Correction in short-term likely but rural sector companies should do well: Manish Sonthalia, Motilal Oswal Asset Management

In a chat with ET Now, Manish Sonthalia, Motilal Oswal Asset Management, says FIIs and FDI flows to decide market over the next three to six months

ET Now: Some important cues are lined up -- not just the earnings season, but also what April is going to throw up vis-a-vis the RBI credit policy as well. What is going to please the markets? Would it be a 25 bps cut or do you think it will have to be a 50 bps cut and a very dovish commentary as well?

Manish Sonthalia: The 25 bps cut is already factored in by the markets. If we do not get that then obviously there is a room for disappointment. If we get a 50 bps cut that will be a positive surprise but if the 25 bps cut happens, then I do not think there is going to be much of a movement from a rate cut point of view. The markets are going to gyrate between risk on trade and a risk off trade. The key point to note out here from a 3-9-month point of view is understanding the balance of payments as far as India is concerned. Obviously, we are seeing exports slowing down in a big way for the 15th month in a row. Now commodity prices have started moving up. Our imports are actually going to become bigger and that is going to put some pressure on CAD and that will have an impact on currency. So how the currency behaves will also be a function of how the FIIs react to Indian markets. Both the FIIs and FDI flows are going to decide the market over the next three to six months.




ET Now: Last month, whatever we have seen or whatever recovery we have seen has been largely global in nature spreading from the Dow movement to Brazil. Every major market including small emerging markets have recovered. There is nothing special about India. It is all about global adjustments considering that globally things are not looking all that strong. Economic recovery is still uncertain. You mention the exports and data I can talk about the general GDP number for major economies which is not looking strong. So if the global recovery is not on cards, do you think it is a matter of time before global realities start haunting us?

Manish Sonthalia: Emerging markets as a whole move with commodities, oil being the key determinant. Obviously, oil and emerging markets move in tandem. So we have seen oil bottom at $26-$27 per barrel and now we are closer to $40 per barrel. There is a risk on trade and we have seen the repercussions across Brazil, Russia, India and China. It is a risk on trade. Can we move to a risk off trade pretty soon? The answer is a clear yes and the near term indicators on that front would come from the Fed. How our monsoons are going to shape up, what is the RBI commentary going to be like, what is the currency situation going to be like -- are some of the determinants which can easily put India back on risk off trade and then it is back to normal. We will see some correction in the markets. The underlying point remains that if earnings remain supported, we will see support at lower levels. Otherwise in the immediate short term, we are bound to see corrections at higher levels.

ET Now: Right now, markets are fully priced and right now one should not be a buyer. Is it time to take some chips off the table?

Manish Sonthalia: I remain positive on India from a three to six months point of view or even a nine month to a year point of view but I cannot rule out a correction in the immediate short term given that India has also moved up 11-12 per cent in absolute rupee terms. I do not know how the trade is going to play out but I remain positive in the medium to long term. Immediate short-term correction can be round the corner.

ET Now: We speak about the domestic story but the exporting story has tails of its own now. What was the most promising sector once the government came to power was pharma and of late it has been reduced to the doldrums. The last of the legends are also falling with Natco falling today and IT has a completely different tale to script right now. Let us talk about pharma though. The space has corrected a bit but a lot of people argue that the PE derating is still to come and therefore the stocks may not move up. What is your investment thesis here?

Manish Sonthalia: I really do not think that too much of a PE derating is on the cards. Obviously earnings trajectory is going to decide how the pharma stocks are going to move. Bulk of the negatives are already there in the price. It is a matter of faith and understanding as to which companies are more CGMP compliant or have quality control measures which could stand USFDA inspections. Other than that, I do not think there is further derating on the cards purely based on valuations. Long- term opportunity in pharma remains extremely good and pharma as a story cannot be outsourced to many other locations specifically China. People talk about pharma moving from here. I do not think that is broadly the case because manufacturing in small batches is really not China’s prerogative. They are bulk manufacturers, they can be very good in manufacturing APIs but when it comes to manufacturing domestic formulations, I do not think anybody can really compete. We are seeing that outside the US, the bulk of the generics which come to the US comes from India. So yes measures have been tightened, quality control issues have been brought to the forefront, remedial measures are underway and we are going through our own learning curve but I do not think the Indian pharma story is over. There is ample opportunity. Post the patent cliff in 2018, we are looking at the biosimilar story. It is just a testing of conviction that you will have to stay the course with your chosen stocks and if your convictions stays then there is money to be made in pharma stocks from these levels.

ET Now: So I assume that the buy on the current dips would be the strategy when it comes to pharmaceuticals?

Manish Sonthalia: Yes, I would put it that way and in fact in our portfolios, we are positioned that way and really not looking at exiting any of the pharma stocks that we are holding in our portfolios. Yes times will be volatile but we are happy to stick without as long as earnings come through and we are fairly conservative in an assumption based on what earnings would be looking like for the next two-three years. This in turn is based on which valuations we think are perfectly okay. We have no reason to sell at current levels.

ET Now: A lot will be made of monsoon in the month of June. Assuming it comes on time, is it a big trigger for equity markets or not quite?

Manish Sonthalia: See the agrarian economy is going to do well even if monsoons are not up to the mark for the simple reason that agri product prices are on the way up. We have seen a deteriorating wealth effect on agri economy due to falling prices of agri products and this has impacted consumption in the rural parts of our country. Even if monsoons were not that good, hypothetically milk prices were to go up. Farm MSP prices have been raised significantly or maybe minutely by not a very big amount but they have been raised by the government that is going to incrementally have a positive wealth effect. So the rural economy -- even if the monsoons were not to live up to the mark -- would be incrementally positive from what we have seen in the previous years and that should bode well for the rural sector as a whole. Consequently sectors catering to the rural side of the economy should be incrementally positive.

ET Now: If I look at the public data, some of the core holdings of your portfolio are Bajaj Finance, Eicher Motors, Page Industries. Have you changed them?

Manish Sonthalia: We had truncated some allocations at higher levels but broadly it is a function of the market because Bajaj Finance has continued to do much better than the market. They have outperformed the market. Allocation on the portfolio in Bajaj Finance would have increased slightly more than what has been in the rest of the portfolio but otherwise the portfolio remains the same.

ET Now: Time to revisit four wheelers. The yen scare for Maruti is over, pay commission outgo will ensure that discretionary spend will only improve. So is it time to revisit the Tata Motors and the Marutis of the world?

Manish Sonthalia: I am keeping both the stocks on the radar but I do not really have the conviction to buy into a Maruti if margins have peaked and volume growth is going to be low double digits. Bulk of the incremental growth for FY17 is going to come from other income and we are not even sure whether in FY18, the other income figure is going to show some improvement because they are investing in Nexa showrooms and acquisition of land for Nexa showrooms. So obviously the other income figure is also going to see some dip. With this sort of matrices, why should the markets pay a 20 PE multiple on FY17 basis, why should it be more than 15 PE multiples? If that question does not get answered, then I do not really feel very bullish on Maruti at these current levels. Obviously Tata Motors is a much better story at current levels with their CV cycle playing positively. We have got to just keep a tab on how the margins in China are going to shape up. Obviously, they are doing very well in the US and even the rest of the world but the interplay of volumes in China and how they have been fairing in the domestic CV market and what the multiples should be. I do not yet have much of confidence on Tata Motors. Frankly speaking, it is there on the radar.

ET Now: You were amongst the early ones to identify that long-term trend in Eicher and I again come back to the consumption bet. If indeed one rank one pension, Seventh Pay Commission all of that is going to lead to an increase in consumption, what is the best way to play this consumption boom that could possibly come in? What stock, what sector, what theme, what idea?

Manish Sonthalia: The consumer discretionary sector is going to be the biggest beneficiary. First of all, the base is going to be a small. Then you are looking at more money to spend in the hands of the consumer. Third, we are looking at reduction in interest rates albeit not immediately but over the next 1-2 years and the profit pools have consolidated in a few industries. For example, there are very few players in the air conditioners space and these have with big market shares. These are some of the factors which one should look into while betting on the consumer discretionary names.

ET Now: It is a very wide basket.

Manish Sonthalia: As a fund manager you bet on where the company A is going to do…

ET Now: And it is a very wide basket though. I agree with your theme but how do you play it?

Manish Sonthalia: Let us say I have a Voltas in my portfolio. They have the largest market share in air conditioners. So if all of the factors play out as you mentioned, they are going to be clear beneficiaries. Are the markets putting in adequate prices to earnings multiples on FY18-19 basis, the answer is a clear no. Look at the penetration, etc. I think there is money to be made even from these levels.