Domestic consumption plays still make sense: Alchemy Cap

A two-speed Indian market has seen slow-growth or leveraged companies tied to the global cycle witness cheap valuations while high-growth, domestic-focused firms have performed very well.But instead of playing contrarian, investors should continue to stick to companies are doing well, says Hiren Ved of Alchemy Capital."50 percent of companies in the Nifty are linked to global growth. But people are bullish on the domestic economy. That is what is driving the market," he told CNBC-TV18 in an interview.He added that he would continue to bet on auto and NBFC stocks.Below is the transcript of Hiren Ved’s interview to Anuj Singhal and Sonia Shenoy on CNBC-TV18.Anuj: What are you doing in this market? Still looking for buying opportunities or raising cash because the market has run up a bit too much?A: We are not raising cash. This market is clearly on an upswing. We saw one uninterrupted move post Brexit and thereafter the markets have gone into a phase of consolidation. Overall, earnings are on a recovery path. We have got goods and services tax (GST) out of the way and liquidity is quite benign. So, these markets should do well.Sonia: I wanted to check with you on a couple of sectors that have done well. Lately, the auto sector has been doing well because of good earnings that have come in from the likes of Tata Motors, Maruti, Eicher Motors, etc. Is this is a space that still offers value or do you think it has become a crowded trade now?A: I would say that while it is one of the favoured sectors for market participants because consumer discretionary is where the first signs of consumption revivals is taking place. It is more than crowded or whatever I would say that it is a secular trade as far as markets are concerned, over the next 3-5 years. Some of these companies have shown pretty good volume growth and good profit numbers and with a good monsoon, this sector will only go from strength to strength.Sonia: So before we come back to individual sectors, just coming back to the point that you were making about the market, is there any risk to this market at all because 10 out of 10 people believe that the uptrend is intact, the bulls have it strong. What do you think could be the one big threat for this market over the next 3-6 months?A: There are always risks in a market. So, it would be wrong to say that there are no risks in the market, but essentially, what you have gauge is that if most of the factors that lead to a bull market are present or not and an earnings recovery is well underway in India. Obviously, the problem areas are clearly, to my mind, more or less outside of India which is the fact that global growth is still very slow and challenging and given the fact that almost 50 percent of Nifty or Sensex earnings are leveraged to global growth, we keep seeing challenges in some sectors or the other because of the growth there.But, what is crucial here is that people are bullish about the domestic economy and that is what is driving markets at this point in time.Anuj: That is interesting because that is reflected in the rerating of non-banking financial companies (NBFC) for example. But do you get a sense that things are getting out of hand here? There is one camp which believes that 5-7 times price to book, these stocks will be expensive even after 40 percent correction. The other camp of course, looks at the return on equities (ROE) and says that you will be surprised in the next 3-4 years. Which camp are you in?A: We have to understand that fact that today, in the financial services industry, there is a massive dislocation that has happened. With almost 70 percent of your banking sector is basically undergoing some kind of restructuring and recovery. The opportunity is very big.My sense is that some of the well-run NBFCs will continue to grow. Now as far as valuations are concerned, you could argue that we cannot expect any more price-earnings ratio (P/E) or price to book multiple expansion from here on. But if you were happy with the kind of earnings compounding that they are giving, stock prices will probably move in line with earnings compounding. You may not witness the kind of P/E rerating that we have witnessed over the last few years.The opportunity is quite big enough, so if you look at it from an absolute perspective, there is still enough growth, but clearly, are all NBFCs going to do well? Over time the markets will differentiate like it does in every industry that well-run companies will probably able to sustain those valuations like HDFC Bank has. That argument was true for HDFC Bank for years together that it was always expensive. But the fact of the matter is that it was able to carry out its business on a very sustainable basis.Anuj: So for example, Bajaj Finance, do you see a similar compounding story play out here as well? It has played out over the last 5-6 years.A: Yes, it is a well-run company, the opportunity is significantly big. If you put things in perspective, the balance sheet size is still sub-Rs 50,000 crore. As compared to most large private sector banks, HDFC is Rs 7.5 lakh crore, Kotak Mahindra Bank is just in excess of Rs 2 lakh crore and this is just Rs 50,000 crore. So, as I said, you could argue about the valuations, but do I believe that these guys can compound earnings at 20-25 percent? For sure.Anuj: Domestic stocks have done well and of course, IT has not done well, the export oriented sector. Nifty is at 52-week high. Infosys and IT sector almost at 52-week low. Good bargain or a bit of a falling knife situation?A: Our view has always been that the largecap technology space offers value and all of these arguments you have to weigh against what you want to pay for growth. So, if you are happy with 12-15 percent growth then these stocks are available at less than 16-17 times earnings one year forward but there are clearly challenges in the near-term to medium-term.The largecap tech is going through a transition phase right now where there is pressure on the old business model as they try to renew to the new business model. If you ask me, is tech spending going to go down on a secular basis around the world? I do not think so. Everything, all the change is being driven by tech today. It is just a question of a transition phase that is going on right now.So, the largecap tech space is going to be hampered by lack of visibility and growth over the short to medium term. More specialised companies in tech will probably grow faster, but right now, there are headwinds for the sector for sure.Sonia: So what would you do with this sector? Would you buy or not buy? I did not get that.A: We have exposure to more specialised players in this sector and it is a well-run sector. When you build a portfolio you do not have everything, which is high growth, high P/E, you also have companies which have great cash flow. These companies have great balance sheet and they will also acquire to grow. So, at this point in time, you have to look at the risk return metrics and say, I am willing to pay this much for growth but if I am happy with 15 percent growth and I am not paying top dollar for that, that is also good enough in a portfolio approach. Now how much you want to wait what, it depends on individual people’s strategies.Sonia: Wanted your thoughts on the pharmaceutical space. I know it is very company specific here, but what would you do with some of these stocks like Biocon that are correcting years of underperformance? Is there still value here?A: Without going into specific names in pharmaceuticals, it also went through what the technology space is going through right now. After years of very strong outperformance in the last 6-12 months, we have seen correction/consolidation in the sector. The long-term attractiveness of the sector goes not go away at all.From here on, again this is a sector which is completely stock specific. So valuations which were at 25 and 30 times forwards have corrected to more like 18-22 times forward. So, the sector has become now more attractive. So it is an interesting place to look for if you ask me.If you look at three years out, you will see reacceleration happening back in the sector and P/Es will also tend to move up over time as people get convinced about the visibility over the next couple of years. Even that sector is going through kind of a phase of transition from pure generics to speciality generics. So, companies who are able to move up that value chain, will be able to win back investor confidence.Anuj: Do you see ingredients for this market to now take out its previous high and go to 10,000 on the index level at some point next year or does it remain a stock specific bottom up market where the index does not do much but stocks do well?A: It is difficult to predict index levels frankly and I have no expertise in doing that. But I can say for sure that the ingredients are in place at least for us to take a short at the previous high. My belief is that this bull market is going to be more about individual stocks than a secular rally that we saw between 2003 and 2007. But it will mature as time goes by and as confidence in the cyclical recovery of the Indian economy improves substantially, that is when the breadth of the rally will improve substantially.So, in the short-term to medium-term, it is going to be more stock specific. As the economic recovery takes hold, it is going to be more broad based and then at some point in time, we are going to take out the previous highs. There are no two questions about it. Now whether it happens six months down the line or 12 months down the line, I do not know.