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Edited excerpts from a chat:
Amid rising inflows into mutual funds, the industry has seen rising cash levels in portfolios. Is it really that tough to find good stocks at reasonable valuation now?
I believe there are two reasons why funds are sitting on a higher level of cash on an average. Firstly, global uncertainties have increased, thereby influencing views on growth, interest rates, trade, inflation etc, making it difficult to take decisions.
Secondly, despite the market correction in the first quarter of the year, valuations of companies have remained above historic average multiples given the higher growth expectation. Subdued earnings growth in FY25 and the cut to forecasts have also contributed to the valuation remaining higher than the past and could be making it difficult to deploy cash. Also, domestic SIP inflows continue to remain extremely strong adding to the liquidity. However, we believe that there are investment opportunities in every market and hence don’t take cash calls.
Markets are dancing near lifetime highs. How much of this is driven by fundamentals and how much by FOMO?
We firmly believe that equity markets reflect the economic growth prospects of a country and its outlook over the coming years. Markets tend to price in fundamental changes in advance and hence one needs to keep this in mind when analysing the recovery. The Indian market corrected meaningfully in the first quarter of the year, factoring in lower growth rates, disappointment on the capex front, tight liquidity, global uncertainties, etc.
Over the last two months we have seen many of these factors reversing, especially the domestic factors. Economic growth seems to have improved, crude oil price has corrected, inflation is down, an interest rate cut cycle has begun, currency has become stable again, liquidity has improved etc. The one uncertainty is from the global side, on tariffs and growth. However, markets are probably expecting a positive outcome eventually in terms of market share gains for India and global economic growth to not go down significantly. Along with these factors we believe that the earnings downgrade cycle has probably bottomed, providing further support to markets. Hence, I would attribute the move largely to fundamentals. However, the pace of recovery could be because of the gush of liquidity from investors. Having said that, investors need to be cautious as the global uncertainties continue.
Smallcap stocks are once again the flavor of the season and have outperformed the headline indices. Is it again due to liquidity or because the earnings season was relatively better for smaller stocks than bluechips?
We firmly believe that over the long-term in a growth economy like India, smallcap stocks could outperform largecaps. Our belief stems from the evidence that smaller companies have been found to do well in expanding economic cycles leading to higher earnings growth rates.
The environment is now conducive for smaller companies to grow faster with the economy growing strongly, low inflation, falling interest rates, improving liquidity and most importantly, significant opportunities unfolding due to trends in manufacturing, infrastructure investments and financialization in the economy.
The superior performance of smallcaps in the short-term is also supported by strong domestic and retail flows which gravitate towards mid/ smallcaps over largecaps.
What’s your reading of retail investor behaviour right now? Have most of them learnt lessons after playing with fire by chasing SME and momentum-heavy smallcaps?
In any market there will be weak / uninformed / not so convinced investors, who chase SME and momentum-driven smallcap stocks, lured by expectation of quick money-making. However, I think retail investors are learning and continuously evolving. There is a better understanding of markets now compared to the last cycle. Every correction and recovery in the market helps in refining and improving investor behaviour.
Also, investors who invested early in the cycle are sitting on sufficient profits and hence there is no panic. Healthy SIP inflows, despite the severe correction, is a proof of the maturity of retail investors. With increasing investor education, rising income levels, increasing women participation, low penetration level of equities and mutual funds in India and higher risk-taking ability of Millennials/ Gen Zs, we believe that the domestic retail investor base is set to expand.
With valuations stretched in certain pockets of the market, do you think the Q4 earnings season was strong enough to justify the rally that we are seeing?
Expectations were already low at the beginning of the 4QFY25 earnings season, post two consecutive quarters of earnings downgrades and disappointments. On these low expectations, earnings have fared better than expectations.
Nevertheless, we have already seen 1-2% downgrade for FY26 Nifty EPS, driven by cut in estimates for IT and Consumer Staples. However, we see the earnings downgrade cycle close to bottoming which augurs well for equity markets. We believe the market recovery is due to multiple factors as outlined earlier and not only because of the Q4 earnings season.
As an investor today, would you back consumption, capex, or financials in FY26?
We are positive on all three segments over the long-term given India’s stage of growth as an economy. However, we have a slightly different approach towards investing in each of these segments. For instance, within consumption, we are not as positive on consumer staples. The sector has seen a difficult period with technology and new formats disrupting the industry. Also, as households have higher disposable income, there is aspirational buying with many of the basic requirements having been met already.
We are more positive on consumer discretionary sectors as the penetration level is very low and there is a large unorganized market which is gradually shifting to the organized space. Higher per capita income also augurs well for discretionary consumption. The stocks within many of these discretionary sectors are small with low market capitalization. We believe that there is a great opportunity to take advantage of the potential growth in these sectors in the long-term.
Similarly, in capex / investments, we like power, manufacturing and defence over roads, railways and some other traditional segments. The ongoing liquidity infusion by RBI, expected rate cuts and regulatory easing should augur well for some NBFCs and banks in the short-term. Financialisation of savings is also a long-term theme, with mutual funds, capital market intermediaries, exchanges, insurance companies expected to do well.
(Disclaimer: Recommendations, suggestions, views and opinions given by the experts are their own. These do not represent the views of The Economic Times)
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