Daily Voice: UTI AMC's Vetri Subramaniam picks these 2 sectors based on strong cash flows, RoE characteristics

The Capital Goods and Defence sectors have witnessed significant valuation expansion over the past 3 to 4 years. Given the risk posed by rich valuations, there is reason to be more cautious in these areas. The focus here shifts from growth in the order book to execution of the order book. With regards to PSUs, they cut across various sectors and hence there cannot be a generic view based on their ownership characteristics. We would recommend being more stock-specific based on the fundamentals of the individual PSUs and their competitive advantage relative to peers.

Are you gradually increasing exposure to the IT and consumption sectors?

On a relative basis, these two areas are more attractive given their strong cash flows and return on equity characteristics. It is hard to generalize our actions as the approach varies across different schemes.

Will the Fed prefer a 25 bps interest rate cut each in the next two policy meetings in 2024 instead of 50 bps in September?

The US equity market does not appear to be pricing in a recession at this moment. An aggressive series of cuts might be interpreted as a sign of a higher probability of a recession and could trigger a flight to safety from risk assets. In our opinion, the US economy is cooling but does not appear to need aggressive action by the US Federal Reserve.

Do you completely rule out a major correction in the equity market in the coming quarters?

We can’t rule it out, but we can’t rule it out either. It is impossible to know in advance if it will be major or minor correction or a time correction.

Our suggestion would be that investors maintain their appropriate asset allocation as determined by their financial goals. Historically higher valuations are a drag on future returns and vice versa. This is the principle that should underpin the actions of investors rather than their ability to forecast the timing and magnitude of market movements.

Is it better to invest in large cap and quality midcap focussed funds than small caps now?

In the current market, mid-caps and small caps are trading richer than large caps as is evident in their respective indices. The share of mid and small-caps in aggregate market capitalization is much higher than its historical trend. From a risk management perspective, we believe that large caps have the advantages of better access to capital, depth and breadth of management, and superior bargaining power relative to their supply. While mid and small-cap earnings have grown strongly in the last four years and that has reflected in the category outperformance, when we dive deeper, we see that the topline growth is not very different from the large-cap segment. As a result, our relative comfort is in the large-cap space.

Do you see a strong outlook for the building materials space?

The real estate sector is witnessing a strong uptick in new project launches and sales. As a result, we expect the building materials and home improvement sectors to witness a healthy and sustained growth outlook over the medium term as projects move into the execution phase. Many of the companies in these sectors have in-built operating leverage and are not as capital-intensive as the real estate sector. This makes us feel positively inclined towards the opportunity, however, we must keep valuation risks in mind.

What is your strategy behind the UTI Nifty200 Quality 30 Index Fund and UTI Nifty Private Bank Index Fund?

As an investing style, ‘value’ has outperformed ‘quality’ for four straight financial years (FY21 through FY24). We might be nearing a point where style rotation may kick in and quality gains the upper hand. In the three financial years prior to this period of value outperformance, it was quality that had the better performance (FY18 through FY20). The companies in this Quality Index are selected based on the Index provider based on their Return on Equity (ROE), lower EPS (Earnings per Share) growth variability and low debt/equity ratios, all of which indicate strong underlying fundamentals.

As regards the Nifty Private Bank Index, it offers a combination of strong fundamentals and below-average valuations, which makes it attractive. From FY2021 till August 2024 the Nifty Private Bank TRI has given a return of 45.5 percent Vs 56.1 percent for the Nifty Bank Index TRI and 77.2 percent for the Nifty 50 TRI. Neither ‘Quality’ as a factor nor ‘private banks’ as a sector have been favoured by the market, as seen in their recent trailing performances. While pinpointing the exact inflection point is challenging, the fundamentals, valuations and potential for rotation suggest favourable odds. Investors might consider allocating funds and/or rebalancing their portfolios to these underappreciated areas to diversify their portfolios.

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