Bullish on PSU banks, telecom, infra: Rel Cap's Madhu Kela

Q: Two central bankers have surprised us, one with a contrary decision and one with an advancing decision. What is your view?

A: I do not think Reserve Bank of India (RBI) surprised me. I thought RBI took a very sensible call by getting into the depth of the data rather than just relying in the broad headline number. However, if you analyse last week’s inflation data, 60 percent of inflation increase is only on account of vegetables and fruits.

What can RBI do to control vegetable and fruit prices by increasing interest rates? Therefore, compliments to the Governor and the entire team for taking a sensible call at this point of time. They have managed growth vis-à-vis inflation and at least for now the fear that RBI will relentlessly keep increasing interest rates by seeing the headline ticker number maybe behind us.

Q: How have you interpreted Fed’s decision? The Indian market started gap up and now 0.5 percent lower at this point in time, do you think we should worry that the foreign institutional investors (FII) flows, which have been mother’s milk for Indian market so far, might taper down just a bit because other markets exposed to the US would do better?

A: Let us again look at this whole thing in the context (a) is it anything new for the markets, the most optimistic people were saying that tapering may happen from March but no one was saying that tapering will not happen (b) with my 22 years of experience, anything however bad or good it is, if it remains in the market for such a long time, in the realm of speculation, it surely loses importance at least in the short-term.

There has been too much discussion on tapering. The fear was over exaggerated. However, we need to look at USD 10 billion, which they have said that they will taper and along with that they have also said that interest rates will remain lower for a more prolonged period of time than what the market was anticipating. So, the reason why US market reacted in euphoria was only because market in the US is more concerned about when will interest rates increase than this tapering because a lot of money that is put in the system, is anyway not utilised in that sense.

However, if the entire USD 85 billion is taken out - one cannot make a bull argument for emerging markets, if this were to happen over the next six-nine months. So, there will be impact in emerging markets, in equities flow but the impact will be felt once we are halfway through or a significant portion of tapering amount is through because even now they are saying they will watch data. Therefore, there is no certainty around the fact that USD 10 billion is forgiven in every meeting.

Q: Most of the triggers in the market are now out of way but what could be the next trend determining trigger for the market? Which way do you think the market will head, at least in the first half of 2014?

A: Let me give you a background of my understanding about the market (a) we have been overly worried about the index part of it. Investors need to step back and think how important this index movement is. So, let’s bifurcate; we are at 21,000. One market which is IT, defensive and fast moving consumer goods (FMCG) is at 45,000 so by definition the other market is at 12,000 or 13,000. After six years of 21,000, one index is at 45,000, the other index is at 12,000 or 13000, adjust that 12,000 or 13,000 to inflation of last six years then you will arrive at a number which is more like 7,000 rather than talking about 21,000. Therefore, what is the point of overly getting worried about whether this 21,000 is going to become 22,000 or 20,000? What investors need to understand is, where is the opportunity in this market rather than saying where you have first 200 point upmove in Nifty or the first 200 point down move in Nifty._PAGEBREAK_

Q: Is there still large amount of value in largecaps or even some big midcap names? We have seen a significant amount of run up since the August lows on most pockets. It has been sort of secular.

A: Just to put things in perspective. If we compare BSE 500 stocks from 2008, only 140 are higher than 2008 prices and 360 stocks are still lower. We as an organisation and even Reliance Mutual Fund see a lot of value in broad based sectors. I am talking about more of an index which is at 7,000, which is where people are more skeptical.

We clearly see a lot of value on a bottom-up basis. The important point is not to get lost in this euphoria or not to get too depressed about the rising inflation in India, interest rates are rising and government is not doing anything. I do not think it is wise to get lost either in a very bullish sentiment or in a very bearish sentiment.

There are lots of opportunities on a bottom-up basis to invest systematically in these markets. If you do your home work, even at 22,000-21,000 index you can come up with lots of ideas that can make money for investors. And this is what matters most rather than always trying to guess whether the market is going 100 points higher or lower.

Q: How pessimistic or optimistic are you about growth because now FIIs are going to be more discerning buyers and not just liquidity oriented buyers because there is cash around them? Do you think earnings are on an upward trajectory for the broad base of cyclicals?

A: Let us divide growth in two parts (a) on gross domestic product (GDP) growth. I am not overly optimistic that we are going to go in a hurry to anywhere between 8-9 percent GDP growth rate because no one is even talking about it.

Q: Do you even see 5 percent because we are entering a phase where government is going to cut plan expenses and there isn’t any leeway for the RBI to cut rates? RBI may not hike rates, do you see growth story as positive?

A: The headline growth rate will remain challenging and also, one point that market seems to have missed is that we are contracting all balance sheets whether it is a bank balance sheet, government balance sheet or individual balance sheet.

When you are contracting all balance sheets, it will get reflected in growth number whether with a lag or with immediate or on a futuristic basis and so, there will be a gradual recovery. Your and my job is to keep calculating inflation whether it is 50 bps higher or 50 bps lower and from a market perspective it is a done deal period. If you are not expecting 8 percent to go to 10 percent, market will not be worried.

Headline numbers that have been very challenging for the last three-four years may have done their trick vis-à-vis the market but where the consensus is. So, on BSE 100 basis the consensus is still expecting that in 2014-15 you will have 18-20 percent kind of growth. We are doing 17-20 percent.

There are lot of pessimistic people also but this is the consensus number and the consensus is most bullish on beaten down financial stocks, which are public sector banks, on telecom, on pharmaceuticals where the consensus is expecting maybe 30-35-40 percent growth for 2014.

So, we can agree on growth and even on these numbers. The growth is coming in three or four sectors. So, our job is to identify what will benefit out of this growth.

Q: What would you look for in terms of good stocks?

A: The biggest feature is, I call them bear market survivors. Last six years have been very challenging, if I take it from 2008 right up till 2013-14. Whatever could have been envisaged in 2008 might have gone wrong; high inflation, high interest rate, globally things getting worst, liquidity being tight for part of the world, interest rates being high.

We have to look at companies that have remained resilient, have managed to grow even in this period, have not committed a big mistake of dis-allocating capital, have tried their best to reduce leverage, have come out of non-core assets.

There are lots of companies and groups that have done well and because of the depressed conditions in the market - lot of these companies are attractively priced because we are talking of bottom cycle earnings. So, let us assume for a minute that after 2014 election there is a very stable and proactive government like what this government has been doing for the last six-nine months – economy focused, so, who will benefit. These are the companies that will benefit on the upside, if a company is available at 10 PE multiple, people are forgetting this 10 PE multiple.

Is it a bottom cycle earning? So, there isn’t scope for earning revision as well as PE revision and it is across sectors - rupee depreciation is not bad for everyone; it is bad for few people who have extraordinary leverage on account of dollar in their balance sheet but lot of companies are benefiting and now the advantage of 62-63/USD is starting to kick in.

We are seeing lot of companies report earnings growth and this has happened again, rupee has depreciated by 90 percent vis-à-vis Chinese yuan in the last six years. So, our biggest competitor in lot of sectors was China and in the same period Chinese wages and power costs have gone up. Obviously, it comes with a lag.

You will have lots of opportunities maybe in export oriented sectors, companies that are likely to turnaround because of stable regime; we are not talking about bullish regime even stable regime but are attractively priced and have not fractured their balance sheet._PAGEBREAK_

Q: The two biggest wealth generators in 2013 have been IT and pharmaceutical, many of them like HCL Technologies doubling between January and now. Between these two pockets, if you had to put or if you see a bigger outperformance in 2014, which pocket would it be from?

A: We have been most constructive and most bullish on pharma sector from 2008 but I will not relentlessly say that pharma sector is good and so, I will buy across pharma sector. We continue to remain constructive on pharma sector and will have stocks even from IT sector.

If you caught Madhu Kela in 2006, you would have made a case that these stocks are very expensive and we will look for cheap companies and we look for all turnaround companies and we will look for all companies that can make 100 percent return in our portfolio. But today, our approach is more balanced and so, we will have companies from IT regime, companies that still on a risk reward basis can give positive returns which even large companies in the IT space has a potential to do so and even from pharma sector.

So, I may not buy companies that have done exceedingly well in the last eight-ten years but I may buy companies that may have the potential to do well over the next five years. You are seeing some of those companies – one pharma company has gone up 100 percent in the last two-three months. So, there are companies that are available and as asset manager we must keep looking at ideas that can have a positive surprise.

Q: How do you approach a space like capital goods and infrastructure? If you go by your argument that you want to invest in companies that have a potential to perform in the next five years? If anything, there has only been de-growth in their earnings performance on an aggregate basis. Will you stay away from this pocket or is there a tactical trade?

A: I wouldn’t stay away from these pockets but would look for opportunities and so, one has to look at who the bear market survivors are in this sector. Without giving names, it is clear that company like Larsen and Toubro (L&T) is at a life high in terms of marketcap but there are lots of companies that are 3 percent or 5 percent of their original marketcap of 2008 in the same sector. To brush everything with the paint, may not be a good idea and so, you have to be very selective and constructive.

To put things in perspective, maximum opportunities could come from capital goods sector – I am talking about bear market survivors because today the entire engineering sector excluding L&T maybe equivalent to Sun Pharmaceutical Industries’ marketcap. The situation was exactly reverse in 2007-08 wherein the entire engineering sector – one engineering company was available for the whole marketcap of pharmaceutical sector.

To say we will not be enterprising in saying that xyz company will turnaround and there is a lot of hope, they will repair the balance sheet, they will do everything right so let us buy this company. We will look at business leaders in this individual segment and stocks that have not priced in any growth or any recovery. So even if a modest turnaround happens, these companies will surprise in the stock market.

Q: How much gain can market do before elections?

A: I am not that optimistic on the headline indices because it’s a cyclical thing. Growth, if at all, may not relentlessly positively surprise this market and election, which is five-six months away and nothing is predictable in politics and five-six months is a very long period in politics. One would hope that as an Indian, as a stock market person we have a government which is economy friendly and that surprise comes to the market, but I am not overly optimistic on headline indices.