Interest Rate Cut May Not Occur Before 2025, Says This Market Veteran

Devina Mehra: Globally, I'm quite positive on the equity side. I was a little more nervous in the middle of last year, when the entire move was very, very tech lead.

If you look at the US for instance, from January to October ’23—not just at Nasdaq, which is anyway a tech index—on S&P, 90% of the move was only in seven stocks, 89% to be exact and most stocks underperformed.

There were, I think, something like 70% which were down. So it was very, very skewed. So it's always scary when the markets are that narrow. But thereafter, they started to broaden and which is playing out and which is actually good for our strategy, which is the diversified strategy.

Now, the small and mid-cap indices in the US are actually beginning to look pretty good. So, not just the US. There are other pockets too. Last year, for example in the beginning, we were tracking Japan for a turn. Last April onwards, for a year now, we've been overweight on Japan and Taiwan. So there've been pockets.

India also, we think, will be over a period of time in the outperforming bucket, even though we see some shorter term volatility. So that's broadly where we see things.

In terms of you talking about the Fed now I have never been in that basket which has actually been the consensus that rate cuts would happen soon. So if we go back to the beginning of ’23, people were thinking that there will be rate cuts in ’23 itself, which I always said are not going to happen.

This year, in the beginning, it was that rate cuts will begin in March, which again I never believed because you look at it historically, every time inflation is this high, it takes years not months or quarters to come down.

So, it was very clear that before 2025 it's not going to happen. If you look at the print this time, of course, you know what the Fed tracks is what they call non-shelter services. So that has come up ahead of expectation. Again, not unexpected because services if you think about it have a large labour component and the labour market in the US has never been anything other than buoyant. Obviously you know, that part is not coming down.

Now of course, since commodities are going up, that's an additional push to inflation because you've got that low-hanging fruit in the beginning because the commodities’ prices have come down. So those are the things which will push inflation.

And while the Fed might look at core inflation—which is excluding food and fuel—(when) you talk about the elections, for the politician, food and fuel are relevant both here and in the US because for the consumer food and fuel is relevant. It may not be amenable to a change in the Fed rate. But still, you know you can't ignore it.

Devina Mehra: First of all, the debt is in their own currency which is something not every nation in the world has. I mean, this debt question has been there forever.

So, again, what happens in the market is what drives the narratives rather than the other way around. Like I gave an example in a tweet a few days ago that if the markets go up, you will say that growth is great, and that's why markets are going up. If they go down it might be that growth is great, and therefore the Fed rate cut won't come. So you will have an explanation either way. There's a book called ‘Everything Is Obvious Once You Know The Answer’.

So the narrative we try to fit is often that. So if you go back to, let's say, 2003–2007, the emerging markets went up 3.5–4 times, while India went up 6–7 times. But at that time, because the US was not doing well, it had not come out even after the tech crash. It took years to come back. Nasdaq did not take out in 2000 high till 2015, on a sustained basis.

So it was like the US is over. Now it is a century of India and China. That's when BRICS was coined. And once the US started to outperform again, all that was forgotten. So you know, everytime something happens, you will have a narrative that the US story is over and that now de-dollarisation will happen, this will happen, all that will happen but that's not something I buy into.

Devina Mehra: I'm not saying that they won't happen at all in 2024. But I'm just saying, it might get pushed. Also I can't say for sure, sitting here today, because the Fed also doesn't know for sure because all central banks are now very data-driven.

There have been banks, which cut rates and again, raise them; 2–3 of them did that. That also happens now. Central banks don't even go by what they said last time. I mean, they really say that forget what we said. Now, this is the data and this is what we are doing.

Devina Mehra: So growth is not that bad as expected. In fact, that's the reason inflation has remained high. I mean, that's what I said. You can pick whichever side of the equation you want and explain what's happening in the market. So, growth has not been bad and I don't think, our scenarios are such that growth is crashing anytime soon.

If you look at China, again, markets and economic growth are two different things. China's high was in 2007. The GDP is up seven times since, but it is where it is. That's the biggest poster child for you cannot draw a one-to-one correlation between the macro and what happens in the market.

Devina Mehra: As I said, I'm quite positive still on the global equity markets. The US also is looking fine now as against last year when it was giving me a bit of the jitters. And (among) the other markets, we continue to like Japan, we will continue to like Taiwan. We like a couple of the European markets more.

And as I said, India also from a one-year perspective looks good, may not be necessarily from a two-month perspective.

Devina Mehra: Only that there might be volatility. I think up till the election, you might see volatility, but I'm just saying that maybe we haven't taken that call yet—whether to be hedged or not, but we're definitely not making a cash call.

So there is still a risk of missing out on the upmove. So, when there's a little bit of a risk of volatility we'd rather hedge than be out of the market, because I always say that there is a risk to being invested in the market, but there's also a risk to not being invested.

Devina Mehra: No, I think India will be an outperformer, as I said on a one-year basis. It is more to do with the history of India.

If you look at equity markets, we all know this 15–16% compounding is what happened from the time Sensex started and that's what we hope for or what we plan for.

But there was a whole decade— 2010 to 2020—when the compounding was only 8.8%, which is just a trifle above the FD rates of that time. The fixed deposits used to be close to 8% in those days. So you got no equity returns. In dollar terms, there was hardly any compounding for that entire decade. I think 0% or 2%, something like that. So that is what created the room.

So even now, when you look at the mainstream indices, you're not above the trend line. The risk of a big crash comes when you're way above the trend line. You're still not even at the trendline. So that's why, as I said, the risk of being out of the market is more than being invested. But of course there are the frothy areas and the microcaps and SME and very small, small caps. So those things are where you should be careful.

Devina Mehra: As I said, you have to look at the market on a two-tier basis—what are the mainstream indices, the large cap and more stable companies, and you'd have to look at the frothy end of the market.

I often say people who have come into the markets in the last two years think that small caps always do well. But if you look at the small-cap index itself went down nearly 80% in 2008–2009; 78%, to be exact. It took out that high in 2016, which is also a theoretical high because by that time, the index was completely different.

You had this mad bull run in small caps, if you remember another year-and-a-half and then in 2018 one more crash almost two thirds and I said don't forget your high school mathematics or even your primary school arithmetic that if something falls two thirds, it will triple and you are at zero.

So all the micro-cap managers, who are now saying 50–60% compounding for two years or three years are the same people who had brought you down to near zero or down 90% and from there, even with that 50% compounding you're still not back to 100.

Those are the risks (with small caps) and unlike large caps, you can't manage risk in a small cap with a stop loss or something because when those stocks fall, there is no exit.

Devina Mehra: Not right now, because I expect some volatility till the elections are over.

Yes, India will be in the outperform basket.

Devina Mehra: It would probably be a combination. I mean, again, it depends also partly on commodity prices. If the commodity prices remain higher, then that hurts the margins.

If you look at the macro economic situation, you look at the consumption growth, that has not been higher. So headline GDP number looks very good. There's really a single engine which is the government expenditure, which is driving that and consumption expenditure is at a 21-year kind of low. So the last time it was this low was 2002–2003. The last print I saw for consumption was less than 3% growth.

So large parts of the economy are hurting. So consumption themes, which want to go below the affluent consumer, there is an issue because as you have seen all the inequality reports that inequality has been increasing.

So the plus of course if you're looking at a purely market point of view is that the listed companies cater more to the affluent customer and therefore, it may not be bad for them, but still I mean that there are some which cater to the whole market so that becomes the issue.

For example, if you look at real estate—I mean, not that we are positive on real estate—the listed companies will be dealing only with the affluent customer. So, it doesn't matter if real estate in general is doing well or not. So those are the things.

So you have to choose carefully again. Market multiples, I am a little sceptical always. I mean, this is not now. For like 30 years, whenever people ask me what's the Nifty earnings growth, for example, that gets skewed by 2–3 large companies and there are like all kinds of things.

If you look at the Nifty itself, if you look at the sectoral breakup, it has changed so much over the years. At one point, banks and financials were at zero or near zero. Now that's the largest chunk.

If you look at the IT services, they used to be much higher. Now they are lower. PSUs—people who have been in the market for only 5–7 years don't know this. But the mainstream indices at one point had so many PSUs—BHEL, BSNL, MTNL, ONGC, Indian Oil, HPCL, BPCL and then there came a time when people forgot that PSUs exist.

So the composition changes. So it's very difficult to just do a P/E comparison, or even just look at the entire Nifty earnings growth. So you really have to drill down because you are not buying that, you are buying something else. So you have to decide on the sectors and the companies, which you have to choose carefully.

Devina Mehra: Real estate is just a high risk sector. So we always manage for risk first. So we are always as I repeat often enough investing is a loser's game. So you win if you don't lose. So the first rule is not to take higher risk with somebody else's hard-earned money.

So that's the first thing we manage for. We always manage for not just the returns but returns versus volatility, returns versus drawdowns. So the return should come with low blood pressure, not high blood pressure.

Devina Mehra: I think some time this year IT will bottom out and will give a buy signal. That is my guess. We are not overweight yet. But we are, I think, around market weight, maybe a percent less or something like that. But that's not a sector that, like a lot of others, kind of wrote off that sector, I don't think that's the case. It's still a fairly predictable sector.

Again, the narratives change. In 2022, when IT had started underperforming, at that time the logic was that the whole world is digitising, even non-tech companies are becoming tech companies. There's so much demand for technology people that these guys will never get the people they want or the salaries will go up, margins will get squeezed.

Now it has become that, you know, this is a pathetic sector and there'll be no demand ever and people don't even realise that you're giving two exactly opposite narratives a year, year-and-a-half apart for the same phenomena.

So the fact is, the world is digitising, the world will move more and more to technology, there's been a change. And I don't know whether therefore, IT services may not remain as people-intensive.

So if I'm looking at employment, it might be a different story. But to say these people will not have the business or not have the growth beyond like a small hitch in the middle, because you know when consuming countries slow down, what happens often is that your sales cycle gets extended, your deals don't close, they get pushed by two quarters or something but that doesn't mean that business will disappear. I'm not of that view at all.

Devina Mehra: Yes. Some of the discretionary projects, which got kind of pushed, eventually people have to do those. It's not like a forever thing that you will never do that tech spend.

Devina Mehra: One sector, which we've been overweight for a long, long time, since October ’21—two-and-a-half years—has been capital goods industrial machinery, which most people started talking of only in 2023.

But our systems had signalled it after like 12 years as a dog sector from 2009 to ’21. It turned and how. So we've been trimming, we've been changing and I don't know whether how long this will last. We are a lot lower than where we were but we are still overweight that sector significantly, and sometime maybe I don't know, that story will be over because a large part of the story has played out but we are still overweight.

The sectors we've been overweight from since the beginning of 2023 have been autos and pharma and in this rebalance also, we have added some names there. We have added a little bit more to these two. We've also added in metals. Actually, before the rebalance, towards the end of March we added.

Devina Mehra: I mean the signals are there that the metal prices are firming. Of course, China is a big player on the demand side. So that's part of the story. But it is also that overall, the prices are looking better. Construction will be little overweight. I think that would be broadly where we are overweight.

Devina Mehra: In commodities, you never know. And I'm not a believer in these supercycles and all that. Again, these are just narratives and commodities are one area where a bull market hurts a lot more people than it benefits. So it's not a bull market that everybody loves. But for now, it's looking fine and we were very underweight also in metals.

So that was also why we've added one or two cement companies, but I don't think we would be overweight there.

Devina Mehra: BFSI. I'm a nervous investor in banks and lenders, as I keep repeating. People tell me that you repeat it in every interview of yours. We are still underweight banks, quite significantly. Within banks, we are more oriented towards PSU banks. So that's the part we like better still.

Devina Mehra: He says in every field of human endeavour, where judgment is involved, a system will outperform the so-called expert. So you know, this I read afterwards, but we had already implemented it. Human beings cannot eliminate bias, they cannot eliminate the randomness of what he calls noise in their judgment. So the only way to do it is with a system.