ET NowET Now: After a decline in the early part of the week, the markets took a U-turn yesterday, not quite backed by the kind of volumes at genuine buying, but short covering nonetheless. What is your own expectation of how we could pan out for the next one year?
Bharat Iyer: Corrections are part of the market. We are looking for gains of about 8% to 10% by the end of this fiscal year. You look at valuations. They are trading at about 16 to 17 times forward earnings. That is not exactly cheap, but given the level of expectations from the new government and the easy liquidity, valuations will stay higher than historic mean levels for some time.
We are looking at an earnings growth of about 14% to 15% for this year. So even if the market moves in line with the earnings growth, we will get returns of about 8% to 10% during this fiscal year.
ET Now: Where are bargains left in this market?
Bharat Iyer: This is a market for growth investors, it is really not one for value investors. For growth investors, there is an array of options out there because once we start seeing an economic recovery happen, you are going to see sectors like high quality financials, cement, and commercial vehicles doing well.
Even the global cyclicals are not looking bad. You have a scenario where growth in the US is doing very well, the dollar is strengthening. So there is no reason why sectors like IT services and healthcare cannot continue to do well.
ET Now: In the near term, does it seem like there could be a big correction that could await us or do you think it is going to be a secular rise up for the market?
Bharat Iyer: I would not be surprised to see some kind of consolidation in the near term. We have had a very good run-up. But in terms of correction, I do not see that happening for local reasons.
Investors are aware that it is going to take some time for the local economy to turn around. I do not think anyone is in a tearing hurry and investors will broadly give this government a benefit of doubt at least for another year or so. A correction, if anything, will have to be participated by international factors.
We have to realise that India’s key vulnerability is the dependence on external financing. So if the international financial markets go into a risk-off mode, that could trigger a correction.
ET Now: How should one read into the fall in commodities?
Bharat Iyer: The commodity markets are preparing themselves gradually for easy money to be withdrawn and they also have the headwind of growth in China being a little uncertain. We have seen a reasonable fall. We are not going to see them spike up significantly again, which should be good from India’s perspective, particularly in terms of inflation.
ET Now: Let’s pick up the point on financials. Is it time to put your money and lay in your bets on PSUs because at some point, the asset quality concern is going to get sorted out?
Bharat Iyer: At some point, the asset quality problem is going to get sorted out, but it does not appear to be happening over the next two or three quarters and at this stage in the economic cycle, the reason we continue to prefer the private sector over the public sector is basically because they have a better liability franchise. The problem for some of the public sector banks is capital availability and we need to know how the government is going to sort that out.
ET Now: Is there any part of the market which is looking overvalued to you?
Bharat Iyer: Valuations are higher than historic mean, but I do not see valuation bubble anywhere.
The only areas, which we have been a little hesitant to get into for some time and that stance remains, are highly-leveraged entities. So wherever you see a lot of leverage and where you have seen beta plays, we remain wary of this space.
ET Now: What about the IT and pharma goods returns? Do you continue to ride the wave and does it seem like they are going to give you or rather continue to deliver on expected parameters?
Bharat Iyer: We remain constructive on IT and pharma because the US growth is picking up very well and you also have the US dollar strengthening. Both of them are very good tailwinds as far as these two sectors are concerned.
As far as healthcare is concerned, we do wonder about valuations because they are beginning to look rather rich at this point in time whereas if you look at IT services, I do not think even valuations are very rich at this point in time.
ET Now: Valuations are not rich when it comes to IT as in midcap IT or the front line, TCS, Tech Mahindra’s of the world?
Bharat Iyer: Front line IT and the large cap as a universe. If you look at them in relation to growth being delivered or their own historic comparatives, I do not think the valuations are challenging. Midcaps are even cheaper than the large caps and perhaps offer more value.
ET Now: Why is everyone suddenly chasing auto ancillary stocks?
Bharat Iyer: It is the long anticipated recovery waiting to happen in the auto sector itself and these companies tend to be late cycle plays on that recovery and some of them have very credible business models to exploit the opportunity in the international space as well. But I do not think it is a recent trend.
ET Now: Is there some degree of misplaced optimism in pharmaceuticals because pharma stocks are just going gangbusters?
Bharat Iyer: The fundamentals remains very good, but valuations are now getting into a zone where they are a little rich. So that is what makes one a little wary.
ET Now: If a client walks up to you and says, ‘I have missed my India allocation this year. I am excited to buy into India, but I do not have any stock ideas.’ What would you do?
Bharat Iyer: Do not invest in India looking for returns over the next three months because that is not what you want to play the story for. But if you want to invest in India for the next 18 months or the next three years, there are substantial opportunities available across a range of sectors.
ET Now: Are midcaps by and large offering better opportunities purely because the large caps have had such a phenomenal ride up?
Bharat Iyer: As far as midcaps are concerned, they perhaps outperform large caps year to date. I do not think there is that much of a valuation gap to be exploited between the midcaps and the large caps at this stage because midcaps should trade at a discount to large caps and for the right reasons they do not have the same scale.
They are more vulnerable in the event of a downturn. I would not really make a call saying that midcaps have more attraction vis-à-vis large caps. Midcaps are always a stock-specific story and so there are enough opportunities available there.
Bharat Iyer: The government has done the right thing. I mean, they have reiterated the commitment to both fiscal consolidation and inflation. We have also seen very good traction both on foreign policy and administrative reforms.
What the market really is looking forward is in terms of more structural bits of the reform piece, i.e., implementation of the goods and services tax, improving on the Land Acquisition Act and perhaps getting foreign direct investment limits in sectors like insurance freed up.
The first 100 days have gone off very well because they have cleared the rubble and put in place the foundation for taking the economy on a high growth path.
ET Now: Should one not worry about liquidity? If it is not the US Fed in the second half of this year, it is going to be ECB, BOJ and the Bank of China, which will ensure that there are a lot of dollars and there are lots of dollars floating around which are for grabs?
Bharat Iyer: If there is a lot of money sloshing around, it does lead to bubbles, at least partially if not fully, in terms of valuations and in terms of asset prices. As long as growth keeps getting ahead of the monetary environment, we are all fine.
But if the monetary environment starts getting tightened before growth gets to desired levels, that is when I guess the markets will have an issue. But key vulnerability from an India perspective is the dependence on external finance. So as long as there is an orderly withdrawal of extraordinary stimuli, we are fine, but if there is any disorderly withdrawal, then we are vulnerable.
ET Now: But what is the sense that you are getting about some of the question mark sectors? A lot at least when it comes to oil and gas still depends on some key decisions, the likes of what is happening with the gas price hike etc. Do you like the oil and gas space per se?
Bharat Iyer: As the oil and gas space is concerned, our preference has been more towards the private sector companies rather than the state-owned companies.
As far as the state-owned companies are concerned, the key constraint is – they do not have their destiny in their own hands. They are dependent on what happens to global prices of Brent.
Going forward, international oil prices are anyone’s call, but there are expectations of lots of reform. For me, they come into the investment basket from the trading basket only when we see meaningful reform being executed. Until then we prefer to play the private sector energy companies rather than the state-owned energy companies.
ET Now: The Sensex activity clearly reminds me of what we saw in 2003 and 2004, that irrespective of bad news, the markets just kept on going up. The paddle which everyone is drawing on the street is that this is a bull market on the lines of 2003 to 2007 bull market.
Bharat Iyer: At that point in time, 2003 was just a beginning of the easing in the global liquidity cycle and you had a good four-five year runway to take the markets forward. The challenge this time around is going to be what happens to global liquidity.
On the domestic front, I agree that you perhaps have three to five years to look forward to and the policy environment has improved decisively, but keep an eye on the international liquidity environment too because that is going to be very important to fund our investment plans.
Bharat Iyer: If you go back in history we have at times raised even more than that. So I am not nervous about the cash calls per se. What one needs to recognise is that if good companies go to the market given the current international liquidity environment, there will be takers for that.
But that does not mean that anyone and everyone can raise money. You need a good credible story and if you do not have that story, then it is going to be a challenge.
ET Now: There is a lot of excitement in the consumer space. The easiest bet, like you said, is autos. But if one has to look beyond autos and for someone who is betting on consumer revival and the Indian throbbing middle class, how should one lay one’s bets?
Bharat Iyer: Going forward, if you ask me, a couple of areas where we could see considerable excitement and a lot of investment opportunities which are linked to consumers, one would be the internet space and the private sector healthcare and education space.
All these three areas are looking very exciting. A lot of very high quality companies have already raised the private money from the private equity markets and they are waiting to go public.
ET Now: What about the whole ecommerce’s boom right now? Though not much is really listed in the space, but Info Edge etc. and the likes? Do these pockets interest you and if Flipkart were to ever list, if at all, do you think this could open up big opportunities?
Bharat Iyer: We are very excited even about the current companies which are listed in this space. This is a space which will offer a lot of investment opportunities to investors. This is going to be a very exciting area.
ET Now: Are you a big fan of the PSU space? There was this innate feeling in the market post 16th of May that the new government means better efficiency, the new government means that some of these PSU companies which are sitting on a lot of wealth will be able to monetise it, the babu culture will take a backseat.
Bharat Iyer: It is difficult to get bullish or bearish over an entire space because this is a very vast and heterogeneous space. A lot of them are dependent on the government’s attitude towards reforms.
The government really cannot pay the same kind of attention towards every space to start with. On a five year-seven year basis, would I expect that the public sector companies will be run much better than they are already run today? Yes. The government has obviously got to prioritise. That is the reason we would have a stock-specific approach or at least a sector-specific approach rather than have a blanket bullish call on all of them or a blanket bearish call on all of them.
ET Now: In the past, you have liked select real estate names and the names which you have liked, they have already done well. So do you think real estate selectively still augurs well because as of now the markets just love to hate real estate stocks?
Bharat Iyer: There is a lot of value out there. In this space, in the beta rally through March to May, stocks almost doubled and tripled, but we must also appreciate that a lot of them have given up a lot of their gains. It is going to be a selective approach because it really will depend on how managements deliver and also their attitude towards boosting sales.
ET Now: Let us start getting some closing comments from you. What is the importance of a rate cut in the overall scheme of things because for the moment, everything is really hovering around the next policy, most of the bankers are of the view that the credit cycle will pick up only if rates come down. But does a 25 bps cut really matter?
Bharat Iyer: A 25 basis point rate cut is not going to move the needle too much in terms of cost, but the markets are asking for it basically from a sentiment point of view.
Our house view is that rate cuts are unlikely at least for the next three quarters or so because inflation still remains a structural problem. You are getting some decent prints right now on account of weak base effect, but it would be too early to get carried away with this.
ET Now: What is the big risk that the market could be playing with right now and what could really burst this bubble for us?
Bharat Iyer: The big risk for us is not internal. The markets are aware that this is a complex economy. It is going to take some time to turn it around and investors are going to be patient and willing to live with that.
The big risk for me is any instability in the external financial markets. We have a great policy environment, but I do not know if our savings cycle can support the kind of growth rates we want or the kind of growth rates that the markets are looking for.
We need a lot of external capital to fund the kind of growth rates that we need and which we are pricing in at this point in time. If that capital is not available for any reason, then the whole story will be delayed, if not denied.
ET Now: The power sector is in a mess. The country needs power, utilisation rates are not going anywhere and there is a huge power shortage. So what happens for the power stocks now?
Bharat Iyer: As far as the infrastructure stocks are concerned, we have not been buyers of this space right from the beginning or during the beta rally from March to May.
ET Now: What is the future for some of the asset owners? I mean ultimately some of these companies – like GVK and GMR -- are sitting on good assets, they operating airports and these are national assets. You cannot replicate them and for the moment the markets are ignoring the kind of assets they are sitting on.
Bharat Iyer: A lot of companies have very good assets. But this is also offset by the fact that they may have a lot of assets which are work in progress, where a lot of money is stuck and where there is a lot of uncertainty in relation to when they can take off, and what will be the return profile. The market is going to be circumspect about these companies and rightly so.
Promoters will have to make tough calls. I mean they will have to decide what are the projects they want to focus on, what are the projects they want to retain and they will have to look to sell out a lot of projects. So they will need to make these tough calls and likewise from the government’s point of view, a few haircuts will have to be given, a few haircuts will have to be taken and this is where they will really have to focus on in terms of the reform programme.
But until and unless we see clarity here, I do not think the space becomes a buy. Even after that it is going to be a very selective opportunity space.
ET Now: Since the Modi government has such a thrust on construction as well as newer cities, we have been seeing how names like NBCC have been performing of late. Any of the construction or realty plays which look interesting to you?
Bharat Iyer: Our preferred way of playing this whole theme is through areas like cement and commercial vehicles because at the end of the day the aim is to have 100 cities and get involved in a lot of construction activity. Then these are very easy ways to play them because these are sectors with low financial leverage and very high operating leverage.
So for us the mantra through this whole phase of building up expectations has been, go for areas where the financial leverage is low, the operating leverage is high and cement and commercial vehicle fits this bill very well.
The real issue with this segment is it faces multiple headwinds. There is a funding constraint, you have a lot of projects stuck midway for want of raw material and inputs, there are project execution issues. This is going to be a very challenging space.
I would not be surprised to see a lot of mergers and acquisitions in this space and I guess this is the area where really has to be the focus of the government’s reform programme.
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