Valuations getting expensive, markets may correct in near term: Tata AMC's Rahul Singh

In a conversation with Moneycontrol, Singh said two sectors – power and pharma – can outperform the rest, while consumption may underperform.

After a massive rally last year, Nifty valuations are getting expensive for some fund managers. Rahul Singh, CIO-Equities, Tata Asset Management, is one of them, as he believes some sideways movement or small correction can happen in the market.

The Nifty PE has jumped to above 23, against less than 21 times the earnings a year back. This, though lower than the 10-year average of 24, is expensive compared to other emerging markets (EMs). For instance, the MSCI Emerging Market Index trades at less than 12 times its earnings.

In a conversation with Moneycontrol, Singh said two sectors – power and pharma – can outperform the rest, while consumption may underperform.

Edited excerpts:

How do you see the markets panning out from here on?

Valuations have become expensive for Indian indices. So we might see some small corrections. But my outlook is still reasonably positive. We might see one year of low returns, or a little bit of sideways movement in the short term. However, I think the changes happening in the economy in terms of the capex cycle, and the strength of the corporate and banking sector balance sheets, will result in a fairly decent equity market outlook for the next three-four years.

Has your outlook on small and mid-cap stocks changed?

No. When the economy becomes broad-based, and more parts of the economy are doing well, then, generally, mid and small-caps do better. From a three-five year perspective, I think the markets will remain broader, which will give lots of opportunities for active fund managers to outperform.

Nonetheless, there could be times when mid and small-caps might become more expensive than large-caps, and some normalisation could happen. We are probably looking at that in the near future.

Many believe that private banks are still better poised for growth compared to PSU banks, but PSU bank stocks have outperformed in the last couple of years. Do you believe that private banks will outperform going ahead?

Public sector banks did well because their NPL (non-performing loans) problem was solved, and they were also growing at a decent pace. But now we are at a period where the valuation gap between the large private sector and PSU banks has narrowed. A little bit of upside might still be left for PSU banks, but not much. Thus, the entire banking sector will deliver similar returns, whether public or private.

So, from your point of view, are the days of outperformance over for PSU banks?

Yes. There will always be one or two banks which might do better, but as an asset class, there's not much valuation arbitrage left between PSU and private banks.

What sector or segment of the market right now excites you the most?

The power sector. Although the sector has done well, there are a lot of sub-segments which can do well in the next three-five years — not only renewables, but coal-based power too; and also power transmission, which has not really done well so far. That is also going to be a huge area of focus , i.e., how to get the power transmission capacity up and running.

The second sector where I think things are turning around is pharma, where there is stability in the US generic (drugs) pricing environment. After seven-eight years of down-cycle in pharma prices, where we were seeing double digit price declines, we are now entering a period where the price declines will be much lesser, and that will benefit all Indian pharma companies.

The power sector has been very cyclical. Considering that, does it make sense to have long-term investment in that sector, or should we just ride the momentum and exit when it starts underperforming?

Power sector fundamentals have changed a lot. Stock momentum is one thing, but demand in the sector has been growing by 6-8 percent, and neither the generation capacity nor the transmission grid is ready for it. So, it will mean a lot of investment, a lot of growth in the renewable capacity, in the coal-based generation capacity, as well as the transmission capacity, and that is what is most interesting about the sector as of now.

What are the sectors you're avoiding right now, that you believe will underperform?

I think urban and rural consumption is still struggling. Except for luxury goods and travel and tourism, the consumption pack is weak. And the valuation there also has not corrected much. It's still expensive compared to the sectors which are either recovering, or doing well. That's one area where we see a little bit of underperformance continuing.

When you say consumption, do you mean consumer durables as well?

Both. Durables as well as staples.

New-age companies have had a rollercoaster year, especially fintech firms. Do you believe these businesses are yet to mature, and hence should be avoided?

No, it's very company-specific. There are companies which have a strong presence in their respective areas. And I'm not just talking about fintech, I'm talking about food delivery and other things too. We are not treating new-age companies as a single category. Each of these companies have performed very differently. Unlike after the initial listing, when all of them used to move together up or down, now each company is following its own fundamentals.

We, by and large, stayed away during the 2021 IPO period. But now the fundamentals have changed for quite a few companies, and they have also realised that they need to make profits. Some are doing a very good job of it, while others are not. So we just need to be very stock specific in this context.