India At 75: 'Phenomenal' Returns Unlikely In Next 10 Years, ICICI Prudential's S Naren Says
S Naren says central banks may not be able to print money as they did from 2008 to 2021.
The Indian markets are unlikely to deliver "phenomenal" returns in line with economic growth in the next decade as global monetary tightening will cause a liquidity crunch, according to veteran fund manager S Naren.
“[You are] Going to get better returns in debt, and you may get moderate returns in equity with all other asset classes doing reasonably well, maybe, but none will give exceptional returns,” Naren, executive director and chief information officer at ICICI Prudential Mutual Fund, told BQ Prime’s Niraj Shah. “I don’t think in the next 10 years, the central banks will be able to print money the way they did from 2008 to 2021.”
Central banks across the world had printed money on an unbelievable scale from 2008 to 2021, Naren said, lifting asset prices and inflation. That not only ensured economic growth along with tax buoyancy but also led to "unprecedented" market returns, he said.
Till the central banks return to quantitative easing, he said, the return on on debt would be almost on a par with equity, making it a "much more interesting asset class" than it was during 2008 to 2021.
Indian equity and debt could attract large domestic and global investors, he said, provided oil prices cool.
Good policies may have helped buoyant revenue collection, but it has not helped narrow the country's fiscal and current account deficits, Naren said. For that, he said, the energy prices need to be much lower.
India needs a "breakthrough" in electric vehicles technology to be less reliant on energy imports, he said.
Watch the full interview here:
Edited excerpts of the interview:
As you look back and think of such a momentous occasion—75 years of Independence. The capital markets have done so much, what do you think of the promise that lies ahead?
S Naren: I started working in 1989. So, I was part of the pre-SEBI period, part of controller of capital issues. I have seen a period where there was no NSE, no internet, no CNBC, Bloomberg, or QNET. It was a very different period. If you see the strides that have been made in India over the last 33 years, it’s just unbelievable! You can never predict the kind of changes that has happened over the 33 years period. Similarly, you will not be able to predict the kind of changes that you will see in the next 25 years.
What you gain as a customer is also unbelievable. When I tell my colleagues who joined the company in the last two to three years, that we used to pay electricity bills by standing in a queue or it used to take us a few months to get a telephone connection, or to make a STD call to someone in Delhi or Bombay, we used to wait till 10 pm in the night or any such things, they look at me as though I am telling something wrong.
That's why I would say that change is very underrated in the short-run. People don't realise how much things have changed in the last 33 years. That's why people will underrate the change that will happen in the next 10-20-30 years. How much India has changed from 1947 to 2022, is not something anyone can realise. I have seen it in last 33 years. It's just unbelievable!
Bill Gates had said that we overestimate the change in the near term and underestimate it slightly in the long to medium term. So, what has fascinated you the most about our capital markets or the economy in the last 33 or 15 years? What can we take and build from here on?
S Naren: Role of information technology and the role of internet is the most fascinating. On July 31, when I pay my income tax returns by linking it to Aadhar and file it online. The way I pay my advance tax payment through NCPI. The entire process in which the whole Income Tax department is computerised today and the way the whole Aadhar system is working, it is absolutely fascinating! The internet and information technology are possibly the most fascinating thing that I have seen in my life.
I grew up in Chennai in the 80s. The Bangalore or South India of today and the Bangalore or South India of the 80s is unrecognizable, primarily due to the strides that has been made in internet and technology. The way the Cowin app worked, thanks to the good work done by the government after the Covid vaccine was discovered. How many countries in the world would have done it so systematically for over 100 crore people? I think it's just unbelievable!
What kind of strides do you think the Indian economic growth can take on the back of this tremendous set of reforms that are almost unique to India, the Jam Trinity, UPI, and the ease with which those payments happen vis-a-vis the rest of the world?
S Naren: The economic growth is going to result in much better tax buoyancy. There's a good amount of tax buoyancy you are going get out from goods and services tax, income tax, and various other things [that were implemented by the government], over the course of the next three to five years. That is going to help the government revenues in a very significant way.
Having said that, there was a challenge between 2008 and 2021. The central banks across the world printed money as if there will be no tomorrow, resulting in inflation spiral across the world. I don't think in the next 10 years, the central banks will be able to print money in a similar manner they did between 2008 and 2021. So, while we will have economic growth, thanks to the good work done. We may not see a buoyant market that equals the economic growth, as the central banks are withdrawing liquidity. It's not going to be like it was during 2008 to 2021.
During 2008 to 2021, possibly the only period when the world printed money on an unbelievable scale, helping all asset prices across the world. So, you will have economic growth, you will have tax buoyancy, but you will also have unprecedented market returns. That's a question I am asking myself? I don't have an answer. So, my belief is that you are going to have better returns in debt, and you will have moderate returns in equity, and you will have all asset classes doing reasonably well, maybe. But they will not give exceptional returns.
So unlike the last decade when stock market did well even if the economy did not, this may not be the case going ahead? You are saying income wise people may do really well but stocks may not necessarily do well?
S Naren: I am of the view that for about 12 to 13 years, the central banks ensured that debt was a very boring asset class where you got almost nothing as the central banks of most developed countries ensured that interest rates were kept down. I think that phase seems to have ended.
You are going to see debt as a very interesting asset class, everywhere in the world. The returns that you get in debt will be almost on par with that you get in equity. Therefore, debt may turn much more interesting asset class than what it was between 2008 and 2021. In most parts of the developed world, you got zero percentage between 2008 and 2021. That may not be the case, going ahead. Even in India, between 2008 and 2021, it was a period where you got very low rates compared to what you got during the pre-2008 period.
So, debt will be an interesting asset class, till the time central banks go back to quantitative easing. But, when I ask many of my economic colleagues, they say we can't go back to QE world shortly.
Do you reckon the debt offerings, the debt products, and the variety of investment options on the debt side in India could mushroom tremendously over the course of the next decade?
S Naren: We have always believed in asset allocation. Most of the asset allocation products are a mixture of debt and equity and those products have been invested by many investors. So, we believe those products have already been launched by people like us and many others in the mutual fund industry. Even in debt, there are a number of products that are invested by the institutional community in India. My view is that over the next decade, they will attract retail investor as well. Instead of people saying there is only equity and asset allocation—people will now say, you will have asset allocation, debt, and equity. You will reach a situation where all the three kinds of asset products are looked at by the investing community.
What does the next decade hold in terms of flows? While the Indian retail flows have been the bedrock for equities over the last 24 months, especially over the last 12 odd months. There is this belief that because of heightened tax buoyancy, which will only keep on increasing with the formalisation of the economy, we might see the perennial issue of large twin deficits, if not getting eradicated then at least getting a bit alleviated over the course of time and that might appeal to both large domestic and global investors. Do you, therefore, reckon that Indian assets will have a plethora of money chasing them, in the course of five years, be it equity or debt?
S Naren: For that one, one needs to see a situation of either oil coming down or the need for some breakthrough technologies like, we can produce and run electric vehicles cheaper. Or our nuclear power plants produce very cheap energy or something like that has to happen.
But what we are seeing currently is an opposite situation in the near term with the current cost of energy that too after the Ukraine war. There has been revenue buoyancy, thanks to the good policies implemented. But, it has not narrowed our fiscal deficit or the current account deficit. So, for India's fiscal deficit and current account deficit to narrow, you need much lower energy prices. Till the day energy prices come down, for whatever reason, I don’t believe that we are going to have these twin benefits of low fiscal deficit and low CAD happening.
If you look at 2020, you had a current account surplus because you had oil crashing. So again, if you have oil crashing, I will agree with you. But for oil to crash, you need the Ukraine war to end, or you need some breakthrough development somewhere in technology. If you don't have time, then it is not good to see how this will span out.
Over a decade’s time maybe, the war is a hot issue right now. I know it's unpredictable, but over the long period of say eight years or let's say for the remainder of the decade, would oil continue to remain a bugbear?
S Naren: What will happen is as India grows, the demand for oil will also keep on increasing. What we need is some breakthrough in electric vehicle technology. Otherwise, as India grows at 7-8%, the need for energy will keep growing, making us dependent on more and more energy. It is not logical for people to believe that India will grow without using energy.
There is a need for some breakthrough in technology. I am not the expert on that and you need to talk to someone who can tell you about the breakthrough and when it will happen. Otherwise, we are always in this catch-22 situation—When will energy prices fall? When will energy prices fall?
Revenue buoyancy is very much there. You should see the monthly GST numbers. You should see the tax numbers. Everything is good, but we are only been held hostage by the energy prices.
Hopefully at some point sooner, some breakthrough on the green hydrogen or hydrogen or electric vehicle may happen?
S Naren: Absolutely.
What else to watch out very closely over the course of the next two-three-four years, aside of energy pricing? Could it be some further reforms, could it be an extension on the back of the reforms that have already been done, be it focus on manufacturing or something else? What else to watch out for?
S Naren: Clearly the PLI scheme is giving a good fillip to manufacturing. I believe that people are clear that they have to be dependent on China plus one, Euro plus one. All these things are helping India in a big way coupled with the fact that India is one of the most neutral on a geopolitical basis to anyone in the world. So that presents India in a very nice manner to the world. So that also makes India a very, very comfortable country for anyone to deal with. So, these are all powerful positives.
Having said that, valuations at this time will not give phenomenal returns. But people are not investing in debt mutual funds. People are investing only in equity mutual funds. So that's why I believe in the next two to three years, investing in debt mutual funds is something will become a habit just like investing in equity mutual funds.
Currently, there is hardly anyone who is a proponent of investing in debt mutual fund. That's when it becomes a very interesting idea. Because just like equity mutual funds was not a habit 10 years back, but increasingly become a habit after it got promoted.
Apart from debt, in a five-year perspective, which segment is undervalued and has lower velocity of conversation, which may lead to some outsized gains relative to gains from equities or otherwise?
S Naren: If the government decides that the PSUs have to deliver returns to the equity investors, then clearly PSUs are undervalued at this point of time.
They have been for a while, even the government has been talking about this for quite some times but nothing has materialised?
S Naren: It depends on the resolve of the government, otherwise, we are at a stage where we are neither in extreme greed, nor are we in extreme fear. Currently, we are somewhere in the middle.
We are not in a situation where we can say that we are at extreme greed, so we have to be very cautious. Nor are we in extreme fear, so we have to be extremely bullish. We are not in that kind of framework, currently. Whereas, if you look at certain markets in the world, for example, there are so many geopolitical worries involving China and Taiwan. You have so many problems which are surrounding Europe currently. These are the areas, where currently, I would say there's much more fear. In India because of the way it has been managed there are lesser problems. Therefore, I would say we are not in that extreme greed or fear. Because of that currently India enjoys one of the most premium valuations compared with any other country in the world, outside of the U.S.
So that's why it's very difficult to make a case that currently India is in extreme greed or extreme fear. And that is the challenge, when we are doing this conversation.
We have to give credit to the government for managing the macros very well because it has not been an easy period to handle macros because we are at a stage where crude is high, we have Covid to manage, among others. It couldn't have been easier time to introduce more stimulus.
Any country that did too much of stimulus is suffering.
So, it is the combination of how the central bank and the central government handled the finance, is why we are in a good situation. The reason why we are able to say we are neither in extreme greed nor extreme fear is because of the current good macro management.
There is a belief in certain quarters that if 2010 to 2020 was a decade of consumer facing businesses doing well with B2C ruling the roost, while B2B though safe for IT did not quite succeed. Now, there is a feeling that B2B might make an advent in a meaningful manner in the current decade? Do you agree with that, or do you believe it will still be B2C?
S Naren: Clearly, I am a believer that manufacturing and exports, these are all themes which are likely to do well in the next decade because if you look at B2C segment barring a sector like telecom, most of them are priced as if it is going to continue its growth for the next 10 years. Whereas sectors like manufacturing and many of the exporters are all priced for a much lower growth. And as an equity investors, we love to invest in sectors where the implied growth assumptions are much lower. So clearly, B2B segments are much more attractive for the next decade than B2C segments as this segment has already priced in the growth.
They may continue to do well but then the valuations has already priced in the growth.
If we are looking at B2B or the manufacturing theme, there are a lot of questions being raised around how some of the winners of the exporting theme in India that has done very well in the last five years of the previous decade are now either facing business headwinds or value headwinds or a combination of both? It could IT or specialty chemicals or a bunch of others smaller themes like textiles or paper etc. are coming to the fore. What is your sense on the tried and proven export champions of India, which have this argument around valuations or business headwinds?
S Naren: As a valuation conscious investor, I would say you have to be valuation conscious. So, if some of the sector implies that valuations have become too high. Then, you go in search of sectors where the valuations are more reasonable, and where the implied growth assumptions are much lower. Then choose those sectors. That's what we would do. But broadly, I would still believe that, you know, even demographically, India is in a much better position currently to focus on B2B. That is how I would say because many of the country's today are in demographic crisis, whereas India is one of the few countries without a demographic crisis over the next one decade.
So, I believe that the opportunity is very much there. There are sectors in the B2B domain where the valuations have expanded, but are still more reasonable. So, I would say that we have a good mix there and we have to choose the right sectors and the right stocks to make money over the next decade.
A decade that will largely belong to multiple asset classes as opposed to only equities in the previous decade?
S Naren: Yes, that is my clear view, at this point of time.