Currently, the market is trading within a range. Do you expect a correction or a breakout to the upside?
There is no reason for the market to burst. We believe the market can continue to advance with quarterly earnings growth and more covid vaccinations. As a fund company, we remain constructive in the market and look for opportunities where valuations are reasonable and earnings growth is good.
Many fund managers are sitting on cash. Are you one of them?
Not so much cash but we are aware of the pockets of the market where the valuations are quite high and we avoid very large stocks. There are some industries where there is a good tailwind of earnings, and at the same time the valuations are quite reasonable. So, rather than calling for cash, we are more overweighting companies in manufacturing, banking and financial services where valuations are reasonable and earnings support strong.
Mid and small caps are in a dream run, but most of your funds are focused on large caps. Is it fair to focus on large caps right now?
I don’t think we have a preference for large caps over mid or small caps. In our portfolio of counterparties as well, there are a few stocks that have grown into large caps from mid caps and that is why we focus on large caps. Otherwise, we have kept around 65% large caps and 35% mid and small caps as normal hedge. It is more of a bottom-up market and I see significant opportunities in textiles, chemicals, banking and financial services.
Telecom has fallen behind in this market rally. You own all your funds. Do you see that the market is missing something that you can see?
I don’t think the market is short of anything. The benefits of consolidations in the sector have not been felt. Ideally, in any industry, if such a consolidation occurs, the result would be higher pricing power, but we haven’t seen that yet. We are down to three players and I see no reason why our cell phone bills should stay as low as they are. But we believe that such a large consolidation will ultimately lead to higher pricing power. Investing in stocks is a long-term game and in this country we have all the makings for telecom companies to be successful in the future.
Is the history of metal over and is it time to sell?
You have to see where the higher profitability comes from, and the answer is China’s focus on decarbonization. This country is the biggest producer of steel. Now that it has publicly declared that it wants to reduce its overall production, China will export a lot less. In addition, unlike Chinese companies, Indian steelmakers have access to much cheaper iron ore. Many factors combine and this suggests that steel companies not only have good profitability today but can also more or less maintain it.
The number of steel exports from India over the past three years has been steadily increasing and we continue to monitor this space. This sector is emerging from a major long bear market. Structurally, if businesses continue to grow over the next decade, then this industry has more legs.
Inflation is a key issue in the next few months. Do you foresee a rate hike and if so, what would be your strategy to deal with it?
Are we seeing a rate hike in both the United States and India, over 12 to 18 months? I think so. We had better believe that two things are going to happen – the rate hike and that would coincide with the negative impact of the disappearance of Covid. Inflation will only come when the negative impact of the pandemic is behind us and growth returns. From an equities perspective, the first wave of inflation, which is based on growth and recovery, will boost earnings significantly. At the same time, if you are deeply in debt, rising interest rates are not good for you.
We look at which of the companies we own will be negatively affected by higher interest rates and which will be positively affected by higher growth, and then we say I want to be among the companies that will benefit from the economic recovery and vice versa.
Zomato is a loss making company. How would a fund manager assess such a company? For long-term investors like you, are these companies worth investing in?
These companies have created a whole new service: home food delivery. Not that it didn’t exist, but it was unique for a particular restaurant, but now it has become more democratic. Today, I’m not limited to one or two restaurants. The second big positive point is that there are a fairly limited number of players participating in this industry.
The challenge remains the valuation of a company. Traditional techniques such as a discounted cash flow methodology where you project their cash flow or a multiple of PE or a reserve price are not an option. It is therefore a challenge for investors. The second challenge is that since this is an emerging industry, there is no reason to believe that you will not have new players. To this extent, these unknowns must be addressed.
Internally, we assess all companies in the form of how they can compete; if they have a sustainable mode which is a sustainable competitive advantage, so that even if new players with deep pockets enter your industry, you can survive. These are the questions we will need to answer before we can draw a conclusion.
Cement and real estate have gained popularity in the market. Are you underweight or overweight?
Over the past five years, residential property prices have gone nowhere. But during these five to six years, wages and household purchasing power increased, and therefore accessibility increased. Second, with the rapid fall in interest rates and mortgage rates, EMIs have fallen. Now, this combination with the need for a larger home given that the work-from-home environment is there to some extent for several quarters to come, are the emerging needs of households. We are seeing signs of a recovery in real estate sales.
Quite clearly, the cement is benefiting not only from the residential rise but also from the infrastructure spending that has taken place and there is more stress than ever. This is another sector in which we are constructive. We are overweight both residential real estate and cement.
Anything you want to add …
I want to highlight a very important aspect that is not really well covered and that is the resurgence of manufacturing. The manufacturing sector, in general, suffered from the additional capacity that existed in China and its ability to sell it at low prices. For this reason, profitability has been moderate in these market segments for a very long time.
What has changed in recent years is that China’s need for employment in manufacturing is declining due to rising per capita income. The cost of labor in manufacturing increases for them. So, in the past three years, there has been a shift in manufacturing from China to Vietnam, Cambodia, Southeast Asia, Bangladesh, and others. We haven’t benefited much from this, but – Make in India, PLI, lower tax rates for the new capex, a lower corporate tax rate and now low interest rates as well as Dedicated freight lanes ensure that the government has a meaningful focus on what manufacturing is done and that creates a lot of jobs.
We are clearly witnessing the resurgence of the manufacturing sector after being on the sidelines for more than a decade. We will see a lot of private sector investment in textiles, metals, mining, chemicals and engineering products. We will also see further expansion of cement capacities. Their valuations are reasonable, they are not very expensive and growth is accelerating strongly there.