Current Market Conditions Ideal For Investment, Says ICICI Securities' Vinod Karki

Vinod Karki: Well, talking about events, I mean, you can call it a myth basically. Since Covid there were like three-four events, which kind of resulted in high uncertainty for investors and they were the best times to buy within this bull market, if you may call it so, so far.

So, to answer your question, if there is an event where you find uncertainty—in fact, our reading has been that all through the last several years, whenever there is an event, risk-related uncertainty and markets take a little bit of a knock, that has been the best time to invest. When everything is hunky-dory and volatility is extremely low and everyone is extremely confident about the future, that has not been the best time to buy, at least in the recent history.

So, if a Budget or something else comes up, it leads to some kind of uncertainty and some of this euphoria, I mean, this optimism that we have been seeing post-election is allowed. I think that would be a good time to buy, overall.

Vinod Karki: Well, the way I look at the overall market is quite simple in fact. If you look at the multiple and the growth, there are two aspects to this. If you just go back to when the global financial crisis at the start of the 2008 calendar year was, when we were looking at forward multiples, it used to be similar 21 times or something like that. So point in time multiple tells you nothing and in September of 2021 we were 23 times forward. So what can you say?

So what legendary investors like Ben Graham and some other guys who have built some frameworks say is that you better look at where you are in the cycle overall in terms of corporate profitability, leveraging and other things.

Currently, what I see is that, while we are somewhere on the higher end of the multiple around 20-21 times, in terms of the profit cycle, we are somewhere in the mid cycle—around 5% of GDP. We have maxed out at around 7% and if I look at what leads to maxing out a profit cycle is very simple. You have an overheated economy, you have high leverage in the balance sheets and high operating leverage and risk-taking is very high, a lot of acquisitions and a lot of what I should say capex outlook being very high and all that investment cycle being at the top of the cycle.

So I think, if you look at those things in the profit cycle, we are mid-cycle. I mean, in terms of corporate deleveraging, we have hit a bottom and maybe we might hope for some pickup and overall NPA cycle in the system is still bottoming out.

So overall, I think, we are at the mid-cycle profit and almost just below the peak multiple. So that's how we should look at it. I start getting worried about the market when we are at peak profit cycle driven by high leverage, high operating leverage and peak profitability.

Vinod Karki: That is a very good question. If you look at the period from pre-Covid till now, the only sectors where valuation actually has contracted, towards their pre-Covid levels is the whole financial pack within the Nifty, if you take it as an example. And energy stocks remain quite cheap overall.

The other angle to this growth angle is, while the market has completely embraced the idea that there is a big capex cycle coming which is shown in industrials, the capital goods companies and others’ valuations maybe flaring up, it is not clear as to how much deleveraging will happen. But, from a framework perspective, we haven't seen any economic rise in terms of investment rate, manufacturing, construction and all really picking up without a deleveraging effect.

I think the deleveraging effect is imminent. I think the market is kind of sniffing it out in the current context and you may see some kind of outperformance. But if you bet on the industrials, saying that there is going to be a big capex cycle, I don't see the financials—which will fund this capex or channelise savings into funding this capex—continuing to underperform for too long.

Vinod Karki: The corporate capex has predominantly been the area where public sector banks have focused. Private banks obviously participate wherever they find the opportunity. But as an overall theme, if I am betting on a corporate deleveraging cycle, I would bet that corporate banks or banks, which can focus and which have exhibited in the previous cycle that they have the capability to lend to corporates. I think the distinction will move from PSU and private to corporate and retail.

So, any bank that can lend to corporates in a way that doesn't result in high NPAs, I think, those will show higher demand because on the retail side we have seen some stress. RBI has also kind of plugged it off and a lot of players have entered retail. So it's getting into a crowded place. If you look at the corporate side, very few are participating and the demand itself has not picked up significantly which I think will pick up. So the distinction will be, like we used to have earlier corporate banks and retail banks. That distinction might start coming back rather than PSU versus private.

Vinod Karki: No. One is multiple but the underlying cycle which I talked about, it actually extends the cycle.

When you look at any economy when the deleveraging happens finally we have accidents at the top of the cycle. We cannot avoid it. That's the nature of economic cycles. What the regulator is doing, by being a little ahead of the curve is, because they have learned from the previous cycles where the hazards are and they are safeguarding some of these issues.

So that means that you won't have early accidents in this economic upcycle and this may be a little more prolonged, but eventually every cycle goes through that boom and bust. I think we are in a mid-cycle. It will boom at some point and there will be some issues at a later point.

Vinod Karki: Yes, this is an extension of what we're discussing. This time, the regulator wants to ensure that we don't get into a situation that we got after 2012-13, when the NPAs started ballooning in the corporate side, due to a lot of infra and other project plans. So, this is just an extension.

What one should note, in this case, actually it is more of an accrual thing. We are providing more. So, if you have lent carefully, and obviously these provisions will be written back. So it's only about timing issues, rather than absolute losses. So why should you fear. If you have lent prudently, then these provisions won't be required. But the point is, if you provide early, then obviously you have to see the cost on P&L immediately. So cost would be an issue. But overall, it's more of a safeguarding measure, I had say.

Vinod Karki: Yes, the reading is coming out that if you have been observing the GDP prints, time and again over the last couple of years, the GDP has been driven by the gross fixed capital formation growing faster than private financial consumption expenditure, which is reflected in the whole stock market reflecting that same thing where the cyclical companies have been significantly outperforming the consumer staples companies.

But the private capex is nudging up. So, first of all, the reading is that it has bottomed out. It is rising. But if you compare it with the central government capex, you know, in a scenario with private capex going very well, this is significantly higher. So, just to put things into perspective, the central government capex was 9.4 trillion in 2024 against that of the listed corporates, which did 9.1, as per our analysis.

So, the private guys are not significantly higher. At the peak of the cycle, we have seen this ratio being at almost five times. So, I think, this was in a period where we were going into the general elections in 2024. But I think post that, in fact, yesterday itself I saw one media report about a large industrial conglomerate significantly hiking their FY25 capex guidance to one of the largest, I would say. So I think, it is showing up. We heard the SBI Chairman talking about it too.

Vinod Karki: So, if you look at the commentaries coming in from the SME segment, I think this is the perfect patch for SMEs. That is simply because the growth in the economy is coming from the investment side, real estate development infrastructure and manufacturing and construction across board and this new age.

So the SME order book swells up in this environment. So I don't think there will be a dearth of capex requirement or capex demand over there. So I think there will be a broad-based capex growth overall.

In terms of playing this capex theme, the market is way ahead. I mean, we have been saying for the last couple of years that the capex is showing signs of improvement. But if you look at the industrials, capital goods I mean, they already made a move significantly before these numbers are coming in. That’s what we have been signaling—that you cannot wait for the numbers to confirm and then say that I'll take a position. By that time, the markets are always forward looking.

In fact, if there's any weakness in the investment theory, these same companies will actually show signs of significant correction way before the numbers start showing. So the indirect way to play is through the lending side because that in fact has derated valuations over the last five years. Their valuations, whatever the large banks and financials, were pre-Covid, I think the current valuations are in fact lower than what they were. So it's not completely reflecting this whole investment theory.

So I think the best way is to play directly to the corporate rerating cycle and maybe some industries or large industries, which are not significantly overvalued. For example, for L&T, I think the P/E is around 30. So it gets positively impacted from the overall capex cycle. It was just to give an example.

The point is, you dig through where the valuations are not significantly higher. I think, playing it through the lenders is better right now, from the risk-reward basis.