Investors will have to lower the expectations of returns and reforms due to a stronger opposition and a coalition government, according to Vikram Kotak, managing partner at Ace Lansdowne Investments Service.
While reforms have been the top criteria previously, the upcoming measures will have a tinge of populistic steps, the co-founder told NDTV Profit's Niraj Shah in an interview. "I believe that fiscal discipline can go a bit haywire despite the high dividend from the RBI. But over the 12–18 months, we might see more and more populist measures, which are going to take the fiscal deficit on the higher side."
The retail investors are pouring in the markets as they have been underinvested and the markets have seen a one-side rally, ignoring macro concerns. Institutions are booking profit, with the market scaling new highs, according to the fund manager.
In the last 15 months, there have been $27 billion of supply on the primary market either from promoters, qualified institutional placement and other forms, Kotak said. "People are taking money home."
The Indian markets have not been tracking global markets, Kotak said. "Whether geopolitical crisis or US yields, India has seen just one-way rally."
The reform and return expectations have to be tapered down, "but we are not negative on India", given the growth and inflation figures, the fund manager said.
The last two years have seen a good bull run and might see some consolidation ahead, Kotak said.
Watch The Conversation Here
Edited Excerpts From The Interview:
Vikram, the most common narrative is that markets are expensive and be guarded when investing. But that has not stopped banks or defence from making gains. So how do you approach a scenario like this?
Vikram Kotak: I think all the fund managers, who have seen three cycles in their life, always believe that the markets are expensive and which is the case. For the last many months, this has been our narrative. But what has happened is that the flows are really playing out a very different game. The people are underinvested in India in equity, whether it is retail, the family offices, or HNI, and that's what has taken the market to this level.
But that is going to change, in my view, and which is very important for the next five years. Despite the fact that we have a strong and stable government, we will have macro stability, but there's going to be a strong coalition and there will be a strong opposition. So things are not going to be as simple as in the last five years. Previously, reforms was the top criteria. I believe, now the reforms will also have a tinge of populist measures.
We used to say the fiscal discipline has been rock solid, the government has done a brilliant job over the last 10 years. I believe that fiscal discipline can be a little bit tough, going haywire despite the high dividend from the RBI. But I believe over the next 12–18 months, we might see more and more populist measures, which are going to take fiscal deficit a little bit on the higher side. So that's the other change.
The next big change is that on one side you have SIP flows but on the other side the paper supply has been very strong. In the last 15 months, we have seen $27 billion supply on the primary market, either from the promoters, QIP, OFS and private equity. People are taking money home. So that's the other thing and retail on the other side is buying because of the right reason—they're underinvested. That's the other thing.
Economic growth is likely to have been good, but it's not going to be because we are really high based also. So I think this is the other thing that you have to see. And last, which is very important is inflation. I believe inflation is not going to remain lower. It's going to see some kind of uptick there because you look at today's MSP price hike. Of course, it will not have much impact on inflation. But this is the starting point.
And you may have more and more reforms or more rural-related changes because you want to look at that popular vote bank. I think, things are going to go a little bit on the other side of the table, which was not the case till now.
And last, we were not tracking global markets, in the last two years where the geopolitical crisis or US yields. I think India has seen a one-way rally, just one-way rally. I think now, we have to start looking at a lot of other things, other than India because as you rightly said at the start, the valuations are expensive. We are at 25% premium. Look at the 15 day/year average. Earnings are going to be moderate. Inflation is going to be little upward in my view. Fiscal deficit will remain a little bit elevated and we will see more and more populist measures coming in.
So I think, my view is that your return expectation and reform expectation has to be a little bit tapered down. People have done reforms in the other strong coalition governments, but I still believe there will be a lot of challenges on the path ahead. It's not going to be an easy path like the last five years.
Having said that, are we going to be negative? The answer is no. India is looking good. It's still growing at 7% GDP, 4–5% inflation. I think, 15-17% expectation in the earning on the large caps is not ruled out. But in the last few years we've done very well in the bull run. So we might have some kind of consolidation or some kind of small correction, which will take place. And, we have to look at a lot of factors which we were not looking at earlier. As a fund manager, it is time to look at macro, micro, which in the last one year nobody has seen. Now, suddenly, I think things will start coming back into place.
If the market is going to see 12–15% earnings growth and therefore consolidate, where is it that the winners will emerge from? Is it the banking space, which has started performing just now? Are there other themes that you reckon could come to the fore?
Vikram Kotak: Sure. We are also long-only players, who don't hedge our portfolio. So we have only one fund, which runs on an absolute basis. But there, we either have long equity or long short-term debt. So we don't do futures because it's really expensive from a tax perspective for the client.
Also, fund managers typically are short at the bottom of the market because we are all psyche-driven people. So we don't always catch the right things. So I think it's better to stay away from the futures. And you know, how futures are happening in India. The option market is really getting ballistic and crazy.
Coming back to the question, sector-wise, I think there's going to be a sector rotation. It started. I think it will go deeper. My own view is that you'll see stocks like private banks, private NBFCs high quality. They will start looking better than earlier. More and more rural side spending. We've seen MSP. We are going to see some more measures.
You'll see some turnaround in the rural economy for sure going forward. So sectors which are around agri, agri inputs, two-wheelers, tractors, etc., will do well.
I believe housing for all is one theme, which is pending by the government. I think, it would be very important in the next run. So low-cost housing is one area, where you play through cement or utilities or peripherals of housing. So I think this is the space that is likely to do well, going forward. Of course, this is some space we always liked, but there are going to be more additions also.
Also, sectors like consumption will start looking a little better than earlier. So all the sectors that have not performed well in the last 2–3 years, will start doing better than the others.
I'm not very concerned on the PSUs. I believe that PSUs have seen a decent run. I believe people will start looking at PSUs versus private because the valuation gap has narrowed. You look at any financial institution. PSUs versus say a top private bank, the valuations are the same.
So people will look back at the risk management and the change in the structure. Also, coalition and strong opposition. So, I think, PSUs in my view will be a market performer, neutral, to a little bit of underperformer.
Metals we haven’t liked for a long time. IT in my view will continue to drag down. Very expensive capex stocks. We believe that there is a limited upside and that there can be more downside, if there is a surprise on the negative side on any delay of the project or any issue in the margin. So I believe despite order books looking very crazy, I personally believe that you have to be careful in choosing capex stocks. It doesn't mean that we don't like capex stocks. We own capex stocks.
But having said that, you have to be very, very careful about what you're buying, what kind of margin of safety you are having in terms of Ebitda margins and the execution cycle. Are you in the middle of the execution cycle, or are you a subcontractor? So you actually go into detail of that type.
That’s why I am saying that now is the time when you have to do a lot of work. It's not all hunky-dory. It is not going to be anyone's game who can just say, I can make 40–50% in a year. It's going to be a very, very different market than what we've seen in the last two years.
Export-oriented markets were not quite strong over the last two years. Specialty chemicals and select other pockets, IT over the last six months. On the valuation front, maybe IT is still expensive, but chemicals certainly aren't. Are those pockets that you might look at, because they are giving you valuation?
Vikram Kotak: I think, chemicals and agro inputs as a basket are looking quite better than earlier.
Having said that, I'll be very wary of buying export-driven chemicals because I still believe a slowdown in the world has not gone anywhere. India's circumstances have changed a little bit but globally, things are still tough and bad. I don't think the chemical export companies will do well. There may be one or two companies that can do well. But as a basket, I'm not very bullish on chemicals.
However, companies that are looking at inward chemical supply or that have long-term contracts with their clients, I think, they will do well. They have actually kind of seen a decent consolidation. I believe there are pockets of a few of them that are looking quite good. But overall, as a sector, we are not very bullish on chemicals as such.
On tech, is the pain coming to an end or is it difficult to call that right now?
Vikram Kotak: I have three problems with the tech right now, unfortunately. One is, clearly the world is slowing down. I think, even you have the US looking doing well. But even if you open the Nasdaq, only 20% stocks are performing at an all-time high.
Broadly, the US as an overall economy is not doing as well as what the market thinks. Other parts of the world—Europe, Canada, Japan, UK—are in severe slowdown. Some are in recession. I don't see that's going to change because there's a demographic and structural point. And you also have AI on top of it. I'm not expecting a tech company to deliver on such a high base. There can be a 10-15% run here and there. But I don't believe that's going to really change the needle too much.
Having said that, there are a couple of companies in tech we believe where there's a change in top level management. There's a capital allocation focus by a few of the companies. I think within the basket, a couple of them can do well.
But broadly, tech in my view will remain an underperformer. We had discussed this last year and a year-and-a-half back. Every time, we remained on the same point that tech is going to be in trouble for some time because there a lot of changes happening in tech. It's not going to be a very simple business model as it was earlier.
In the past, you identified the turning cycles of valuations in mid caps and small caps very well. Where do you stand on that argument currently?
Vikram Kotak: See, in India we are lucky. We are not in Hong Kong, Brazil or Australia where there are a few sectors that are a major part of the index. We have almost 68-70 sectors including sub-sectors to track. So there are always going to be opportunities.
As I told you, my worry is valuation. My worry is valuation with the expectation where we may not be able to kind of deliver to the level which is expected. So if you ask me, I'll be a little kind of neutral right now on the valuation. But in a thematic way, the capex manufacturing or capital market play are looking good.
I remember, 1.5–2 years back, we discussed food delivery as a sector. But today, I don't believe food delivery has that kind of juice to really give you the delta. Airline is one sector, which we played well.
But I think at this stage, I believe we need to be very, very careful. In fact, it's better to stay in the underperformed sectors, which are looking at 15-20% earnings growth. I'd rather play that because as I told you, the world is very different. We are not the same world as were one year back. Also, I think the margin of safety is much lower and the valuations are high.
Earnings are going to be a little tapered. The populist measures are going to play. I think a lot of things are going to play out over the next 12–18 months. It's not going to be a cakewalk. It's going to be a tighter ropewalk. But having said that, we believe that this government will do well. Macro stability is very solid. The coalition is strong, but you have to see that there are many factors that are changing in the surrounding.
Where is it that you believe there is a multi-year cycle? Where is it that you believe there is a mega trend?
Vikram Kotak: It is clear and very simple, because of demography demand and the digital is where the whole world is going to stay.
So whether that capex cycle is in the medium term, airlines or the capital market or manufacturing, they're all going to thrive. Consumption is going to thrive.
So the numbers that we are looking at right now are peanuts in India, as a penetration level. Whether it be airline, consumption or anything else, I think, these are the sectors which will ultimately do well. They'll deliver. There's visibility. There is consumer spend. So I think, these broad themes—capital market, aviation, capex—which will be at the top of my priority in consumption.
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