Small and mid-caps: We’re optimistic about the domestic investment cycle; Betting on small and mid-caps: Nirav Sheth

“I think as we start to see a pick-up in growth, the animal spirits will start to come back, which has been completely absent for the last 8-10 years. Balance sheets are in fantastic shape, most banks are very well capitalized, including some of the top-tier PSU banks, says Nirav Sheth,” CEO, Emkay Global Financial Services.

How do you see the market setup and the quality of earnings?
It is important to put the context of what has happened in the last month, which has been quite surprising. If we go back 2-4 months ago, the dominant anchor variable for the market was inflation and then there was a furious bond sell-off and that threw the markets out of whack.

In the last month bond yields have soared globally on growth concerns, I have a slightly different take on this. Now the normal in a normal situation is when every time growth fails, bond yields go up because we expect the Fed or the central bank to cut rates, but that’s true when inflation isn’t an issue.

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This time, even today, if we just look at the US and the inflation estimates, if we look at the CPI estimates for December, they’re at 7%. Normal PCE, which is a variable the Fed looks at when framing monetary policy, is expected to be 5.1%.

Now suppose you run three months and if you think growth is failing in developed markets and then inflation is at 6%, 7%, . How will the Fed cut rates? How will the Fed change the pivot? I’m not too sure and therefore I think global markets are getting ahead of themselves in terms of trying to assume that the Fed will react to slowing growth and that inflation is no longer an issue.

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I suspect that once we start getting inflation impressions, this could be reversed very quickly. India stands out in this montage. You actually want a situation where there are concerns about global growth, inflation is a problem, and the price of raw materials is the only thing going against India if we’re worried about what happens to oil and raw materials. , which I think in the current setup shouldn’t be a problem. issue.

Some time ago, Goldman came out on a note that resonates with something you just said: global equities may be getting ahead of themselves in concluding that inflation may moderate very significantly and all that. He is also saying that India can excel. In the next three to five years, can India disengage and strike out on its own away from the West?
It’s a very interesting question and as much as we wish we would break away we’ll do it in the sense that if the US goes up 10% we’ll probably go up 15% or if the US 5% but I think we’re part of that system and there is collateral damage.

We may outperform or underperform relative, but we are unlikely to have different directional moves. That’s number one. So I’m not a big buyer of that theory. Now, when I said that India stands out, I want to say that I am very surprised at the resilience of the Indian economy. Just look at the BMI figures for services and manufacturing and the growth rate of the core sector, real estate: all the high-frequency indicators are doing extremely well.

I think we’ve managed the economy beautifully and this is a look back at 2020. We didn’t go overboard and we had the right amount of stimulus during the pandemic, which means our inflation is lower than developed markets. So we have done a beautiful job. This is despite the fact that food represents 40% of our weight. That means we may not necessarily have to be as aggressive in terms of raising rates, which means India really stands out in terms of assuming that we can actually have a soft landing.

So our constructive view on the markets, India essentially comes from a pretty constructive view on the economy itself and I think after a long time, we’re seeing that a lot of the pillars are in sync in the sense that real estate is working well, the government capex, the state government capex and finally the corporate capex. So investment seems to be picking up, credit growth, which is a leading indicator in terms of how well the economy is doing, is trending in the right direction.

One can only argue that valuations are probably in fair territory, maybe a bit ahead of history. If you take a two or three year perspective, there will be a lot of money to be made in the Indian markets.

Going back to the other question in terms of China, the markets in general will now appreciate a great democratic setup, a state of ownership, a rule of law that at some point becomes a blur when you are making a lot of money. People tend to overlook that and obviously because of geopolitics, the economy takes a backseat and you’re more concerned with continuing business and things like that.

Again we are talking about the need to replace large markets. Can’t do with some pony tiger economy. Even an elephant economy like India stands out. If we play our cards right and look at the PLI template, it has done extremely well and we have a very good set up for the macro and therefore the markets as well.

How do you recommend positioning portfolios right now given the way the data comes in, whether it’s credit growth, car sales or anything else?
If I take a top down view then we are looking at domestic cyclicals. We’re worried that all those sectors that are overexposed to what happened in the developed market in terms of what’s happening in the US and Europe are going to get into a bigger mess because of gas prices and things like that. . India stands out and therefore we are very bullish on the cars.

We are optimistic about the national investment cycle that includes capex, capital goods. The only thing is that in the domestic market, we don’t necessarily like consumer staples because of valuations and people will overly interpret this margin pullback that will occur as commodity prices decline.

Our big theme is that it is time to expand into the Indian markets, which means that contrary to the consensus, we are bullish on the small and mid-cap sectors. They have significantly corrected that valuations are now below large caps and the breadth of investment opportunities is significant. So largely inward-oriented sectors until such time as we have more clarity.

I’m tempted to ask you about finance as a space because it’s like a very clear bet on the recovery of the Indian market. If we go through ICICI, Axis and look at the numbers, the change attempt and Bandhan stating that the worst is over, would you watch this space?
Absolutely. If you simply take out the top three or four companies that essentially stand out because of a very strong liability franchise, which in turn means they don’t have to take excessive risk for a given level of ROE, India offers ample opportunity to create franchises. of assets even when there are strong liability franchises. One of the things that we have been discussing internally is that it is almost unthinkable that we have completely reduced the risk.

So we find ourselves with a lot of small and mid-cap companies and we have a different spectrum in terms of risk. We only look at the banks and their disbursements. 80-90% of disbursements are above A or above AA, how many AA, A companies are there in the country? I now believe that as we start to see an uptick in growth, animal spirits will start to come back, which has been completely absent in the last 8-10 years. Balance sheets are in fantastic shape, most banks are very well capitalized, including some of the top tier PSU banks.

I think a lot of the alpha will be done outside of the top three banks and has been developing in some way.

he hasn’t gone anywhere. They’ve seen that in the last year and a half, the rally has been led by a lot of the banks and they’re going to come back. We’re looking at how strong the bounce was in . It is up 20-25% after its results due to a drop below book values ​​in news headlines rather than figures. We are seeing some momentum in . The numbers were good and the market was very concerned about entering earnings season. We are very excited about the space.

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