India may be held hostage to EM outflows: Akash Prakash

Emerging markets as an asset class have witnessed immense headwinds and if outflows from these markets worsen, India will not be able to stay immune, says Akash Prakash of Amansa Capital."If EMs continue getting outflows which has been happening for the last two months it is very difficult now for fund managers to not sell [Indian stocks]," he told CNBC-TV18's Shereen Bhan in an interview.He, however, added that Indian investors should not panic, adding that the floor for the Nifty stood at about 7,200-7,500. Below is the transcript of the interview on CNBC-TV18.Q: What did you make of the Fed's move and what is the overhang on emerging markets? A: We wished the Fed had hiked by 25 basis points and got that bogey off the back and said I will not hike for 12 months after that. So, it is going to remain a turbulent time globally because you have the situation of emerging markets (EM) as an asset class being under serious stress at the moment for various reasons – strong dollar, weak commodities, China. I don’t think that goes away immediately. I think the concerns around EMs are going to remain there. I think the Fed is in that sense important but not the critical reason why EMs are in stress. So, I think it remains a side show. Q: Is it really a side show and I go back to Alan Greenspan. He said why is the world obsessing about whether the Fed is going to hike or not because at the end of the day it is going to be a 25 basis point hike at least as far as this calendar year is concerned? But we, in expectation, in anticipation of what the Fed is going to do we have seen so much volatility and so much churn in our markets? A: I am not sure it is entirely because of the Fed. To a certain extent China has taken over that role of creating volatility, right? One of course you had Europe and Greece, which now seems to have gone away. Then you have China and China I think is now over the last 7-8 years has created more economic growth than the US and Europe combined. There is great uncertainty around China in the sense because of the unreliability of the data and the fact that they are changing the growth model; no one is 100 percent sure what exactly is going on so that is the bigger source of volatility. The Fed obviously is there, they are but I don’t think that is the main reason why volatility has happened in the last couple of months. Really it is more China and more fear around emerging markets. I think it is fear around the emerging markets growth model itself because EM countries have decelerated dramatically. They have no earnings growth, a lot of them are having stress on the current accounts. So, I think there is a general reassessment that is EM really be able to grow 300-400 basis points faster than developed markets for the next decade which is what the conventional wisdom was? I think there is reassessment of that. That is creating the volatility as well, it is not that Fed is not relevant but I don’t think it is just the Fed. Q: Given the reassessment on account of the pain that we are seen in emerging markets and that of course is impacting markets like India even though we are poised much more; we are in a better spot in comparison to the rest of the emerging markets at this point in time. Do you believe that reassessment because everyone has been overweight India is going to continue to impact us in the short to medium-term? A: I think it will now because India is a consensus overweight. You look at any survey of fund managers India has never been a higher relative or absolute weight than it is today. So, in a situation now if EM continues getting outflows which has been happening for the last two months it is very difficult now for fund managers to not sell India if they keep getting outflows because you can’t keep raising the waiting beyond the point. There are risk control measures; there is absolute risk you are taking. So, if EM gets outflows, India will get sold because there people won’t have a choice and that is what you have seen in the last one month. The domestic flows have been strong so we have compensated. However, I think India now is going to be held hostage to EM flows as a whole because frankly we can’t go up much more. That is the reality. Q: What does that mean then as far as the Index for instance is concerned in this particular calendar year? We have already seen downwards revisions as far as the Index level is concerned. In the short-term how much more pain do you believe we are likely to see for our markets? A: Our own article is saying that, I don’t think we should panic and sell. I don’t think market has huge downside. The caveat to this of course is that it is almost like a question of who blinks first; it is like Coke versus Pepsi. So, the foreigners will keep selling so will they stop selling or whether the domestic stops buying. Q: The domestics at this point in time are having a bit of a party in the market. A: It is good but the criticality is, historically through periods of high volatility domestic flows have not sustained. This time it is looking like it is different because even through the months of August flows were all time high. My friends in the domestic mutual fund industry all tell me that flows are still quite good. Q: The conversations that I had with people who are talking to the domestic institutions say that they believe that flows will continue to be robust and there is something different this time around. A: So, if you believe that and I do believe that is true and if you believe that the downside is not very dramatic so I would say may be 7,500 on the Nifty or maybe 7,200. I don’t think it goes much below that because there is strong domestic buying power which is continuously coming. However literally it is that the foreigners are selling and domestics are buying and who blinks first. So, we will see. Q: Speaking of the strength of the India story and I remember you had written this in June when you had visited India and spent a couple of days talking to policy makers, do you get the sense that the story or the direction - consistent in line with what the end objective is as far as this government is concerned but in terms of follow through action, in terms of actually putting the nuts and bolts in place in terms of execution, are you still feeling as confident as you were in June? A: I think it is a mixed picture in the sense that as investors we obviously hope that things are done faster because investors have simplistic view of the world and you want something done and you want it done, you don't normally realise the political compulsions. India is a very complex democracy so it is not so simple to get things done. So, I would say the picture we would wish to be faster but it also depends almost on sector by sector, minister by minister. For example if you look at railways, the feedback is very positive, there are lots of things happening and Suresh Prabhu has done a really good job and things are really going well. You look at roads there is a lot of positive news. Renewable is very positive, power transmission is very positive, distribution is still a question mark with discoms. Power generation is a story of huge success ironically in the Congress time. There is so much generation capacity now that we are almost power surplus country. So, it is mixed. Is it the universal everything great? No. We want things to happen faster but it is also unfair to say nothing has been done. There is lot of stuff and also they inherited a lot of mess in many areas. Lot of stuff gets stuck because there is judicial involvement or there is some case or there is some judgement that you can't get out of. So, I wish they were faster but I do believe that direction is clear and they just got to keep working at it.Q: Since you were talking about some of the sectors where the government has allocated a lot more money, railways, roads and so on and so forth and the emphasis right now is private sector is not spending, significant parts of private sector are seeing stressed balance sheets and that has sort weighed in on their capacity to be able to spend or invest at this point of time and so the government must take the lead and hence we are seeing public expenditure move up in areas of infrastructure and so on and so forth. Do you believe that that will continue to be the case because when you talk to industry at this point in time, the demand continues to be slow, consumption is taking a toll? We are not really seeing the need for new capacities to be put up and yes, the balance sheet problems continues to exist. A: I think that is a fundamental problem. I think India is going through a balance sheet recession in the private sector, which is that the bulk of the people; if you look back at the last five years, the big areas of capital expenditure (Capex) were really power and commodities - ferrous metals, aluminum, steel, stuff like that. Those sectors are all challenged, I mean steel and commodities, we know what has happened globally; power, self-created problems. They says there is 30,000 megawatts ready to start which cannot because they do not have a power purchase agreement (PPA) and there is 50,000 megawatts behind that which is in various stages of completion which is stuck. So, anyone involved in these three, four big areas which were the bulk of our investment is in stress. So, either they have a balance sheet stress or the banks won’t fund them. So, this balance sheet repair will be very protracted and take a lot of time which is why the drivers of capex this time are reversed. It is railways, it is roads. It is not power generation, not aluminum, it is not steel. It is railways, roads and maybe transmission, stuff like that. So, you are going to have to change first the mix of what is the driving investor which has already happened. Then second is the balance sheet repair is going to take a lot more time than people think because how do you clear these assets? So, either you have to get a lot of foreign direct investor (FDI) people to buy the asset or somebody else to come and buy these assets. So, the government really has no choice that you are going to have the public investment first, and that will slowly crowd in private investment. I think private sector in India has neither the willingness nor the ability to invest. There are obviously exceptions, but I am saying if you look at who were the big investors of the last five years, they do not have either willingness or capacity. Q: But is the infrastructure side of the story looking better to you given the fact that there is emphasis now on getting things moving on the ground whether it is railways and of course the multiplier impact on that, whether it is roads, the exit policy for instance as far as stressed projects are concerned, does that mean that things are looking better now as far as the infrastructure side of the story is concerned - light at the end of the tunnel for those companies? A: I think. Q: Would you look at them? A: We are for the first time looking at them actually. This is the first time we have invested in a company called Sadbhav Infrastructure Projects. So, we were anchor investor. For the first time in our history, we have invested anything remotely related to infrastructure. So, there is a situation there where the policy framework has become better. Competition is far more rational because the bulk of the competitors who were irrational have all been wiped out. There is a lot more government money coming in. There is a lot more rationality on the part of government of understanding that I have to let people make some money to help them repair their balance sheets and otherwise I cannot get investment. So, I am not a great fan of infrastructure per se because they are fundamentally not great businesses because they can’t be. You can’t have public infrastructure earning 25 percent return on investment (ROI). I mean it doesn’t make sense you would be massively over charging the consumer which is why they are natural monopolies and regulated. So, occasionally you can get an interesting company but I am not a great fan because they are not great businesses in my opinion. They don’t generate huge cash. The returns will be and should be regulated. Q: Change of heart even as far as public sector banks are concerned or it is still wait and watch for you. Your are still assessing the strength of the story? A: For the first time public sector banks are something which we have to look at very closely because I do believe what they are trying to do in Indradhanush obviously we want more. I really want the full P.J. Nayak Committee to be implemented but obviously there are I guess constraints either perceived or reality political to get those things done. So, within that is this better than what was there before? Obviously, I mean if you are getting someone like Ravi Venkatesan as chairman of Bank of Baroda (BOB), someone like PS Jayakumar as CEO of Bank of Baroda that is radical change. It was unthinkable in the previous regime to get some one of that type to be either chairman or CEO. So, we got to see what happens. Q: So you wouldn’t put in money just yet? A: No, I think it will take time. I think that we still need to see first of all will the new people do they get their freedom they are promised. Do they have the ability to do what they want to do in terms of making the changes? So I would say from my point of view it is gone from a situation where I was not even keeping track of what PSU banks were doing, now at least I am looking at and not all. I think the government has clearly said that you should look at only five so I am looking at those five. So, at least it is back on our radar. So have we made the investments? No, but we are clearly watching and see what happens. Q: What about the private sector banking space and we are seeing a bunch of changes within that landscape which is going to make things even more competitive. There is now the possibility or at least the proposal being pushed by the banking sector or private banking sector to the government that, hey! let it be 100 percent foreign direct investment. It is a matter that is being looked at. There has been no decision that has been taken which is what the finance minister told me but what about the private banking sector this point in time? A: Banks in India are outstanding businesses. It is a very positive business model because you have banking system owned by the PSU Banks which till very recently have been quite challenged on capital, technology, ability to pay market based compensation. So, that is your big chunk and is undercapitalised right. You have the foreign banks which are either controlled because they have problems overseas or the Reserve Bank of India (RBI) has controls on what they can do. You have the niche in the middle which are private bank which are probably as good as the foreign banks in technology and capability and don’t have the constraints of the foreign banks. So, it is a great business model. You can underwrite 15-20 percent earnings over the next – as long you can underwrite credit well you can do very well. So, I think they are great businesses. However, they are very expensive. HDFC Bank is four times book and Axis Bank is 2.5 times book and Kotak Mahindra Bank is five times whatever. So, the issue there is finding a bank at a value as you are comfortable with. Q: You are not comfortable with any at this point in time? A: No, we own some I don’t want to give specific names. However, we do own one or two of them but the issue there is I think to make outsized returns from here is going to be difficult there because there is no scope for PE expansion or price to book expansion. Will they grow at 20-25 percent? I would say very high probability, because of the structure of the industry where the two ends can’t grow anywhere near what you can I think it is a very advantageous position to be in. The question is what will you pay for it? That is the issue. Q: Most people that we have been speaking to believe that in the medium-term to long-term, the India story continues to look great or good and hence this is an opportunity to get into the market in fact Rashesh Shah yesterday on the show said that this is a god given opportunity. How are you reading the current correction and how are you strategically placing yourself?

A: We are very stock specific so I would agree with Rashesh in the sense that any market correction -- first of all we do believe that over the next three-five years India will do very well, economic growth will accelerate, interest rates, inflation will come down.

Q: Are you expecting a cut on September 29?

A: I hope so. I think it should come.

Q: Will that be a significant trigger if it is a 25 bps cut?