How are you looking at the entire IT space, given that we have seen an outperformance continuing into this month? What do you expect the remainder of the year is likely to bring for the IT space?
Ajay Bagga: IT is looking good. There is continued buying in IT and we expect better results coming in. The AI part, was the cause for worry and we had seen the employee headcount going down as well. Now we are seeing several end uses of AI coming in. The semiconductor companies, as the suppliers of the AI chain, were doing very well and the end user companies were looking at end-use cases, and in the centre were our IT companies.
In this quarter’s management commentaries, 200, 300 caselets, 200 end-use are being talked about. That is coming through quite well. So, IT remains our top sector.
How do you stand in the entire defence space? The aero engine order has come as a big shot in the arm has come in for the sector. A lot of these stocks as well are abuzz in trade largely on the back of that. Where within defence do you find comfort?
Ajay Bagga: Three months leading into the Budget we saw very sharp run-ups in the defence stocks and we were saying that the valuations are now factoring in multiple years of execution and we saw a brief sell-off. I still think defence holds a lot of potential. Valuation was the big issue. Now, news flow-driven moves are being seen like this 26,000=crore order for aero engines and stuff.
So, a lot of it is dependent on the order books or the new orders coming in. What is a given is that the very well-run companies, mostly in the government sector, will continue to see a lot of investments as defence gets modernised, given the kind of challenges India faces with China and Pakistan on the border. So, the order books will continue to shine. The companies are very well-run and have good margins. The main issue was the valuations. Are we out of the woods there? I do not think so. But we will get moves like this.
We also saw three sectoral funds being launched on the defence side. All gave negative returns over the last two months due to the kind of correction that we saw. We are not out of that over-valuation zone. I would still say we can hold on and no fresh investments either in defence or railways. Both were sectors that got bid up going into the Budget. We can wait some more time. Most of the good news is factored in. So, we will see these kinds of moves on the shipbuilders or the defence contractors, but the valuations remain quite high and the scope is more for corrections rather than going up further in the near term. I would say next three-six months can be a wait-and-watch period for these stocks.Where are banks headed now? There has been a stark underperformance vis-a-vis the rest of the market. Credit growth seems to be flagged off by one and all. Do you think banks can play catch up or will the underperformance and the gap within the rest of the market is going to remain?
Ajay Bagga: Yes, spot on, banking has been an underperformer on a relative basis and you have other options, especially, the bigger trend for the rest of the year is the rural economy coming back. The two-wheeler numbers have shown an uptick, that is a good point. Tractors are flattish to positive.
The rural economy coming back is a bigger story. For banks, the issue is twofold. One is there is going to be a NIM compression given that there is a deposit war out there and that sustainable funding is still being sought. There is no tax concession that the bankers were looking at. If we see the amount of money that is going into the stock market, from the affluent and the mass affluent classes, a big chunk of the financial savings are going into the markets through various instruments like mutual fund, insurance, provident funds, NPS, or direct investments.
We are seeing bank deposits hurting. They have to increase rates and that is causing a NIM compression. Second, in terms of where we are in the cycle, normally with the rate cut, again, we see a compression of margins for banks and that is not a good forward-looking indicator for the performance of banks for the next six months. We are expecting rate cuts to start in India by December.
Going into that, one could see continued underperformance from the banking sector. Other financials like insurance or mutual funds, even the brokerages have different drivers, that is a financialization driver. For banks, it is more disintermediation that is happening. Money is going into other avenues rather than sticking to bank deposits and that is causing a margin compression along with the overall credit slowing down, which is contributing to weaker bank numbers and that is the perspective for the next six months.
But on a long-term basis, they are the suppliers to a growing economy. They will do well. But in the next six months, one can find much better returns in power financiers or insurance or mutual fund companies. Those will probably do much better than pure banking plays.