In an interview with ETMarkets, Rego said: “Earnings have been strong, and while absolute valuations may be high, in relative terms, we are not at a point where we should be concerned,” Edited excerpts:After a 2% rally in September, October is turning out to be volatile for Indian markets amid geopolitical concerns as well as slowdown fears. What is your take on the markets?
Yes, definitely, today all attention is on the Middle East, and since things have escalated there, I also think that with Iran coming forward and taking steps, there will be countermeasures as well. That is not good news, which basically means that we could see further tensions and volatility.
Markets do not like volatility, and to that extent, you will always find that markets will be volatile during that period. You will also have an issue with oil prices. While there is some spare capacity, the U.S. also has reasonable inventories. Russia may also come back and add some volume.
But still, the uncertainty is significant, and we do not know how much it can escalate because multiple countries are getting involved.
If the situation tightens in the region, it will have an impact, and since markets do not like uncertainty, you will see volatility because of that.It is also related to where the Indian markets are. India has done very well, and the markets have reached highs, so I think a bit of a breather is required in a normal market cycle.In fact, I believe that if this geopolitical tension hadn’t arisen, there would have been another reason for volatility. Even though the medium- to long-term outlook is very good, in the short term, there will be corrections when markets run up too much.
I think this is natural, and we are not too concerned about the medium to long term. If you look back at the history of wars, their long-term impact is generally not too large.
For example, with Ukraine, commodities were affected, but beyond that, the impact wasn’t as significant. Similarly, I think oil will be impacted this time, and maybe a few countries in the region, but beyond that, I do not see a long-term impact. These could also present opportunities for investors to take advantage of.
SEBI has introduced multiple measures to curb F&O trading. Do you think this is a move in the right direction? How do you see this impacting the industry and the bottom line of some brokerage firms in the near future?
Yes, I am not sure I should say too much about the bottom line of brokerage firms, but obviously, some of these measures can have an impact on them.
However, in the broader scheme of things, I think keeping speculation within acceptable limits is a good thing. In the long term, it prevents the markets from getting into a larger bubble. Speculation is already very high, especially in the F&O space.
So, I believe some of these measures are good for the long term. Even though brokerage firms may not like it, it is the right direction for the industry overall.
It is a bit early to judge the impacts of these measures, and we may need to wait until December to fully understand their effects.
The “joker in the pack” is crude oil prices, which you mentioned earlier. If crude oil prices rise, the macros that look attractive now could take a hit. What are your views on that?
I do not see a significant impact this time because we have the ability to import from Russia. Our dependence may not be as high as before.
Yes, it will definitely have an impact in the medium term, and it will affect companies as well. It could also impact some airlines, as they already need to re-route and that takes slightly longer.
Right, their space is blocked.
So, I think that’s true. But my point is, like I gave the example of past wars and such, I do not see as much of an impact on Indian markets in the long term.
Of course, in the short term, when you see some of these news developments, counterattacks, and different countries taking different stances, I think it will go on a little longer.
I do not think it will stop quickly, because you have a series of counterattacks, and then you have a problem. When more countries get into the loop, it becomes an issue.
How do you see earnings panning out in the next few quarters?
Earnings have picked up over the last few years, and that has been a very welcome development. Interestingly, we believe that valuations have not gone up as much in relative terms because earnings have been growing.
How earnings perform going forward becomes a million-dollar question, and that, I think, will have the largest impact on Indian markets. We believe earnings will continue to be reasonably good, and we expect micro factors to come into play.
Of course, we were expecting interest rates to come down, but with oil prices now uncertain, we will have to wait and see. Hopefully, interest rates will cool off a little, and we may see the benefits of that.
Broadly, I also expect demand drivers to remain positive and strong. The outlook and environment have shifted favorably. India has many advantages coming its way.
We spoke about interest rates, but we also have the benefit of multinational companies wanting to diversify their supply chains away from China, which is a big bonus.
Of course, Europe has been discussed as well, but China is a key focus. India’s demographics are also a significant advantage. Our median age is favorable, and few other countries in the world have as strong demographics as we do.
We are in a similar phase to what the U.S. experienced during the baby boomer period. So, from multiple standpoints, I think India is in a good place and should continue to do well.
As China implements stimulus measures to boost its economy, do you see a large chunk of money moving towards China while India remains an expensive play?
Yes, so let me give you an illustration of why China may do well. It’s like how value stocks performed poorly for a long time because growth was strong elsewhere.
Then, when value stocks start to recover, it’s like a spring. Similarly, China has fallen and performed poorly for a long time. There are counter-cycles, and it has been down since 2008.
Over the next few years, it will be close to two decades. That’s how market and economic cycles work—things start improving from the ashes. Typically, stimulus is one of those last steps, and when it’s done on a large scale, you often see turning points. I hope for them that things start improving.
Now, will this impact India? I don’t think so. If we look at the broad consensus on growth, including GDP growth projections for these countries, India has pulled ahead during this period.
Many factors continue to support that. In the medium to long term, India is definitely the place to be. Earnings have been strong, and while absolute valuations may be high, in relative terms, we are not at a point where we should be concerned.
With the earnings growth cycle continuing, one hopes that India does not fall off the radar for FIIs. But even without FIIs, domestic investors are firmly in place, and SIPs are not going away anytime soon. I think the combination of factors means India will continue to do well, and China may also recover from its lows.
Many fund managers are resorting to holding cash at current levels as valuations have become expensive, especially for some bluechip companies. How are you navigating the current market environment?
Yes, so actually I have a bit of a contrarian view here because if fund managers are holding cash, then the risk is on the upside rather than the downside. What will happen is that this cash will provide a cushion in case of a market fall, as they will want to come back and deploy that money.
Most of the time, it doesn’t work that way; markets just continue to go up, and at some point, even at higher prices, this cash will have to be deployed, otherwise, funds will show poorer performance.
So, I believe we are at that standpoint because if earnings do not come off, I believe markets will continue to rise in the medium to long term.
There will be short-term corrections, which are healthy, but this is a positive rather than a negative at this point.
In terms of relative valuations, I don’t think we are at extreme levels like we’ve seen in the past, even with mid and small caps.
If you look back to 2017, for example, valuations were obscene. We’re not anywhere near that, and that’s how a normal smallcap cycle works.
There will always be concerns, but for investors, it’s important to be careful as markets go higher. You have to focus on quality because while momentum may perform well in the short term, it’s typically short-lived.
It’s like a spring that’s been constrained for a long time and then expands, but beyond that, you can’t get more out of it. The risk is that if you invest in poor-quality stocks, you could lose all the alpha they may have given over time.
Historically, this is what has happened. So, as markets move higher, it’s important for investors to look for better quality. The time to start looking for safety will come, but we’re not there yet.
Which sectors are you overweight and underweight on?
Yes, so a few sectors we like are financials, for example, which have been down for a long time. We think that with a stronger economy and private banks, valuations have now come to levels you’re not used to in some of the leading banks.
I think that’s a positive, and it’s a sector that will probably do well. Another area we are betting on is building materials. We’re not looking too much at real estate directly for various reasons, including concerns about quality in that market, so building materials is something we focus on.
Consumer discretionary is another area we like. As people become wealthier and as income levels rise, that will continue to benefit the sector.
Wealth management is also likely to do well because if markets perform, then the wealth management business will benefit as more people have the liquidity to invest. So, these are the three areas we’re focusing on, apart from financials.
Do you see any signs of topping out?
Yes, so I think we are not seeing signs of topping out in the medium to long term. In the short term, we already expected some volatility because of various factors, and that is not unusual.
I’ll go back in time and give an illustration to make this point. In October to December of 2019, pre-COVID, the Nifty hit a PE ratio of 29x, around December, which was a high.
At that time, we booked profits, including in our portfolio, went into cash, and exited financials, which were really trending at that time. Financials in the index, I believe, went up to almost 40-42%, and we shifted to consumer and pharma, which helped us.
We believe that if it weren’t for COVID, the market would have found another reason to correct, and we saw it come down to a PE ratio of 20. Interestingly, it came down partially because of earnings growth.
My point is that if markets reach highs due to earnings growth, that’s a good thing. There’s nothing wrong with it. In fact, if I compare where we are now to pre-COVID, we are much cheaper in terms of Nifty itself, which is around 24, give or take.
While it’s not as cheap as it was when it was at 20, we’re in a phase where there is still room to go higher, and hopefully, we’ll reach those 28-29 levels again.
So, what we need to watch are the factors that could signal caution. I think we should be watching relative valuations, both with respect to this particular index and to the past.
For example, for the Nifty, I would compare it to its previous peaks to see if we’re nearing 28-29-30, where we should be careful. Similarly, I’d look at the midcap and smallcap indices and compare where they were at previous peaks.
Relative valuation with respect to the respective index is one of the most primary factors to watch. Then, more complex factors come into play, like interest rates. Typically, when interest rates go too high, you need to be cautious.
We’re not there yet, and they’ve come off and are likely to come down further.
However, if things get too exuberant, I also rely on indicators that signal caution, such as people doing speculative things like pre-IPO markets. You need to be careful in certain pockets.
The point is, this may last longer, but you have to be cautious because it’s difficult to predict the exact turning point. That’s why sometimes you don’t participate in all the rallies and still hold back a bit, because you don’t know when the tide will turn.
You don’t want to be caught “swimming naked,” as Warren Buffett famously said. So, pay attention to relative valuations, interest rates, trends in NPAs, and other macro factors to see when the tide may be turning.
What is your view on Gold and Silver?
Yes, we are bullish on gold, which is also considered a safe haven. Gold is less of a commodity now and more of an investment vehicle and a safe haven, and we believe it is well-positioned, especially given the level of government borrowing, particularly in the US.
So, I believe gold will remain important. Another reason I think gold will do well is that we have a bit of a contrarian view: we believe the dollar will depreciate, and we are not as positive on the US in the longer term.
It’s a universal truth that the country that’s the star of the decade, as the US was, tends to experience excesses during that time—excessive borrowing, irrational business plans, and so on. It’s not just about companies making losses but whether they can maintain that level of growth. So, from that standpoint, if the dollar weakens, gold will perform well, as will commodities.
We are bullish on both gold and silver, but we find silver to be quite volatile, so phased investments in silver may be a good strategy, and it’s wise to take advantage of price drops. Gold, on the other hand, has already moved up and done very well, so phased or systematic investments in gold could also be a good approach.
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