Indian investors' investment approach remain deeply segregated by the eras they started their careers. Those who started before 2000 are concerned about the high valuations in the market. In contrast, those who began after 2010 see the steep multiples and cyclicals of stocks like Asian Paints and DMart as the new norm.
This generational divide shapes their approach to investing and their understanding of market dynamics according to Dhiraj Agarwal, managing director of Ambit Investment Managers. This split is more than just a matter of perspective, he said.
The post-2010 investors are unfazed by the high valuations, having only witnessed a market where such numbers seem to be the norm. Whereas, those who started earlier remain cautious, struggling to trust the current valuations with their understanding of market fundamentals.
"Both the buckets are confused. The first bucket is not able to wrap their head around the valuation. The second bucket just can't understand what's happening to cyclicals and industrials," Agarwal told NDTV Profit's Niraj Shah in an interview.
Agarwal also said that investors from the mid-period from 2000 to 2010 hit the sweet spot although the period only produced a handful of them. He further discussed Accenture's recent guidance reduction and how smaller Indian IT firms are poised to quickly adapt to the AI trend. Agarwal also touched upon the promising valuations in the private banking sector and analysed the ongoing rally in fertiliser stocks.
Smaller IT Companies Make A Head Start With Gen AI
On Friday, the Nifty IT extended its rally for the fourth consecutive session to hit its highest level in three months after Accenture Plc.'s third quarter results showed that its generative artificial intelligence deals gained steam. All constituents of the index rose, with Persistent Systems Ltd. leading gains with 5.23% intraday jump.
Although Agarwal believes that the days rally is a short-term movement, he sees a lot of smaller IT companies having a head start in the generative AI sector. Agarwal believes that the size of the company and its ability to adapt to new and evolving trends are directly proportional.
"Whether it is the R&D, whether it's cloud computing, specific sectors, which are doing well, design work and now, probably AI. This has been a trend even in the last few years, that some of the smaller mid sized companies growth rates actually doubled that of the large cap peers," he said.
"Persistent System and LTI— both these companies have grown at almost double the pace or slightly higher than the large cap peers. So it's been proven not just in the AI context, but everything new and every smaller area which is evolving in the Indian space," Agarwal said.
"Valuations are attractive but doesn't mean that upsides are large"Dhiraj Agarwal, Managing Director, Ambit Investment Managers
Moving on to the banking sector, Agarwal mentioned that although the current valuations are large, "attractive valuations do not mean that upsides are large," he cautioned.
Private banks have consolidated a lot of funds in the past three years and are neither cheap nor expensive, he said. "I think it's a better place to be from an asset allocation perspective, whether they're private flows or mutual fund flows. Hopefully, large mutual funds will also get some inflows now," he said.
The hike in minimum support prices, decent cash flow with farmers, and a good monsoon season are all contributing to very strong fertilizer demand. Around 2021, Ambit Investment Managers had a good hold in the super rally of chemical stocks.
"We've been thinking for the last six or nine months that this is very close to the bottoming cycle now because we are seeing the surplus capacity getting absorbed and the demand supply situation, which had gone into low supply, and new products starting to get corrected, and it is slightly difficult to time," the managing director said.
Fertiliser stocks are seemingly at their inflation point, and the investment company is "structurally positive" on the sector. Following nearly two and a half years of fund consolidation, the demand-supply situation has rebalanced, with some sub-segments showing signs of demand revival.
"Speciality chemicals and agro are showing signs of a good demand-supply balance," he said.
Watch The Full Conversation Here:
Edited Excerpts From The Interview:
Banks have been leading the way recently. Where do we go from here? Are you expecting a pullback or can the momentum sustain going into the Budget and post that, as the earning season kicks in?
Dhiraj Agarwal: You'll probably have to split the answer into two parts.
So, in the near term, I think markets are slightly in the risk zone. Possibly because of valuation and a lot of other global factors which actually might impact.
There are a lot of global factors at this point of time, which could pose a little bit of a risk. China revival is one. There is lot of money going into China at this point of time. There's a lot of global money going into Taiwan, at the expense of India as well. The domestic money flow is still very, very powerful and strong.
FPIs are a little bit more circumspect on India versus a few other markets, relatively speaking, and for the second time this month particularly and in the last few months in general, the supply of paper is just astonishing. Just two days ago, on one single day, Rs 24,000 crore of block stroke QIPs got placed. That sucks out the liquidity, which is going into secondary markets.
So there are little bits of risks one should be wary of and even with the Budget coming. There could be some balancing act in the Budget as compared to what the market was expecting previously, which can cause a bit of a correction.
A lot of people talk about how promoters are encashing or funds are encashing in a big way... Do you see it that way? I mean, the money being put by retail, in effect is being put by smart money managers or MF managers, who've done this for a long time?
Dhiraj Agarwal: The smart money managers are putting money to work because they're getting inflows and I think most of the money managers, if you talk to them one-on-one, are slightly uncomfortable with the pace of inflows coming in.
So there is always a little bit of a tussle in people's minds. You're supposed to grow the business and the AUM and hence you can't really shut your doors and say I don't want to take any more money. But people are finding it difficult not to deploy the money at the pace at which it's coming in. Remember, there's still a larger portion of the money pool coming in into either thematic funds or mid and small and not so large, which is actually easier to deploy at this point in time.
A number of large caps are actually more reasonably d as compared to their mid-cap peers. Even last month, Rs 34,000 crore had flowed into domestic mutual funds. The classic large-cap ones got only Rs 700 crore out of that. I mean that is slightly funny, as far as any historical comparison is concerned. So it is a little bit of a challenge.
My colleague Rucha reports that while Accenture's managed services bookings seem promising, its narrowed guidance and challenges in discretionary spending are among negatives for those Indian IT companies that rely heavily on financial services and communications sectors.
Dhiraj, how did you read into IT? Is it that, while Accenture is exploring generative AI deals, an area where Indian IT firms are not yet prominent, discretionary spending remains skittish?
Dhiraj Agarwal: So I think today's IT move is not about Accenture improving the guidance of the margins and some small sub-pockets, which Rucha very rightly pointed out is not so relevant to India.
But it's actually more of a relief that it didn't cut its guidance further, because the last time it cut its guidance was in the last quarter. It was a little bit of a shocker. I think the guidance was at a decade low, if I remember correctly in the IT services side and almost eight quarters or 10 quarters low at the overall side. So no further cut is a relief which the market is celebrating.
Second, I just explained the price move up today and then we'll come to slightly more medium term thinking on IT. It has become a very headline-driven market of late. So, 500 crore order inflow for a capital goods company, where the existing order book is already 90,000 crore moves the price 5%. I mean, it is not even 5% of the order book. Incremental flow, but it just moves 5% or 7%.
So stock prices are reacting very violently to daily headlines. It has been happening for the last two years. It's been happening a lot more in the last five months and June has been absolutely crazy in terms of reaction to headlines. So that possibly explains the short-term price movement.
In the medium term, I think it is just a relief that Accenture did not further cut the guidance. More importantly, from a medium-term point of view, my read is that the US economy is not as weak as what we all want it to be. Actually, it's not weak at all, as economists have been forecasting which is pretty reflected in the fact that the Fed has been reluctant to cut rates but looks like we might be heading a little closer to one or two rate cuts now. I mean either the September cycle or the November cycle.
US is a strangely capitalist country. Even if there is a fear of a slowdown, people cut back from the discretionary spends. So one or two rate cuts and then people will get back to normal saying, now it's done, rate cuts are done, fears of slowdown recession will go away. Maybe the economy will survive or the economy will start growing again, and that spending can come back. So that is the expectation which is more important from an IT point of view, not just the Accenture numbers and Accenture’s 8% move last night.
Nifty IT still trades at a premium to the Nifty. Is it better and more prudent to wait for an uptick in discretionary demand and buy the stocks 5% more expensive or is it better to preempt this, maybe not now, but even two quarters out?
Dhiraj Agarwal: You have to act. Unfortunately, you have to act in a sector which is so priced to perfection. You have to act a little bit ahead of the actual event taking place. Otherwise, there is not much left on the table. So as you rightly said, IT valuations are down as compared to what it was two years ago. But it's not down and out. It's not certainly very, very cheap or distress or below mean. Hence, even if the uptick happens how much will the upside be? If you actually wait for the uptick to happen, you would have actually missed most of the moves.
So unfortunately, this has become the trend or this has become the style right now. You have no choice but to preempt a little, especially in perfectly priced sectors with the total upside maybe just 15% or 20%. So if you miss 12 out of that, there's not much left.
From a recent conversation with Persistent's Sandeep Kalra and LTI Mindtree's ex-CEO Sanjay Jalona, what I understood is that the smaller IT firms might stand a better chance at adapting to AI. Is there a clear distinction between size and the ability to adapt to AI in Indian IT?
Dhiraj Agarwal: In general, even in the last 10 years, smaller companies have been faster to adapt to new or evolving segments.
So whether it is the R&D, whether it's cloud computing, specific sectors, which are doing well, design work and now, probably AI, the trend, even in the last few years, has been that some of the smaller mid-sized companies’ growth rates actually doubled that of their large-cap peers.
You took the example of Persistent System and LTI. Both these companies have grown at almost double the pace or slightly higher than their large-cap peers. So it's been proven not just in the AI context, but everything new and every smaller area which is evolving in the Indian space, and this is actually true globally.
Larger US companies solved this issue by a very aggressive acquisitions. So I've lost count of how many acquisitions Microsoft would have done in the last 7–8 years. It just keeps on gobbling up new companies, which are building a new tool or a new vertical or a new product or a new innovative line and just folds it in.
Indian companies, even if a few of them are acquisitive, they're mostly to acquire revenue lines rather than a new skill set or a new innovative vertical. So you're right. Smaller companies do adapt faster and grow faster because of that.
Dhiraj, in the last few days, private banks have come to the fore, presumably on account of FII flows. What to do with private banks currently?
Dhiraj Agarwal: I think, the valuations are all pretty attractive at this point. And again, like IT, as we discussed, valuations are attractive, but it doesn't mean that the upsides are large. So the markets have become very used to very large upsides because of what's been happening in a particular part of the market—mid and small, infra and capex-related companies.
If you forget that and put that aside for the time being, private banks' valuations have consolidated a lot in the last three years. They're not very cheap, but they're not expensive either. So relatively speaking, I think it's a better place to be from an asset allocation perspective, whether they're private flows or mutual fund flows. Hopefully, large mutual funds also get some inflows now. If not all, at least a few private banks are looking fairly interesting now at these prices.
The government is expected to be a bit more populist. Therefore, did you move your portfolio a little bit to the staples and leave a little bit out of capex with the belief that fiscal deficit will be adhered to, because it's an announced goal. Now, how do you think about this troika?
Dhiraj Agarwal: There are two independent questions according to me. I mean, it may not be linked. So the capex-related companies and FMCG companies and the Budget implications.
So first, to start with macro. Could there be some amount of balancing act after the election verdict and the fact that it's a coalition government? Possibly. Will there be a large needle swing? I honestly doubt. I mean, this government acts with conviction on what they believe in. The formation of the current Cabinet is actually a reflection of the fact that they are giving market a signal that it's business as usual, it is continuity.
There will be some tinkering here and there but don't expect a large needle shift on their entire focus. What they believe is that if you do capex, build infrastructure, and create industries, jobs will come and rural economy and the lower urban class economy will automatically revive. So some shift maybe, a large shift unlikely.
Now, coming specifically to the capex stocks, they're doing well. They'll continue to do well. I think that thrust is not going away. I worry a little bit about valuations.
In fact, a very interesting conversation I had with somebody recently. I was telling them that you can basically divide the investment professionals in the market by age group. Many like us, who started the career very early pre-2000 and then many probably who started after 2010. And, the pre-2000 people are all worried slightly on the valuations. The post-2010 (guys) have seen Asian Paints go up to 120 times trailing multiple. They have seen DMart trading at 150 times. They find 80 times okay, I mean, not that expensive or cheap.
So it's a challenging conundrum. So maybe today's investors are largely belonging to the new era and they don't really care. But I worry a little bit about the valuations of the capex company side. There should be some consolidation at the minimum.
What about people like me, who started between 2000 and 2010?
Dhiraj Agarwal: So, between 2000 and 2010, you're in a sweet spot. There are very few people like that actually, because you've actually seen the cyclicals move as well. People like you are finding it relatively easier to believe that cyclicals can also have a 5–7 golden year period.
People who started their careers after 2010, have seen cyclicals only crash. They came in, they studied what happened in GFC. They pulled up the price chart and they saw all the cyclicals down 60–95% and they said, yeh toh chhune ka hi nahin hain, never go there. They're not able to understand why ABB can trade at 75 times or 80 times. How can BHEL go nearly to the previous peak and on paper look like a 300 times TTM (trailing twelve months). They are just not able to wrap their head around because they have not seen the whole cycle where the order book comes first, business execution follows later. And in the second or third year of execution is actually when the margins come.
So you have seen that cycle. So you can at least understand and fathom it up to some extent. I have done a casual scan. And in 2000–2010, there were very few people. Either it's pre-2000, post-2008, or post-2009. I think perhaps we have overhired pre-2000 and went slow on hiring in the 2000–2010 decade. Then, we rehired again after 2009–10 when the GFC settled.
So both the buckets are confused. The first bucket is not able to wrap their head around the valuation. The second bucket just can't understand what's happening to cyclicals and industrials.
You guys had a really good hold of the chemical stocks' superrally that happened until 2021. Their hibernation of the last 2–2.5 years is just starting to turn. What do you guys think?
Dhiraj Agarwal: We've been thinking for the last 6 or 9 months, that is very close to the bottoming cycle now because we are seeing the surplus capacity getting absorbed, demand-supply situation which had gone into oversupply into a number of products starting to get corrected. As I said, it is slightly difficult to time.
So many of our investment vehicles actually have been building chemical positions for the last 6 or 9 months. Tested some patience for a while, but looks like finally the inflection point is coming through. There is a revival of growth, there is a revival of pricing and hence the margins for the chemical sector. So we are structurally positive on this space at this point.
I think that 2–2.5 years of consolidation has absorbed the surplus supply and the demand-supply situation is getting balanced again. There are some pockets of signs of demand revival also in many of the sub-segments. It’s a complex multiple product segment very much like pharmaceuticals. Obviously, there will be nuances within, but in general, the chemical space is looking good at this point.
Are there subsets within, where you guys are more constructive on relative to the other subsets, in specialty chemicals?
Dhiraj Agarwal: I mean, I always struggle to remember names of chemicals and drugs.
But yes, specialty chemicals and even agro are showing signs of good demand-supply balance.
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