Stay in oil & gas, telecom for strong returns: Franklin

The Indian government is try to reform the oil and gas space by cutting down subsides, repricing gas prices and hence, the sector holds promise for good returns, says Anand Radhakrishnan, senior vice president and portfolio manager, Franklin Equity.

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In an interview to CNBC-TV18, Radhakrishnan shares his favourite sectors and says the telecommunication space, too is likely to do well in the days to come.
“The telecom sector is going through a significant consolidation phase where the weak players are exiting and strong incumbents are gaining market share. We are also seeing emergence of pricing power within the sector. This should lead to better profitability in the coming years,” he explains. Below is the edited transcript of Radhakrishnan’s interview to CNBC-TV18. Q: What is your portfolio stance on this market right now because I was looking at some of your funds and it is interesting that you are not too overweight on consumer staples but you have quite a bit of exposure to banking and finance and oil and gas as well?
A: We do have underweight stance on consumer staples. That is more from a bottom-up perspective where the valuations of many of the consumer staples are trading at over two sigma) over the long-term averages while consumer staple stocks are stable businesses and capable of delivering growth.
I think markets being choppy, most investors have preferred to concentrate their holdings towards stable growth sectors and this has lead to an expansion in the valuation of this sector. So, from fundamental bottom up perspective we do think that there is a risk of valuation coming down over a period of time.
It may not happen in the shorter term but an opportunity to make medium-term returns would be slightly limited and that is a reason why our exposure to that sector is low. Our investments within the banking sector is more towards private sector banks, we do not have exposure towards government owned banks for structural reasons. However, even on the private sector bank side we have seen fair amount of correction in valuations.
We think that they are probably one of the best plays that are available in the market space. In case of an eventual recovery we think that private sector banks are ideally poised for a good rally.
On the oil and gas sector there are multiple triggers, but the key trigger being the government trying to reform that sector by cutting down subsidies, repricing the gas prices closer to market prices and unlocking the value to the investors.
Some of it might happen in the shorter-term, some of it might take a longer while so one has to wait a little longer in that sector for the sector to play out well. Q: In the metal space we have seen the steel stocks do well in trade. As of now metal exposure at least in your India Bluechip Fund stands at about 5.2 percent. Would you look to increase your exposure in few of the metal companies going forward?
A: We do not have an overwhelming or very high conviction and data points to tell that we have to increase our exposure while stock valuations generally have been benign and probably give scope for upside over the medium to long-term. I think the global cycle is still pretty much challenged and we think that sub sector within the metal space remain oversupplied on a global basis. So, there is not going to be a sustainable price recovery, be it steel or aluminium or copper or zinc from a global perspective. Any rally in that space would be pretty short-term. Therefore would not like to take a longer term view at this point of time.
Our exposure, which we hold are more on bottom up basis, we find them to have slightly better growth opportunities because they have projects which are coming on stream, which will lead to slightly better growth than the rest of the companies within that sector which are not well appreciated at this point of time in the market and that is the reason we have some exposure in that. Q: You may not want to talk stock specific but I was looking at your portfolios and looks like apart from Infosys there is not too much tech exposure in your portfolios. What is your call on the IT space?
A: I think the IT sector is going through some kind of cyclical recovery. The US and European economies are recovering and because of that we are seeing uptick in demand. More importantly the corporates are sitting at record high profitability whether it is in US or in Europe. So, their willingness to spend on the technology area is increasing.
In the last five years we have seen them curtail their spending as a percentage of sales and that we are expecting to improve. Hence, the near term trend seems to be suggesting uptick in terms of bigger picture but at the same time we are also seeing increasing competitiveness within that space and a trend towards more commoditisation there. So, there are going to be demand drivers as well as margin compressors within that sector. So, one need to play that game little carefully. Given the recent outperformance of the sector I would like to be little more cautious. Q: Bharti Airtel is one stock which features in your top holding in many of your big funds. That is a stock which has not given too much return for quite a few months and quarters and years also, going forward are you expecting it to start outperforming the market?
A: We think the telecom sector is going through a significant consolidation phase where the weak players are exiting and strong incumbents are gaining market share. We are also seeing emergence of pricing power within the sector.
This should lead to better profitability in the coming years. So, from a consolidation perspective as well as from pricing power perspective, the sector is poised towards better profitability.
Most companies within the sector are earning below the cost of equity returns. This is not a sustainable scenario. We expect the sector, at least the top players should earn returns higher the cost of equity and therefore there is opportunity to make money on the medium to longer term within that sector. Q: What is your call on market now? It has been quite stable but has turned a bit volatile over the last two-three months. What is your approach on the market now?
A: Market on a bigger perspective will follow the earnings. In the current quarter we have seen that the earnings are either meeting expectations or some of them are beating expectations as well. There is a slight deviation in historic trend where we have seen more disappointments than just meeting the expectation.
Hopefully, this is the beginning of a new trend and many of the companies are actually sitting on record low margins, so they cannot go further low in terms of profitability from the current levels. As and when the cyclical growth picks up we will not only see the topline growing, we also would see the expansion in margins paving way for higher profitability. Once the corporate profitability is on track we would expect the market to head towards newer territories.