Govt clear on investments; earnings growth key: Tata MF

Below is the transcript of Rupesh Patel’s interview with CNBC-TV18's Sonia Shenoy and Nigel D’Souza.

Sonia: It has been a bear grip that our market has been in for the last many weeks and months. What is the sense you are getting about how to approach it? Do you see more downside and is this the super sale that all the investors were waiting for, the ones that missed out?

A: Let us try to understand where we are in terms of cycle. Clearly, the euphoria which has started somewhere in the middle of or rather in the beginning of previous year and later on continued with us having a stable government at the centre that got further aided by correction in commodity prices particularly crude oil prices. That euphoria has definitely subsided for the time being because if you look at calendar year (CY)2015 returns, we are pretty much flat, negative 3-4 percent or so as against CY14, we had about 30 percent returns or so.

In the near term, we are grappling with issues of subdued earnings growth for the market on an aggregate basis. There are prospects of weak monsoon which can have an impact on the rural demand going ahead and in between sentiments got impacted because of issues related to Minimum Alternate Tax (MAT) on foreign portfolio investors (FPI). If you take a step back and try to look at the big picture, then look at any parameter whether corporate profitability, it is operating profits or it is profit as a percent of Gross Domestic Product (GDP), we are significantly below our long term averages on any parameter.

Here is a progressive government, which is doing all the right things to address issues which impacted investments into the economy. Allocations for infrastructure sector has been increased, commodity prices have corrected and continue to remain subdued and we are certainly on a downward rate cut cycle. Looking at all these things from a medium to long term perspective, it is very difficult to be negative on corporate earnings growth and hence on the equity markets.

Nigel: What is the fair value of the Nifty? At 17 times, do you think it is fairly valued? I remember when I was in college that time we were 20 plus times. So, that was a totally different scenario. Do you believe in the near future, maybe the next couple of years, we could get to that stage where we see earnings growth and also we see most stretched valuations?

A: I would say in terms of valuations today we are at 16-16.5 times 12 months forward, which is slightly above our long term averages but the important point to consider here is that for seven years we had flat earnings growth whereas corporate earnings CAGR was at about 7-8 percent or so.

Going ahead with the recovery in the economy, it is expected earnings will catch up. I talked about operating profit margins, at maybe 15-17 years low, corporate earnings as a percent of GDP significantly below its long term average. So, ultimately all these things will look up as the economy recovers and as this happens you will see growth in earnings. We all know that, at the end of the day stock prices, are slaves of earnings.

If you would have earnings growth coming in then there is no reason to believe that this market will not go up from here. So, in terms of return expectations what investors should remember is if you have three to five years kind of a view, returns should be in line with the earnings growth assuming that there is no PE rerating.

Sonia: Another sector in the funds that you have managed is cement; auto has been a sector that you have looked at, manufacturing as well. In most of these manufacturing lead the sectors. Are you noticing any improvement on the ground or are things still very slow?

A: Recently, we had good interactions with some of the managements in some investor conferences that were held recently. One thing which is coming out very clearly is that some people who are complaining that there is still no activity on the ground, but today if you talk to any corporate or government officials, it is coming out very clearly that government is getting its act together when it comes to investment.

A case in point would be say, road sector. If you look at road sector, the kind of tenders which have been given out by National Highways Authority of India (NHAI) even in first two months of this year - that is significantly higher as compared to what we had in last few years. If we look at the target, it is about 5,000 kms plus kind of roads are likely to be awarded.

Look how the government addresses the issue. The sector government rightly recognised that private sector balance sheets are stretched, they are not in a position to take the risk and hence they decided to focus on giving these projects on engineering, procurement and construction (EPC) basis instead of giving it out on build–operate–transfer (BOT) basis. So, that focus is very clear. So, that way the government is trying to address the issues which are affecting sectors one by one.

Similarly, look at the transmission and distribution sector. Look at the awards given by Power Grid Corporation of India Limited. The coal sector is a very big example. Just six to eight months back all of us were worried about what would happen to all those power plants, all those coal blocks which had been cancelled by the Supreme Court, but look how transparently this whole issue has been addressed. All these things give us a lot of confidence that it is just a matter of time. You will start seeing activities on the ground and in companies’ order books.

Nigel: In the past, you have talked a lot about investing in private sector banks. You have not spoken much about PSU banks; they may not have been very positive about then but every now and then it comes about that price to book value at 0.4 times or 0.5 times still not a place to be in the private sector banks, if you want to play banks?

A: If you look at our portfolio, our bias towards private sector bank continues and we believe that as far as private sector banks are concerned, they have handled the credit cycle pretty well as compared to their public sector peers. They are very well capitalised to participate in the growth and they are expanding their branch network thereby improving their excess to low cost current and savings account deposits and the return ratios are pretty good as far as these banks are concerned.

So, we believe that these are structural growth stories; the market share is still about 25-30 percent. Hence, there is scope to increase that market share. We believe that these are structural growth stories and would continue to bet on private sector banks to play the revival.