Two Factors That Will Define India's Growth In Samvat 2079 — Saal Mubarak
Private lenders and large banks are likely to "do well" in the medium term, Envision Capital's Nilesh Shah says.
India's growth story for Samvat 2079 will be defined by "outperformance" and "better growth," according to Envision Capital's Nilesh Shah.
"India ticks (both the boxes) pretty strong and in a bold manner and I see these as essentially the big trigger, which are getting FPIs (foreign portfolio investors) back into the market," Shah, founder and chief executive officer at Envision Capital, told BQ Prime's Niraj Shah.
The share of domestic ownership has risen ahead of ownership by foreign investors, he said.
According to him, private lenders and large banks are likely to "do well" in the medium term as challenges of asset quality no longer persist. Moreover, the banks have resolved their asset and liability management issues as demand for credit is rising, he said.
Another sector that Shah is betting on is defence. Growth drivers like a focus on atmanirbharta (self reliance), indigenisation, exports, participation by the private sector and geopolitical imperatives will lead to the domestic sector's prosperity, he said.
"Defence is an incredible growth opportunity for not just the next one Samvat, but for the next decade. So, that's the second big area," Shah said.
Capex manufacturing is another sector that may see growth in the medium term, he said.
Watch the full interview here:
Edited excerpts from the interview:
Thank you for tuning in to Saal Mubarak. It’s our annual ritual on Diwali to do a fun but serious conversation on markets and try and pick the brains of one person who we think can give us good guidance from an investing perspective. Our guest on this edition is Nilesh Shah.
Nilesh Shah: Always a pleasure, Niraj. Happy Diwali, Happy New Year and Saal Mubarak to you and all the viewers across the length and breadth of this great country.
From the looks of it, we seem to be charting our course slightly better than what the rest of the world is on the macro front. The better part of this Samvat has been flat from a headline index perspective. What do you anticipate the next Samvat to be like, in light of the fact that there are select macro challenges that we are grappling with on the world side and India is joined at the hip to the world whether we like it or not?
Nilesh Shah: I would start off by saying what the IMF has very recently called out, that India is the bright spot in an otherwise darker horizon. The timing of this statement couldn't have been better because the festival of Diwali is all about brightness,...it's all about light.
For the IMF to call out India to be that bright spot in an otherwise dark horizon is perfectly apt and it's a great way to basically roll out the upcoming Samvat.
The Samvat gone by has been a period of challenges for the world. (One) could have never imagined that the developed world would have inflation rates, which are in high single digits. It's quite commendable that India has really managed itself so well in such a challenging environment.
Otherwise, India honestly in the past was way more fragile and vulnerable than what the developed world has been. At least, I am seeing this for the first time in my lifetime that India looks a lot better than what the developed world is.
We don't have so much of a challenge in terms of inflation. We don't have challenges of availability of energy and we seem to be essentially chugging along quite well.
Going forward, it's going to probably be a relatively better year ...because the year gone by, we have seen essentially a lot of selling by FPIs. We have seen inflation inch up to about 7, 7.5%. We have seen growth beginning to moderate a bit but the way I look at the forthcoming Samvat, it looks like inflation has perhaps peaked and we could get growth probably which is a tad better than what is essentially being expected in the next one or two quarters.
So, on the whole, I see the Samvat to be a year where growth would be a bit better. Inflation could be a lot lower. The reforms programme of the government will continue and the big change that I am looking forward to is where the FPIs or foreigners who have been sellers, actually come out and become big buyers. To me, that is essentially going to be the joker in the pack. If that does happen, then we could be in for a great time in the upcoming Samvat.
I was reading a note by ICICI Securities. The strategist is saying that the recent not-so-heightened selling by FPIs in Indian markets at a time when QT and interest rates are on the upswing suggest that FPIs probably preempted this and therefore, the heightened selling seen in the first six months. We might be reaching the peak of the kind of selling that is done.
To a lot of people, QT is the big joker in the pack which is not quite understood because of the balance sheet reduction. A lot of people believe that will result in liquidity being lower for equities at large. Do you second that or believe that we have reached peak levels as far as FPI selling goes?
Nilesh Shah: I probably believe that we have reached a peak or probably we are around the peak. I don't see FPI selling to gain even further momentum from here.
From last October to this October, we have seen relentless selling and that selling started way before even the talks of rate hikes and liquidity reduction and all that.
In the last two or three months, we have seen those one or two months where we have seen FPIs turn out to be net buyers. So, I think somewhere that the peak is behind us and it's quite possible that over the course of the next 12 months, over the course of the next Samvat, we will actually see FPI buying come in. ..It’s going to be reallocation.
Clearly, emerging markets have fallen quite a lot. This calendar year, the emerging markets are down 30%. The emerging market index versus that India is probably down about maybe 10-15% ballpark range.
Any investor in any part of the world looks at two things. He looks at outperformance and he looks at better growth, and on both these boxes, India ticks in a pretty strong and bold manner. I see these as essentially the big trigger, which will essentially get FPIs back into the market.
Keep in mind, for the first time in the last few quarters, we have seen that the share of domestic ownership, ownership by domestic institutions has gone ahead of ownership by FPIs.
What this signals is number one, the risk in terms of FPI selling is a lot less than what we have seen. Two, if at all, there is room for them to buy, room for them to catch up and get back to their historically higher levels. So, from this single dimension point of view, it’s a source of optimism for me.
The relativity of India being expensive to the rest of the EM Asian pack, and if indeed the world were to recover, then the probability of those markets doing better than India... you don't think that could influence FPI decision to invest between India versus some of the other markets say a KOSPI or say China, for example?
Nilesh Shah: I have seen for the last five years, 10 years, 15 years, 20 years that I have been in this market, India traded premium valuations. I actually draw this comparison between HUL and Tata Steel. You always see HUL which trades at premium valuations... It always looks expensive and Tata Steel always looks cheap.
I think it's something similar. If you look at India, in the global context it is the HUL and maybe any other market like a Brazil or China is probably the Tata Steel.
The other big difference is that some of these other emerging markets are commodity plays. Now, we can’t have a scenario where interest rates are going up, demand is going to soften and, in that environment, commodity still continues to do well.
Honestly, it doesn't make sense and if that be the case, I don't see how many of these emerging markets will do well. Versus that India is a growth market, it’s a structural market. It has everything that global investors look forward to in terms of a large market, a large economy, a vibrant market, many things to play, many sectors to invest, a very large universe of high quality companies.
It has everything that you would want as a global investor. The other big event we should watch out for going forward in the next Samvat is India’s inclusion in the global bond indices.
That will have a positive impact not just for our bond market, as a source of capital, for our currency, but it will have a nice positive rub-off effect even on equities, where investors say, ‘Yes, India as a bond market is good, but how about me getting back into India on the equity side’.
So, I think these are some of the things which are going for India, which will differentiate India from the rest of the emerging market pack.
Tell us about the near-term stress that may come in as a result of the current account deficit issue. If indeed the currency were to stay where it is, if come winter and China opens up and crude prices move higher, then the higher CAD hurting the weaker rupee could be a bit of a vicious circle and what that does to sentiment as well. What's your feeling about it?
Nilesh Shah: Yes, that's a near-term headwind that we as an economy continue to face and unfortunately, there's no wishing away that risk or headwind.
But, of course, this hinges quite a lot on whether crude oil prices go up. I am not quite sure if China gets back to normalcy, will that mean that crude oil will essentially go up?
It may go up, maybe for a week or for a fortnight. But is that something which is very sustainable. No, because we know that crude is totally an artificially controlled market. It honestly is more a function of supply than OPEC and some of the oil producers, the kind of output that they generate, rather than demand cropping up from a market which essentially has been shut off or closed.
So, I have seen that most of these commodities, including crude, are more a factor of supply rather than a factor of demand.
I am not entirely sure whether crude is necessarily headed for significant highs. It's quite possible that we may not see the lows which we saw in 2020-2021. But I am not entirely sure whether we will go back to those highs that we have seen in the early part of 2022.
I am not yet worried but theoretically, the risk remains and there's no way to wish away the fact. The only thing that we can do as a nation and as policymakers is to ensure that we continue to drive our exports in a significant manner.
Of course, things like GST and PLI are some of the reforms which have been undertaken and have started to pay dividends. They have started to bear fruit and I see that momentum gaining more intensity in the coming Samvat and even beyond.
That, to me, is the only long-term hedge that we have to our conventional traditional problems of CAD and trade deficit and all of that.
Where is the larger bent of the portfolio currently and are there some meaningful changes that you made to the portfolios that you manage or advise? There are a bunch of new themes that have come up in the last 12 months, which may last for a few Samvats, but still you are looking forward to seeing how they do over the course of the next 12 months?
Nilesh Shah: Yes, and as portfolio managers we need to continuously keep tweaking and allocating and reallocating the capital that we essentially manage. Some of the themes which have really come up in recent times, ...they probably have come up in the last few weeks or few months. But some themes look very strong.
Number one is some of the tier-II lenders seem to be in great shape, the tier-II private sector lenders. Of course, the larger banks will do well. But some of the tier-II banks, some of the specialised lenders are going to do incredibly well.
Challenges of asset quality are behind them. They seem to have managed their ALM (asset and liability management) really well.
Of course, the nominal growth of the GDP, which is after a very long time we have entered into basically a double-digit nominal GDP growth rate, which means better times in terms of demand for credit. So, on the whole, I think that's one fact which is looking good for the medium-term.
So, the second one, of course, which has been the flavour of the season is the defence pack, and what looks to be a flavour of the season.
My view is that this is going to be the main course for the decade ahead. Multiple drivers, be it be Atmanirbharta, indigenisation, exports, more participation by the private sector, our geopolitical imperatives and all of this and India in a way gearing up to just not be a prosperous nation but to be a strong nation.
These are some of the compulsions, some of the imperatives, some of the drivers which make defence an incredible growth opportunity for not just the next one Samvat, but for the next decade. So, that's the second big area.
The third area, of course, is around capex, manufacturing. That’s essentially the space which is going to do well. So, these are some of the businesses, sectors, themes which look good for the medium term, not just for the next one Samvat but for the next two to three years as well or maybe even for a decade. These are some of the things which look incredibly interesting.
This Samvat saw the return of a few things or a mean reversion. Autos, which were not doing well, came back. IT, which was doing really well, has gone through a slumber. What's your feel about what could happen ahead?
Nilesh Shah: There are three things which are happening. First of all, the additional demand which was coming in through digital transformation or discretionary initiatives, that is behind us.
So, that initiative was helping our IT companies to basically grow in double digits. That is off the table and that will have a meaningful impact on some of the larger companies. So, growth rates which probably used to be more like 12-15% for the larger companies is going to be down to 8-10%.
While the world is staring at a recession, the non-discretionary part of IT services will continue to chug along, which means that growth rates of about 8-10% in dollar terms, constant currency, I think is there. That was always there. That will remain. There's nothing that can take it away.
The third thing is that the premium valuations, the froth that we were seeing has kind of come off quite significantly.
It's entirely gone away for some of the large-cap IT names. It's beginning to go away for some of the tier-II IT services companies.
So, my view is that it's quite possible that for maybe another quarter or two, we could still see IT to remain more like a market performer and probably some bit of earnings to catch up.
I think post a period of a couple of quarters, which means probably the next financial year onwards, IT will be back as an investment kind of place to be in. So maybe right now, one should still have a strategy of accumulate or buy on dips, and then probably get a little more aggressive after a couple of quarters.
...I would say probably right now, maybe have a neutral stance, and then be watchful over the next couple of quarters where valuations turn more meaningful and that's the time to step into IT.
But other sectors, other themes currently will probably be a high priority or should be a priority versus the conventional IT services companies.
What about autos?
Nilesh Shah: Autos again looks very good. The auto demand is back and it is going to gain momentum. What looks the most attractive in the auto space is the commercial vehicle pack. I expect infrastructure creation, manufacturing, mining, industrial activity, transportation, all of these things to essentially post pretty strong growth.
Therefore, the demand for commercial vehicles is coming back but I still think there is a long way to go. So, that's one sub-pocket of autos which is looking better.
The second essentially is the passenger vehicles and within that, of course, players who have a sway over the SUV segment will do better.
Of course, we have yet to see who is winning the race for EVs. It’s early days, there are several contenders and the jury is out on who is essentially going to be the champion. Lot of challenges right now, but I am quite sure in the course of the next Samvat, we will see that champion in the EV space. So, that's an interesting space.
These are the three sub-pockets of autos which look way more interesting than just the generic conventional passenger cars or the two-wheeler space.
What about non-IT, export-oriented themes, the smaller ones I mean? For textiles, the season is gone even though the balance sheet may be deleveraged. Speciality chemicals are facing some of the other headwinds around price movements, etc. What about some of these non-index representative export-oriented themes?
Nilesh Shah: Now, one has to be careful. The next two to four quarters could be challenging for them and the challenges could be two-fold where in some cases, demand itself gets sluggish, especially if you are dependent on consumer demand in U.S. or Europe, like the textile sector.
The headwinds are already emerging as we step into the Samvat and a lot will get reflected on how the Thanksgiving season and how the Christmas season goes between November-December.
So, in the early part of the coming Samvat itself, there'll be indications, but it will be safe to assume that that pack is going to get sluggish. So, I would be a little cautious on some of those segments in terms of demand.
The chemical space is in for very long-term growth. But in the very short term, there are going to be margin pressures, be it pharmaceuticals, be it speciality chemicals. These are some of the pockets which will witness challenges in terms of margin.
So, I don't see a problem of demand, but I see a problem of margin. So again, I would put this basket also along with IT services, that means the export pack—be it IT services or the manufacturing pack, is going to be in a bit of a doldrum for the next two or three quarters.
What is it that you are watching out for? I know black swans are never envisioned, they come out of the blue, but I am trying to understand what it is that you believe to be an issue which the world may not be quite talking about as yet?
Nilesh Shah: In my experience over different market cycles, I have seen that corrections are pretty much normal to expect. We could pretty much have a flat year; we can have a great year. But we will always have corrections along the way and these corrections could be in a broad range of 10-20%.
We have seen this in the early part of the Samvat gone by and we saw how markets were between January to June, and 10-20 % corrections could be for anything, but the big correction which gets talked about and which is very difficult, it typically comes from basically a low probability, high impact event.
If I could go back to 2001 it was 9/11, which essentially kind of in a way tested the depths of the bear market and laid the foundations of the next bull market.
2008 was all about the Lehman crisis, 2020 was about Covid. These were events which none of us had even dreamt of and they happened.
I think it could be something similar. We don't know if there's some event in some part of the world which could come and hit us out of the blue and these are things which can happen any day, any time of the year.
Very hard to anticipate, but I have seen that in the past, the bear market really happens when there is an event and unfortunately, none of us can see it. None of us can be prescient about it and we have to just take it when it happens. So, it could be an event like that.
I think policymakers who currently, of course, seem to be on a drive or an overdrive to hike rates, to basically in a way conquer inflation will probably stop only when an event like that happens.
Otherwise, they probably will just continue and overdo what they are doing. So, my view is that it has to be some event, which could probably happen at some point of time. Hope it doesn't happen, but if it does happen, we probably have to be ready and take it in our stride and move on.
Do you have any new resolutions for the new Samvat?
Nilesh Shah: Just keep doing more of the same. All the good things that you keep doing in terms of trying to kind of staying fit, staying healthy, reading a lot more diverse stuff, trying to become more multidimensional. I think these are some of the things that you would want to continue to do even going forward.
What's the addition on the reading front?
Nilesh Shah: I think interest in geopolitics. That's kind of gone up quite significantly. Probably, earlier I didn't read too much in terms of what was happening around the world, in terms of the geopolitical side. Going forward, it's important to really try to understand, especially with what's happening around the world. It's quite possible that now politics is shaping economics. So, it's important to get that dimension as well.
We hope to see you continue talking to us more frequently in the course of the new Samvat.
Nilesh Shah: Always a pleasure and thank you so much. Once again, wishing you and the viewers a terrific Samvat ahead and Saal Mubarak!