Invest in cos with strong earnings growth: Fidelity Mgmt

Q: In which sectors do you see further room for downward adjustment in valuations?

A: There is no one sector; there are quite a few. We have argued till now about infrastructure sector, companies catering to that, property sector and several others are trading at high valuations. They have come down a lot but still they are implying a lot of growth for a longer period of time and continued profitability at fairly high levels.

The question is whether we see a blip in the slowdown and if not is the input side as robust as it was. Pressures are only mounting in the input side, the cost side and the commodity side. So, one has to look at it in totality and say,  “yes it is going to grow, is it going to be profitable? Do we still want to pay so much for it compared to what was the norm earlier?” So, it is a lot more than just saying “this is expensive or this is cheaper.” I would say that these kinds of sectors are still implying a lot more growth and continued profitability.

Q: A lot of people are re-looking at sectors like infra, cap goods and trying to figure out if that kind of growth will come through. Do you think that in light of recent IIP numbers and macro numbers there could be an issue with those sectors?

A: No, the numbers we are seeing now are short-term like four-five months. The production in steel will start, gas starts end of this year and next year you will start looking at other commodities. So, it is a very short perspective of a couple of months. The amount of work that needs to be done in India is huge and by no standards has that come down in the last four months, irrespective of whether oil/commodity prices have gone up. The fact is that every city needs infra and the overall story has not changed at all.

Q: Are you worried interest rates might go up even more even though we haven’t had a signal from the Reserve Bank?

A: Well, monetary policy is closely related to inflation. We have come down from very fairly high double-digit rates to 5-6% and we are slowly inching back; inflation has gone up. Now, if inflation continues to grow, it would be very hard to say why interest rates won't go up. I am not saying they will but they are linked to inflation. Oil prices go to 200. We are pricing in USD 70-75 per barrel.

Subsidies go up; food prices go up, although India is immune to a certain extent since we produce a lot. But inflation is linked to this whole cycle and if inflation goes up then interest rates will have to go up at some point. We seem to be in a zone where lending has slowed down, there is enough liquidity in the system and it's more a question of managing this versus raising rates to quell loan growth.

Q: What is your outlook on banks, financial sector given inflation and interest rate scenario we have in India?

A: Banks, if you look at it fundamentally within Indian economy, India is still under banked. The penetration of any kind of financial products is still fairly low. Indian corporates are now expanding onto capital spending spree. The capex has to kick in. They still need to have very good cash flows for self-funding, but they will still need debt.

The banking sector will be driven by consumption. Retail sending will be driven by corporate capital as well as the international part. There is a lot more in the financial space that will continue to happen. So, growth of these kinds of sectors are linked long-term to growth of the economy and maybe we don't need to have loan growth of 40%, it could be 20-25%, but it is profitable growth that is important.

Q: As a group, what would you own - public sector or private banks?

A: It is hard for me to say what we own. But banking as a sector is very interesting and offers a lot of long-term opportunities. Like other sectors, India is a stock pickers market and there is no reason to believe that just because we are in a short period, things are not going well that one sector should be totally avoided.

Q: A lot of investors are worrying about sharp earnings deceleration. We are going at 18-20%, maybe that slows down to 12-13%. For overall markets, do you think that is a risk or a possibility?

A: We look at stocks and companies continuously. We are not really sitting there and worrying that if growth grows from 7% to 8%, earnings will go from 17% to 15%. That is not an area of concern for us. If we feel that a company is going to double in three years, irrespective of what's going on in the economy, then I want to buy those. That's what India is all about. India is a stock pickers market and will continue to remain so, just given the number of opportunities that are going to come.

Q: We tend to obsesses with terms like bull and bear markets. People tend to worry that after five years of a roaring bull market that we have had, are we in for 1-2 years of a bear market, even if the bull market resumes somewhere down in the future. Do you think this is a legitimate fear?

A: It is hard for me to answer that. In a market like India, where there are so many opportunities, if the market as a whole is not going anywhere, there will be enough opportunities where stocks will do well. I don't know whether we are in a bull or bear market. If one has money to invest, there are enough opportunites where one can make good returns over a three year time period.

Q: Is it even conceivable that the index does not go too much to the north in the foreseeable future, but a lot of individual stocks give you individual returns?

A: Yes, that is very possible. That is exactly what markets like India, where you have depth and diversity and you don't have sectors dominating the market, offer to you across the market caps spectrum.

You can be looking at many different opportunities to pick and may be the index stays in a narrow range. But again, these things are very hard to call. We are in an environment now where we have a lot of headwinds, where people are saying, what is going to happen. But it takes time to settle down and then resume again.

Q: What about the phenomenal spike in global commodities?

A: It is very hard to call and say where we are. The entire premise of the fact is that the India’s and China’s of the world are growing very rapidly. It was true to a certain extent and it is still true. If you look at the effect of that in the economy, China has been raising rates and India has been raising rates. So, inflation is going up and all around, you are starting to see the pressure of oil and commodities and so and so forth.

Inflation is a concern. Whether that means that these economies need to slow down a bit or not, is something which needs to be considered. At the end of the day, it’s a self-fulfilling cycle.  We say that inflation is not domestic but external; China says its coming from outside.

But the fact is that we are growing so much that we are demanding all these commodities. Hence, it’s a self-fulfilling cycle. Overall, inflation will have an impact in these economies and may be things will slow down a bit.

Q: Are you overweight commodities as a class in India?

A: Again, it’s hard for me to say or to talk specifically on sectors.

Q: But do you own a lot of commodity stocks in your portfolio?

A: I would say selectively.

Q: How would you play a sector like steel? Global steel prices are going up and raw materials are seeing huge amount of margin pressure.

A: That boils down to whether the company is hedged or not and what are the implied contracts that it has as well as how its cost structure is spread with coking coal, and the other inputs that it needs. It’s a function of that and also pricing power.

But I would think that in times like this, India generally moves a little slow in terms of opening up and letting people come in and invest. But once we cross that hurdle, we get a lot more investments. So, the same thing is going to happen here.

We will have brownfield projects, which are starting to come in. There will be more supply gradually. But whether we will see a lot of supply coming into India in the next two years is unlikely. There will be some, but not a lot.

Q: The rupee has had an interesting run. How has it changed your perspective as an investor, between sectors, on the whole country as such?

A: Again, not much. You have to boil down to fundamentals. In between periods, you will get spikes and you will get periods where things get sold off. But at the end of the day, it has to reflect the fundamentals of the economy. So far, India's current account deficit is there but is not that much of a concern. We still have various other forms of receivables that are coming in, whether it is remittances, IT and so on. So, oil is a concern. But I don't think in matters in India, at least at this point of time.

Q: Do you see politics as a risk at all? As we may be headed into national elections in a few months time, are you apprehensive at all?

A: I would say politics per se is not a risk, but policy is. We are in an environment where things are getting a little tighter. Everybody still has to think about what is good and right for the long-term rather than take steps, which are knee-jerk reactions and say, " you can't do this, you can't do that".

So, I am not really worried about politics, though coalition governments are here to stay. It is unlikely that we will get uniform policy and fast moving policy change.

The oil sector has not been deregulated. But we will still have enough changes that will slowly happen. Those are the trends you are seeing from the government. They are moving on. Slowly, things are happening.

But I would say that policy response is a big thing in these kinds of environment. When the going is good, then nobody needs to worry about anything. It is times like this when you realize that you should have moved along a lot faster.

Q: As an investor, do you worry about other sectors like steel and cement in the same light that you spoke about oil?

A: No, I would say these are shorter-term measures. On the one hand, the government is trying to save, while clearly inflation is uncomfortable.

But at the same point, steel had the approvals, the mining policy been announced long time ago and people are already building and constructing. That would not be an issue. So, I am not that worried.

If something like that starts to happen a lot more, people say " you can't do this, you can't do that" because of this environment, then clearly there is something which is not good for the market or for the economy.

Q: So, you are bullish from a 1-year or 2-year perspective?

A: All those time frames. The reason for that is that you have a large economy which is changing very rapidly. There are so many other things that are happening; companies are globalising, you are seeing investment in other sectors coming up. So, it is continuously a challenge saying what is going to happen next?

What are the existing companies doing? How are they globalising or how are they growing within the Indian context? That makes for a stock market which is attractive to invest for the long run.

Q: So, you are saying, this phase will pass?

A: Yes, this phase will pass. That is exactly what I'm trying to say.

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