.
05:11 OK, so in some sense, Ashwini, you
05:14 are saying that the going seems to be--
05:16 and correct me if I'm wrong--
05:17 but the going seems to be so--
05:20 there's so much of interest that despite the high valuations,
05:23 we may still flatline and not correct
05:26 because there is an appetite at every dip.
05:28 That's correct.
05:30 So if you look at the local flows that
05:34 are coming into mutual funds and direct money that's
05:36 coming into the market, that may not allow the market
05:39 to sink a lot.
05:41 But valuations have their own way
05:44 of imposing themselves on the market.
05:48 If you go back to, again, September 21,
05:51 and we saw a plethora of IPOs, then
05:54 the new age internet-based companies, their valuations
05:58 were very expensive for traditional investors
06:02 like me who've been around for a while
06:04 and have value as a constant discipline
06:10 that we are trying to adhere to.
06:12 And we were amazed at the kind of response
06:15 that these issues got.
06:16 But lo and behold, over the next 18 months,
06:18 you did see a significant correction.
06:20 So pockets of market where the valuations are expensive today,
06:24 be that defense, be that railways,
06:27 there you can see a lot of correction
06:30 because I think while the stories are good
06:33 in the long run, just as they were
06:34 in the internet-based companies in the middle of '21,
06:38 you may still see a significant price correction
06:40 because valuations are completely absurd.
06:42 And viewers, I must bring out this point
06:46 with a couple of charts maybe before I go back to Ashwini.
06:49 Because the point that he's making is very important.
06:51 A lot of us and a lot of people who
06:52 are coming to the market in the last four or five years, which
06:55 is a large percentage of my viewing population as well,
07:00 at times forget this.
07:01 So look at, say, maybe a two-year or a five-year chart
07:03 of Zomato or whatever time it's listed.
07:06 And the stock, while it's rallied from 50 rupees all
07:09 the way to 130, 140, it has corrected initially
07:12 from 160, 170, whatever it is, all the way to 45.
07:16 So in some sense, Zomato 12-month chart
07:18 looks really impressive, right?
07:19 Now expand this to five years, and you
07:21 will see how the stock corrected quite viciously
07:24 before coming up again.
07:25 And maybe an even better example--
07:27 look at that.
07:28 And that shows you that over three years or something
07:31 like that, you've gotten virtually no returns.
07:34 That's part one, if you're invested right at the peak,
07:36 at the expensive valuations.
07:37 Similarly for a behemoth like Demart.
07:42 And just look at what the stock has done.
07:44 A brilliant stock.
07:45 Everybody shops from there, from the stores.
07:48 But it's virtually flat-lined in a minimal way
07:50 for the last so much of a long period of time.
07:55 Ashwini, I'm inclined to ask you,
07:57 since you've been around, as you said, for such a long time,
08:01 private banks, now they are performing fundamentally.
08:05 The issue has been that the supply from the FBIs
08:08 has been large.
08:09 What would it take to turn the fortunes of these banks around?
08:13 Would it need to come from FII flows for these stocks
08:19 to start performing?
08:21 Yes.
08:22 The simple answer is yes.
08:25 I mean, it's a little bit of a circular logic.
08:31 But what happens is that the domestic investors,
08:35 when I'm talking about the large behemoth of--
08:39 the large body of retail investors,
08:41 they tend to take price momentum into account.
08:44 And I'm not looking down upon price momentum as a strategy.
08:47 I mean, one of the best explanatory factors
08:51 for a single stock performance is actually momentum.
08:53 If you do factor analysis over a long period of time--
08:56 so momentum is the way a lot of people invest, and that's fine.
09:01 And for the momentum to change in private sector banks,
09:05 you will need foreign interest to come back
09:09 because these are very significantly owned
09:11 by foreign investors.
09:14 These are very large free float companies.
09:16 So unless there is a significant shift
09:19 in institutional buying for private sector banks,
09:22 it's difficult to see how the price momentum will change.
09:26 Having said that, I'd like to draw a parallel here
09:30 between what you just spoke about on Zomato and on DMart.
09:33 And I don't own those stocks.
09:35 I don't usually talk about specific names.
09:37 But here I'll take the liberty of using a few names.
09:41 HDFC Bank, a position that I own,
09:44 Kotak Mahindra Bank, a position I don't own.
09:47 If you look at these names, they were
09:50 very expensive towards the end of, let's say,
09:53 2019 because we were coming out of a decade of highly stressed
10:00 bank balance sheets.
10:01 And these two banks managed to keep their balance sheets very,
10:06 very clean, as Mr. Kotak has often
10:11 said, that they were the cleanest shirt
10:13 in a dirty laundry basket.
10:16 So the valuations for them were very high.
10:20 And why I'm linking this to your Zomato comment
10:23 or your DMart comment is that valuations
10:26 are very important at the point of investing
10:29 because you may buy a great company,
10:31 but if you just pay too much for it at the time of going in,
10:34 you might be stuck with no returns for a period of three
10:36 to five years.
10:37 And that's exactly what has happened
10:39 to some of the private sector banks.
10:41 And you spoke about private sector banks as a body,
10:44 but I don't think that's true for all the private sector
10:46 banks.
10:46 I mean, if you look at some of the other names
10:48 within the private sector, they've
10:49 done very well over the last three years or even five years,
10:52 dare I say.
10:53 It's the two or three names that have become ridiculously
10:56 expensive that have failed to perform for the reasons
11:02 that valuations have finally caught up with them.
11:06 And I think in the case of HDFC Bank, again, to reiterate,
11:10 it's a position that I own, it is facing the merger-related
11:14 challenges and might take some time to sort itself out.
11:17 But I think if you were to look at a three or a five-year
11:21 picture, I think this might actually not be such a bad time
11:24 to invest into that.
11:26 But of course, the momentum has to return.
11:29 OK, fair point.
11:30 And yes, I stand corrected.
11:31 It's not that the whole body has not done well.
11:33 There are some exceptions to the rule as well.
11:35 Just that everybody gets caught up
11:37 in the commentary around HDFC Bank, Kotak Bank,
11:39 and the likes, maybe even an ICICI bank in the recent past,
11:42 if you will.
11:42 OK, so that's one.
11:44 The other interesting study, Ashwini,
11:46 that was done by Bernstein, that PSU stocks, which
11:48 have again, for the month of February,
11:50 kind of gone completely quiet after a breakneck
11:52 rally for the last few months.
11:55 And their ownership analysis seemed
11:57 to suggest that FBIs have largely avoided this pocket.
12:00 It's largely been retail, DII investors,
12:03 which took this space higher.
12:05 Now it's flatlining because of expensive valuations,
12:08 say for maybe PSU banks.
12:09 And difficult to assess as to what happens there.
12:11 But the ownership analysis was interesting.
12:13 So my question to you is, because domestic flows
12:16 continue to remain strong, but the flows
12:19 are managed by very smart mutual fund managers, if you will,
12:23 do PSUs as a body, because of the valuations,
12:28 largely stay flatline for the next few months
12:31 until earnings catch up?
12:34 I would think so, selectively.
12:36 Because some of the PSU stocks, if you
12:39 were to draw long-term price-to-earnings or price-to-book
12:42 charts for several of these PSU names,
12:45 they are now trading pretty much at the upper end
12:48 of the valuation range.
12:49 And this includes the period of 2006 to 2008,
12:54 which is when these stocks had done phenomenally well.
12:57 So I think valuations are now pretty full.
13:02 But these companies are doing well,
13:05 because the way the administration has kind of
13:09 turned around in the sense that, from what we hear,
13:12 there is not that much interference
13:13 from the government in the independent running
13:16 of these PSUs.
13:17 And some of them are pretty well run.
13:20 But I think the valuations are now
13:22 expensive in several pockets.
13:24 And they might take some time to catch up.
13:26 I think the PSU banks, there are still
13:30 some selective pockets where valuations are not
13:32 very expensive.
13:33 But again, in the historical context,
13:37 they've always traded at a discount
13:39 to private sector banks.
13:40 And I think there is good reason why that's the case.
13:44 And I don't see that going away.
13:47 So yes, my sense is that PSU stocks are also pretty fully
13:51 priced at this point.
13:52 - Ashwini, I was trying to understand, therefore,
13:55 in such a scenario, what looks attractive enough
13:59 to invest in, aside of maybe, say, select private banks,
14:01 wherein there might be opportunity?
14:06 What is it that is looking attractive?
14:09 - So, Neeraj, if you look at a lot of the chemicals space,
14:17 it was hugely in favor immediately post-COVID.
14:20 Prices for a lot of base chemicals went up a lot.
14:22 And they made humongous margin gains.
14:26 And over the last 12 months, all those margins
14:30 have been given up, even though stock prices haven't given up
14:34 all their gains.
14:35 But they've given a substantial part of their gains.
14:38 But the core story hasn't changed,
14:40 in the sense that China plus one is still a reality.
14:43 I think globally, outsourcing is moving to India.
14:47 We are getting a lot of attention
14:50 for being in the space that we are as a stable country,
14:55 and so on and so forth.
14:56 And in addition to the fact that China also
14:58 wants to vacate the space where value addition is lower
15:03 from their perspective, where they're
15:05 focusing more on electronics and cars and EVs
15:08 and battery technologies and so on.
15:11 So I think in base chemicals, I think
15:13 where prices were down significantly
15:17 because of excess inventory built up immediately
15:19 post-COVID, I think you're finally
15:22 starting to see an end to that inventory cycle.
15:26 And I think margins will normalize.
15:27 Growth will come back.
15:28 So that's one space that I'm quite excited about.
15:31 Pharmaceuticals, I continue to be fairly excited about.
15:34 I think here again, the generic pricing environment
15:38 is a lot better today than it has been in the last three
15:44 or four years.
15:45 And demand is also pretty decent, both in India
15:49 as well as overseas.
15:50 So I think that's another space that I'm
15:52 looking at quite favorably, especially the generics space.
15:57 I think in several exporters, smaller companies,
16:02 the China plus one narrative is real.
16:05 There's a huge opportunity for them
16:07 to win market share on a global basis.
16:09 And if you have companies which are well managed
16:11 with good balance sheets, new capacities in place,
16:14 I think you'll be surprised by the kind of earnings growth
16:17 that will come through over the next two to three years.
16:19 And the Indian market always rewards earnings growth.
16:23 So if there's a company that's growing at 20%, 25%
16:26 compounded annual for the next two to three years,
16:29 you should always expect the valuations
16:32 to go bananas at some point.
16:34 So I think those are some of the spaces that
16:37 are looking quite interesting.
16:39 I think as a defensive trade, I would
16:42 say consumer staples in India and IT services
16:46 are both places where you're likely to lose less in case
16:50 the market goes into a correction.
16:53 I mean, these are not fancied places
16:55 to be for obvious reasons.
16:57 But I think valuations are reasonable.
16:59 There is good management in place.
17:02 Cash flows are very, very strong.
17:04 So I think on a relative basis, these are places to hide.
17:10 Are you defensive in your portfolio?
17:11 Have you added these names for that particular virtue?
17:16 So not IT services, but I have added a couple of consumer
17:20 names because I do think that rural consumer demand should
17:24 come back because the inflationary shock that
17:26 has hurt the demand over the last 12 to 18 months
17:30 is now beginning to fade.
17:32 So I'm hopeful of that outcome.
17:36 But I have turned defensive in my portfolio allocation
17:39 in the sense that I'm sitting on about 15% cash, which
17:43 is not normally the case.
17:46 So if that reflects my view on the market,
17:49 that's something that I'd like to share with your viewers.
17:52 Thank you.
17:53 So viewers, the other point is IT is good,
17:55 but Ashwini is still sitting on cash
17:57 as opposed to deploying that money into IT names.
17:59 So maybe clarity from the companies
18:02 at some point of time around turn of discretionary demand,
18:05 maybe that is a factor.
18:06 But yeah, certainly a pocket to focus on.
18:09 Now, a couple of questions, Ashwini,
18:11 a follow-up to your first answer, which
18:13 is pharmaceuticals, for example.
18:15 If I look at the last 3, 6, 9, 12 months performance,
18:20 at any point of time, you bought into any
18:22 of the generic names--
18:22 Sun Pharma, Dr. Reddy's, Lupin, et cetera.
18:24 Lupin has been a poster boy, but the others too,
18:26 you've made money.
18:27 So these stocks have rallied.
18:28 It's not like they've stayed quiet in the last 12 months.
18:31 You still reckon that there is value in investing in them?
18:35 I mean, the value is less than what
18:37 it was 12 months ago for sure.
18:39 But I think they're not expensive.
18:42 They're reasonably priced, and the earnings growth is strong.
18:45 So if you're looking at the whole market, which
18:47 is expensive, you buy place--
18:51 you go into spaces where valuations are reasonable
18:54 and earnings is decent.
18:56 So it's not like 2015, 2016.
19:00 If you remember, 2016, there was a cover story
19:04 when Sun Pharma's market cap briefly
19:07 had eclipsed that of Reliance Industries.
19:10 The valuations were nuts back then.
19:12 So it's nowhere close to that.
19:14 I mean, valuations are OK.
19:15 They're fine.
19:16 They're in their 20s.
19:18 The earnings growth story is pretty solid for some of them.
19:22 Larger companies, especially, there
19:23 are differentiated portfolios that they've
19:25 been able to create.
19:26 So these are not pure run-of-the-mill generic
19:29 companies anymore.
19:30 They are also significantly competitive at what they do.
19:34 Similarly, in the upstream chemicals
19:36 and the downstream chemical space,
19:38 I think there are niche products that companies
19:41 have been able to build.
19:43 I think one of the things that we underestimate
19:46 is the amount of confidence Indians in general have.
19:51 So people don't shy away from investing in R&D
19:53 with uncertain outcomes, as used to be the case 10 or 15 years
19:57 ago.
19:57 And that's starting to pay off.
20:00 Well, that's true.
20:01 I mean, we've seen so many pharma companies,
20:03 even in the CDMO space, talk about making large investments
20:07 with the returns not being necessarily coming
20:09 in the next 12 to 24 months, but building out
20:11 on the longer term.
20:12 It's so very well put.
20:13 Thanks, Ashwini.
20:14 I have one final question.
20:15 Your conversation with us on Insight,
20:19 when we spoke about a particular real estate name,
20:23 evoked a lot of responses to our social media team
20:26 and our handles.
20:26 I'm trying to understand, are you
20:29 constructive on real estate per se as a pocket?
20:32 We had spoken back then about Max Estates.
20:34 Was it a particular bottom-up idea?
20:36 Or are you still constructive on Max and the real estate
20:39 space at large?
20:41 OK, so first, due disclosure, I am a shareholder in Max Estates.
20:45 So that's something that your viewers should know.
20:49 Second is, I am constructive about real estate.
20:54 Real estate has long cycles.
20:57 At least that's what I've experienced.
20:59 And typically, the real estate cycle
21:02 start one or two years after a bull market has set in.
21:05 And they continue for much longer
21:07 than typical bull market cycles in the equity market.
21:12 A better home is a universal desire.
21:15 And when people make money, be it by way of ESOPs,
21:19 be it by way of investments, smart investments made
21:22 by them in the market, be it by way of listing companies
21:26 and benefiting from them, as has been
21:28 the case for several promoters, both on the SME
21:31 as well as small and mid-sized companies on main bosses,
21:35 the desire to buy a good home is a universal desire.
21:40 And I think real estate will continue
21:42 to do very well for the next five, seven years.
21:47 Picking stocks in this space is very difficult
21:50 because these are long gestation projects.
21:53 And very often, balance sheets get into trouble,
21:58 projects get into trouble because of regulatory difficulties
22:03 they face.
22:04 So on a bottom-up basis, I have historically
22:07 found it very difficult to find companies.
22:09 And Max Estates, about a year and a half or so ago,
22:13 maybe two years ago when I first looked at it,
22:15 looked reasonably appealing from that standpoint,
22:20 from the kind of governance, checks, and balances
22:23 they put into place.
22:24 And it's a unique company in the sense
22:26 that it has a large portfolio of rented properties
22:29 that bring in regular income and a development portfolio
22:34 as well with a very strong discipline around balance
22:39 sheets.
22:39 So it's a bit of a unique story.
22:42 And that's the only real estate play I own.
22:44 But I'm positive on the space, except that I'm
22:47 wary of investing in individual stocks for the reasons
22:51 I outlined.
22:53 Got it.
22:54 Ashwini, so good talking to you today.
22:56 Thanks for joining us and giving us
22:57 your thoughts on a variety of issues.
23:00 And have a great trip as you're heading out tomorrow.
23:04 Looking forward to talk to you soon.
23:06 Thank you.
23:07 Thank you, Neeraj.
23:07 Have a nice day.
23:08 You too.
23:09 And viewers, thanks for tuning into this edition
23:11 of "The Talking Point."
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