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A middle path between growth and value right approach at this point: Gopal Agrawal

Until there is a growth revival and until earnings momentum returns, the market will continue to see shallowness and skewedness, says the CIO of DSP Investment Managers

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Last Updated: Feb 27, 2020, 01.46 PM IST
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Gopal Agrawal-DSP-1200
Luckily I own retail stocks, and that has helped me generate some alpha in the portfolio.
While we are reeling under the impact of the coronavirus on global markets, we are still relatively insulated considering what we are seeing overseas. Do you feel this situation requires keen monitoring in the short term? Or are you unfazed by the more long-term prospects of growth in the domestic economy?
The coronavirus issue is definitely is a very short-term issue,. After the US-China trade deal, we started playing the reflation trade in global economy, and all of a sudden we saw the break on that trade actually. So now we are back to basics of the domestic economy. But the domestic growth impulse is not very strong; it is moving somewhere at the mean. That is why the market is in a wait and watch mode.

What we sense is that the recent measures taken by the government and RBI, especially on the LTRO side, will lead to some kind of positive momentum in the times to come, because the way energy prices are moving, the way bond yields stand, and AA and AAA spreads are narrowing, my sense is investors should not worry a lot about the short-term movement. Most of the mini and macro parameters are turning really positive for the market.

What should one read into the drop in yield: a bull would say rates will come down, demand will pick up; a bear would say if yields are down, that also means credit demand is not picking up. Should we look at it as glass half-full or glass half-empty?
That is a very good question. In India’s context, demand is not a big issue. But interest rate makes an important dent on this. So whatever happens in the context of India, a downward bias in interest rates will actually have a positive momentum on growth. We have seen that in the past. If you go back in history, in 2003 and even after 2013, when Subbarao had raised interest rate and yields started moving downward, you saw the real growth impetus and midcaps outperforming the market. So my sense is, in the near term people should look at it as a positive than negative.

How are you investing in this environment when we know the uncertainty could be here for the next six to eight months? Should one stay with classic defensives, it could be FMCG, it could be a name like D-Mart, it could be few private banks, or is it time to start taking risk? Are you buying risk in your portfolio?
I do not want to throw the towel and go totally into a risk aversion mode, because many of the stocks -- which are so-called value stocks or linked with the reflationary trade -- are getting valued at a point which is close to book value or below. I want to run a blend of 70% growth and 30% value in the portfolio. Also you should consider that people will now look at different sourcing model away from China. So, India can be a good market that people would like to have as an alternative source in the times to come –maybe for capital goods, maybe for chemicals, maybe for bulk drugs. I think specialty chemicals sector and even capital goods and even API manufacturers are likely to benefit from these changes.

Let us talk about divestment. I noticed your recent buy on BPCL. Are you closely tracking that agenda? What are the kind of timelines you are anticipating, and what is the kind of appetite for a blue chip like BPCL?
Very clearly the world is going through a downturn in demand for crude oil. So any upstream guy would like to have a market like India, where demand for petrol is seen rising 3-6 per cent over time. So a lot of players would like to enter the Indian oil and gas marketing space to get the benefit of this. My sense is, marketing is the best vertical in the entire value chain of oil and gas currently. So a lot of foreign guys will certainly look to come to India on marketing side and you can see very recently a US company said it wants to set up some kind of gas marketing network, and wants to enter gas distribution and petro fuel retailing. Net-net, I expect good interest in the oil and gas space in India. The only thing is, we want to give them more clarity that if there is a spike in oil prices, they would remain immune to any kind of changes in government policy. If we provide some kind of assurance there, then you may see a real upside in the valuation.

There is anxiety in the telecom space with regard to AGR dues and the financial strain. Yes there have been resounding buy calls on Bharti Airtel, but given the recent news flow, are you still confident? What is the kind of rationale behind your preference for Bharti in that space?
I am currently running a significant overweight on Bharti in the portfolio, and I am quite positive on this space. Because the debt on the sector pre-AGR was over Rs 7 lakh crore with a revenue of only Rs 2 lakh crore. So you can assume the kind of stress in the sector, because competition led to significant reduction in Arpu over time. What we are seeing now is that even the core business of the competition is coming under pressure. Because of this AGR ruling, the industry will certainly come to a stress level where Arpu has to move up. The last quarterly results were the first point where we saw an uptick in Arpu. If that trend continues, there can be a lot of upside in the sector, because only deleveraging of balance sheet can lead to market cap creation.

Would you be revisiting PSUs now? They have strong dividend yield and the corporate tax cut benefits are kicking in. We know the benefits and markets also know that. If markets know something, how come nobody is reacting to it? Post corporate tax cut all PSU stocks have kept on falling with the exception of an SBI or an IRCTC.

Very clearly, the so-called value stocks outperform in a growth scenario. In the current global scenario, manufacturing growth is actually not picking up. Even the US is clocking 2.3 per cent GDP growth rate, but manufacturing growth is at a 10-year low. So this is the scenario globally. What happened there is, there are very few buyers of the so-called value stocks when growth is not there.

Even in the case of India, we have been seeing negative downtick, barring the past five-six months. The point here is, in such a scenario people have turned a little risk averse because of continuous supply of paper from the government and are not very sure about the growth scenario. So people try to remain underweight on this kind of value stocks.

My sense is value will certainly outperform in a growth scenario. If we start seeing an uptick in global growth or local growth, stocks that are trading at single-digit PE multiple, below price-to-book value and very high dividend yield will certainly come back. So a blend approach is required, rather than going overboard or remaining zero on this. The middle path may be the right approach at this juncture.

What about the infrastructure and capital goods sectors? How are you looking at the commentaries that have come in from these managements and the kind of government initiatives seen in this space? Will you be upbeat or are you cautious?
The infrastructure sector is in a mess, because of government fiscal, both central and state levels, is getting out of control. So there is definitely lack of the money supply to the contractor and this sector is in trouble. My sense is, until we see an uptick in tax collection, this sector is likely to underperform. After FY08, we are seeing a real issue on tax collection in India. That is why this sector has been underperforming perennially. As soon as you see some uptick, maybe some positive nuance comes on the GST side and that will be a positive trigger. Infrastructure stocks are now trading between 5 to 12 PE multiples. Definitely they has corrected by more than half from their peak valuations.

Auto is one space where the Street clearly is divided on whether the slowdown is structural or cyclical. I personally refuse to believe electric vehicles will take over and Indians will stop buying cars. But the way stocks are getting punished, nobody is ready to give the true value of franchise to some of these companies. These are zero-debt companies. They generate a lot of cash. They have brands which cannot be replicated, yet the market continues to punish these stocks. A Bajaj Auto is trading at a PE multiple below 15, Maruti is trading at a PE multiple of 19-20. What is going on there?
Certainly this sector is coming to a real value zone. Because now they are offering you good free cash flow yield of over 5 per cent, certainly between 5 per cent and 9 per cent. Still you have not seen an uptick in auto demand because December was negative at minus 1.5%, January was minus 6.5%. Still the uptick is actually not coming. There is a still hope on the commercial vehicle side that the government may come out with a favourable policy. On that also, we are not yet getting very positive vibes. But if there is something, that will be a very positive. So, currently valuation and operating parameters are in favour of the auto industry. There can be short-term volatility because of auto component supply issue, but with RBI’s LTRO lowering the cost of funding, increased money supply in the market and an improvement in rabi crop, I expect things to bottom out and rebound in the times to come.

Retail is one sector which is globally getting crushed. The Abercrombie & Fitch of the world are getting shut down. They are filing for bankruptcy. But in India, D-Mart and Trent are trading at PE multiples that make this look like the next sunrise sector. Do you own retail stocks? Do you regret not buying it?
Luckily I own retail stocks, and that has helped me generate some alpha in the portfolio. The world is moving towards the virtual market. In India, this journey may be 10 years away. In India, retail modern trade is actually just expanding. My sense is, along with premiumisation and urbanisation, still there is room for retail companies to generate positive growth.

Please understand what is happening: we still have a memory of very high GDP growth, very high earnings growth. But that is not there any more. So whichever company are reporting growth, we are giving it very high multiple. As you said about PSU trade, if you look at it dispassionately, they are not showing you positive earnings momentum. If you get positive earnings momentum, the market will reward you. If you look at a sector like chemicals, in cement recently, or in gas marketing, wherever earnings growth is positive, you are seeing re-ratings. The point here is that the liquidity is large. Even if you look at global guys, their cost of fund is sub-2%. In India, our current account situation is great, rupee is well-behaved and many stocks, many businesses, retail sector offer you good yields. That is why if you have noticed the commercial real estate sector in India is the best performing Nifty sector actually.

Gone are the days of very high earnings growth. Wherever there is earnings growth, you will see that stock trade at very high multiple. Until there is a growth revival and until the earnings momentum returns, you will see these kinds of shallowness and skewedness in the market.
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