Valuation discipline, bottom-up stock picking key alpha sources: Rahul Singh of Tata AMC

Q. How has the investment landscape changed over the years?

In the past, research was limited, markets were shallow, and there were fewer institutional players. Today, information and, to some extent, even research is widespread and democratised, and the market has evolved significantly in terms of the width of participation.

Q. So, where are you finding alpha?

Alpha generation is more challenging in large-cap stocks where passives have gained importance, and it is harder to consistently beat the market. Generating alpha involves two main strategies. First, understanding market cycles, like the impact of interest rates, can be key. For example, value stocks underperformed from 2010 to 2020 but made a comeback in 2021.

Second, recognising trends in the market such as the shift from a consumption-driven to a consumption-plus-investment economy can offer significant alpha opportunities. These two significant trends, which may persist for three to five years, present a substantial source of potential alpha for active fund managers. It is a material opportunity.

Q. What sources of alpha do you see in the current market?

There are two major sources of alpha. One is the return of valuation discipline. Previously, growth stocks dominated, but now there's a resurgence of value stocks which have less representation in the major indices and hence an opportunity for generating outperformance.

From 2010 to 2020, value stocks performed poorly, and the indices heavily favoured growth and quality stocks. But since 2021, a shift back to value and valuation discipline along with a revival in the investment cycle has made it easier to outperform the market.

The second source is bottom-up stock picking, especially in small-cap stocks, which have shown strong potential for alpha generation. Market dynamics also now favour small-cap stocks. It has shifted from relying on a single driver to having multiple factors driving the economy and markets, thus offering a wider range of stock options. As a team, we are quietly confident about this market.

Q. Can you elaborate on the shift towards valuation discipline and how it impacts alpha?

The market has transitioned from a consumption-driven economy to one focused on both consumption and investment. When I mention investment, I mean various types, like manufacturing, power, renewable energy, real estate and capital goods, which were languishing in the past decade. So, the shift creates opportunities for active fund managers.

Q. How do you approach different sectors in this changing landscape?

Our approach involves various strategies. We are not contra investors, but we do like to take bets a little bit ahead of time. We focus on re-rating candidates and value stocks with triggers for growth. For example, we see value and triggers in the power sector. Additionally, we identify sectors with earnings upgrade cycles, like pharmaceuticals, banks, and capital goods.

The third approach is thematic where there is headroom for growth in the long term i.e., 5-10 years. In this case, we are more flexible with valuation for instance electronic manufacturing.

Q. Are you still inclined towards the telecom sector? Why haven’t they raised tariffs despite speculation?

Yes, it is a stable sector with moderate returns and just two major players, offering potential growth.

We feel that tariff hikes may happen eventually. Even without them, the intrinsic business value will organically grow, especially with the advent of 5G and higher data consumption. Lack of immediate tariff hikes does not change the inherent value of the business. Telecom resembles a utility now, immune to global economic myths and interest rate cycles, making it a reliable investment.

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