‘Investment Cycle Revival Should Be Priority In Budget 2018’
The one big expectation from Budget 2018 would be policies which could help revive the investment cycle.
That’s the word from Rupesh Patel, fund manager at Tata Asset Management. With the economy beginning to shake off the disruptions caused by the Goods and Services Tax and demonetisation and growth making a comeback, the focus should be on investment cycle revival, he said on BloombergQuint’s weekly series, Thank God It’s Friday.
Among factors to watch out for in 2018, Patel said, if crude oil prices shoot up further triggered by geopolitical tensions, that could be a “cause of concern for a market like India.”
Here are edited excerpts from the interview.
What you think were the biggest surprises of 2017?
Let’s try to sum up what 2017 was all about. It was a very phenomenal year in terms of the equity market performance. We had the index turning up 30 percent gains. Mid caps did even better with 50 percent returns coming from NSE free float index. But we should not forget that it was not only about India, it was about global emerging markets.
If you look at the MSCI emerging market index which represents 22 emerging countries, it was also up about 30 percent or so in dollar terms. In this performance India is not alone and it’s about global emerging markets.
Looking at India-specific factors, this year we saw the impact of two massive policy decisions, namely demonetisation and the Goods and Services Tax. We are now seeing recovery and growth slowly coming back after the disruptions. At the same time, global growth is also recovering. If we look at the problem of non-performing assets, during the year the RBI and the Central government has come up with a number of steps to bring an end to the NPA mess. Which is rare. So, it was a mixed year. May be a little disappointing in terms of earnings growth. To which I would give a score of 30 out of 100. But it is also because of certain factors which are transitory in nature and lays a foundation for a more structural, secular, longer term growth. So, that’s how I would look at 2017.
The Global Backdrop
Do you believe that global factors will be supportive going into 2018?
Liquidity is one of the biggest drivers of markets globally. We are in an era where global liquidity has been in abundance. Slowly the U.S. Federal Reserve has started increasing interest rates. Liquidity is being reduced but still, there is enough liquidity in the system. In 2018, the liquidity scenario would not be better than 2017. Interest rates seem to be moving up. So, from the global perspective, this is one factor we should keep in mind. Commodity prices are the other factor which should be kept in mind.
If crude oil prices shoot up further on account of geopolitical issues, then that could be a cause of concern for a market like India.
What would you like to see in the upcoming Union Budget as a lot of your stocks are in the financial sector?
We tend to give too much importance to the Budget. We are coming out of issues related to demonetisation and GST and the disruptions are behind us. Economic growth seems to be coming back. At the same time, global growth is also recovering.
But our investment cycle continues to remain weak. The government should come up with policies whether in the Budget or out of it which could lead to a revival in the investment cycle.
I am sure the government is moving in that direction. In a nutshell, one big expectation from the Budget could be policies which could help revive the investment cycle.
Eye On 2019 Polls
How will the 2019 elections influence the upcoming Budget?
2018 is going to be a big year for elections. There are eight major states which are going to elections, the important ones being Rajasthan, Madhya Pradesh, Karnataka and Chhattisgarh. There will be a lot of newsflow around the outcome of these assembly elections and hence the expectations of further government policies in the run-up to the 2019 elections.
People expect that there could be more populist measures from the government and there will be a greater push for the rural economy. So, that can cause volatility in the market in near term. But in the longer term, the impact of these events is very short term in nature and market moves on.
Large-Cap vs Mid-Cap Stocks
Do you expect large caps to do as well as they have done in 2017 or you expect mid caps to outperform?
This debate on large versus mid caps has been going on for the last three years. Mid caps have done very well compared to their large-cap peers. One important factor behind mid caps doing better than large caps was that many large-cap stocks are exposed to global economic cycles. A year ago, the domestic consumption side was doing well as compared to the global side of the economy. Hence, businesses which were exposed to a global cycle, their fortunes were not as bright as companies which were focused on domestic side particularly on the consumer side. These companies have delivered good growth and that’s is why mid cap as a basket has delivered great returns as compared to large caps. We are now in a scenario wherein the global economy seems to be picking up. We have seen a bounce back in commodity prices which augurs well for the businesses which are exposed to global businesses or to global commodities. Hence, the outlook for their earnings growth has improved and valuations to have improved.
India is a stock picker’s market. There would be great opportunity to make money in the mid-cap space always because you have so many business models available and so the opportunity for growth is humongous. There are many categories, where categories itself, are very small or in the organised sector, there are only very few players available. So, as the categories grow, the runway for the organised player is huge. So, there is still an opportunity to make money in the mid-cap space and we will have to see how it bottoms out from here on.
What are the biggest risks that the Indian market could face?
The risks are more in the global market. The key factor, apart from commodity and crude oil prices, could be on geopolitical events. And how fast the U.S. Federal Reserve will increase interest rates. These are the two things which come to my mind from a global perspective which will be risks for the market.
Room For Rate Cuts?
What about the India’s interest rate trajectory?
The interest rate cycle in India has bottomed out. We are seeing inflation because of crude oil prices or food inflation. For example, poultry prices which is a big contributor to CPI. Because of food inflation, the inflation outlook has deteriorated a bit. But that’s nothing to worry about as it continues to remain stable. Considering India’s economic growth, I think there is little scope for interest rates to go down further.
From here, a lot will depend on crude oil prices. So, if we see a softening in crude oil prices and inflation going down, there can be scope for 25 basis point rate cut. But, now, we are in neutral zone and I don’t see interest rates going up or going down in a big way in the near or medium term.
Lets talk about your investment strategy in 2018.
I mentioned that the investment cycle is very weak, so private sector capex is still a few quarters away because private sector balance sheets are still leveraged or capacity utilization are very low. In this backdrop, it is difficult to expect private sector to do large greenfield project announcements in large projects. The onus for revival in the investment cycle rests with government. And they are rightly focusing on things like roads, railways, housing. We have seen announcements on affordable housing. In the next six months, Rs 60,000 road projects will come up for bidding. So, there is clear traction on government sector capex and roads on the affordable housing side. So, we are focusing on companies which benefit directly or indirectly from government capex like construction contractors, cement. That’s one segment we are bullish on. We are bullish on private sector banks because we believe they are structural stories and the runway for growth is huge. We are positive on some corporate lenders and also PSU banks, not on the entire pack but some of the large ones can do well as the NPA issues get resolved. The consumer sector is one of our favourites. Considering our demography, it is not a play of 1-2 years, but a decade-long story which will play out.
PSU vs Private Banks
Is it fair to assume that you don’t see PSU banks benefitting much from the recapitalisation program?
My core holding remains private sector banks. Relative to their public-sector peers they seem to have handled the credit cycle better. To an extent, it is also because of their size. Within private sector some of the large ones have also suffered like their PSU peers. But because of their size some bank could pick and choose and manage the credit cycle relatively better. These banks have expanded their CASA franchise significantly, they have done branch expansions and as a result the access to low cost deposits have gone up which gives them cost of funds advantage. They have healthy return on assets and healthy ROEs and hence they are able to raise money at much higher multiples. If you look at the size of the opportunity, PSUs today have 67-68 percent share of advances. Compared to that, private sector banks are still small and there is significant runway for growth available to them.
I am positive on PSU banks, but I will be very selective. The large ones which have large liability franchise, good network and will be able to get out of the NPA mess could be the beneficiaries. As a pack, it is difficult to be positive on them. Large ones may look interesting if you have a one-year plus view on them.