Mar 20, 2017 02:49 PM IST | Source: CNBC-TV18

FII flow, earnings growth hopes pushing up market; not exposed to telecom: Kotak AMC

Nilesh Shah expects DIIs to be net buyers of Rs 75,000 crore to Rs 1 lakh crore in calendar year 2017. He does not have a direct exposure to telecom due to pricing war which is going on.

Higher inflows from foreign institutional investors (FIIs), along with domestic investors has reflected in the sharp run up in the market.

“From November 8 to January 31, domestic investors were buying. FIIs were also buying (in this market) from February 1,” Nilesh Shah, Managing Director, Kotak Mahindra Asset Management Company, told CNBC-TV18 in an interview.

This buying is driven by a hope of (increase in) earnings growth and that is what is reflected in prices. Furthermore, he expects domestic institutional investors (DIIs), led by mutual funds, to be net buyers in calendar year 2017 of anywhere between Rs 75,000 crore to Rs 1 lakh crore.

On sector-specific bets, Shah is underweight on metals, with the rupee appreciation having an impact on them. Moreover, protectionist policies in the developed world will also have an impact, he said.

In the midcap pharma space, he feels all sectors in pharma offer a great opportunity. Domestic firms will start getting approvals from the US FDA in the next 6-12 months, he says. In fact, stress, urban lifestyle and pollution will create opportunity for domestic pharma companies, Shah told the channel.

Meanwhile, on the newly-announced Idea-Vodafone merger, he feels current situation will not be appropriate for shareholders in terms of returns. “Three large players will try to create equilibrium with pricing, which, in the near term, may not be appropriate for shareholders,” he added.

Below is the transcript of Nilesh Shah's interview to CNBC-TV18

Anuj: I am sure you have a lot of investments in telecom companies in some of your funds, your first thoughts on not only this deal, but what does it mean for telecom sector which has destroyed a lot of wealth over the last decade, but over the last six months has started to see some kind of gains?

A: We don’t have direct exposure to telecom sector. We have stayed away from telecom sector courtesy all the pricing war which was going on. In the current context for telecom sector, market share is more important rather than shareholder return and we will look to enter telecom sector at appropriate prices.

Looking at the consolidation which is happening, I will go with Udayan Mukherjee’s view that this is the fight of equals, this is the fight for supremacy, and now there are three very large strong players with deep balance sheets and pockets where they will try to create an equilibrium with some amount of pricing which in the near term might not be appropriate from a shareholder point of view. So, we will watch telecom sector, but as of today, we are underweight telecom sector.

Sonia: For the market opening, it is slightly on the sluggish note, so, Nifty down about two tenths of a percent. How do you see the trend here on given that the run up has been quite hard and fast up until now?

A: I think we are seeing the impact of flows. From November 8 to January 31 domestic investors kept on buying when FIIs were selling. From February 1 FIIs have also joined party with domestic investors; both are looking to buy. In a market where supply is devoid, clearly this buying is reflected into sharp run up in the market.

The good part is that this buying is not driven by greed, it is driven by hope. Hope is that the earnings will recover, hope is that the growth will accelerate, and market is right now hoping towards recovery of growth and that is what is reflected into prices.

Latha: How do you explain this constant trend of domestic investors selling into FII buying, is there disbelief that markets valuations should not go higher, or is it just profit taking while the going is good and you will come back with a vengeance?

A: One, some of these numbers are reflected of arbitrage fund which are also classified as equity. The second thing is, that we were aggressive buyers from November 8 till January 31 and clearly there might be almost fully invested position run during that period. Now markets have run up and we probably are creating a little bit of cash, but at the end of the day, if you look at the whole market, if someone is not selling, then how will someone be able to buy.

So, my guess is, that on an average, the domestic institutional investors lead by mutual funds will be net buyers of equities in calendar year 2017 anywhere between 75,000 crore to 1,00,000 crore; don’t look at a day’s number here or there. In calendar year 2017, mutual funds will be buying equities between 75,000 crore to 1,00,000 crore.

Anuj: Which is an interesting point because I don’t recall the last time we had Rs 30,000-40,000 crore of FII selling and the market actually went up, do you think this has now created a bit of an equity cult as far as the domestic investments are concerned, something which can keep the market elevated for longer periods?

A: The fight is still between David and Goliath. The domestic mutual funds own about 5 percent of market cap, the FIIs own about 25 percent of market cap, so, if they decide to dump all of their 25 percent in one day, there is no way mutual funds can compete with them.

However, if let us assume that FIIs sell about USD 10 billion in a year on a gradual pace, that will be easily absorbed in the market because between mutual funds, insurance companies, provident funds, retail HNI bank’s new pension scheme, the total demand of domestic institutional investor is probably 50,000-60,000 crore more than the supply from divestment as well as QIP and OFS.

So, unless FII acts as a balancer, we will have prices supported by liquidity. All throughout our career, we were always hoping and praying that FIIs should be a buyer so that equity market goes up. Today we have reached a stage where we have to pray and hope that FIIs will be a balancer so that our markets don’t end up in a bubble territory.

Sonia: In terms of sectors, where do your preferences lie now because we are seeing a lot of sectors especially in the broader markets, auto ancillaries, tyre companies, sugar companies, do well, where do you see value now?

A: I think one, what we are seeing is that there is a distinct trend emerging across sectors whereby organised sector is gaining market share over unorganised sector. It is partly driven by the brand consciousness of Indian investors, Indian consumers, it is also driven by demonetisation which has disrupted cash payment and trade settlement channel and finally market is looking forward to goods and services tax (GST) which will ensure that the unorganised sectors will not be able to compete with organised sectors on a tax arbitrage.

This is a powerful long term trend and this is playing across sectors like chemicals and specialty chemicals, autos, auto components, textiles and garments, building materials, and so on and so forth. So, we are right now long domestic cyclical, we are long on this unorganised sector share moving towards organised sector and within that we are far more focused on stocks because clearly going forward if you want to make money in stock market, your portfolio has to deliver better profitability than what is expected by the market.

Latha: Metals?

A: Metals is far more selective. Clearly rupee appreciation has created one, impact on commodity stocks, and second, there is fair amount of uncertainty on global growth especially because of the protectionism talks being made in developed world. So, we are

fairly selective on metals. Overall, we are underweight.

Anuj: Midcap pharmaceutical is making a huge comeback, in fact pharmaceutical as a whole, in fact today also we have seen Ajanta Pharma, Granules India, all these stocks looking good. Would you want to buy into this rally or do you think the problem still remains?

A: We are buyers of pharmaceutical stocks and pharmaceutical sector. We believe that there are three distinct parts of pharmaceutical sector. One, the domestic focused pharmaceutical companies, the second US focused generic pharmaceutical companies, and the third allied pharmaceutical services like hospitals and pathology lab, and in all these three sectors, you have a great opportunity.

In the domestic as well as export oriented pharmaceutical companies there has been compression of valuation because of various events and now we believe we are reaching a stage where many of the Indian pharmaceutical companies will start receiving US FDA approvals. It may take 6-12 months but the trend is irreversible. There is a consolidation in US retailing industry for buying pharmaceutical products and that is going to put pressure on margins of Indian pharmaceutical companies but that is properly reflected into prices.

On the domestic pharmaceutical companies, clearly the stress, the urban lifestyle, and the pollution, all this is going to create a reasonable amount of growth opportunities for domestic pharmaceutical companies. We will be a buyer of pharmaceutical sector and we have been saying this over almost last six months.

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