In an interview with ETMarkets, Patwardhan said: “Amid geopolitical concerns, what investors should really focus on is oil prices. It can be overwhelming to track everything, but for India, the single most important variable is the price of oil,” Edited excerpts:
Thanks for taking the time out. Geopolitical concerns halted the dream run on D-Street. How are you viewing the development, and will it have a lasting impact on equities?
You are right, there is a lot of excitement around. I think I would say too much excitement for our own good, too much action. So, yes, typically, when these things happen, there is bound to be a knee-jerk reaction. I am referring to the escalation of tensions in the Middle East that happened a few days back.We do not know what is going to happen next, which is why that kind of scare is completely understandable. Not to forget, there is another war that has been waging for probably two and a half years in Europe.And then, in a month’s time, we are going to have probably the most consequential elections from a world affairs perspective, the US elections in November. So, there are lots of imponderables.
I have seen in the past that whenever this kind of escalation happens, a knee-jerk reaction is completely expected. To that extent, I would not call it a full-fledged risk-off yet; it depends on what happens.
So, the dream run that you refer to has taken a kind of pause or experienced some knee-jerk correction, which is to be expected. Will it impact the medium to long-term story? I do not think so.
If you look at the medium to long-term outlook for the stock market, and more importantly, for the economy and corporate sector, they are on a very strong footing, in my opinion.
The macroeconomic fundamentals of India are very strong. In fact, I would say that on a relative basis, they are probably the strongest, at least in my career of 30 years.
The Government of India’s balance sheet looks good, corporate India’s balance sheet looks good, and the banking sector’s balance sheet looks good. So, I have no doubt in my mind that, from a macro fundamental perspective, the view on India is unlikely to change.
From a medium to long-term perspective, I think we should be okay. These kinds of events keep happening, and it really depends on how things progress in the Middle East and, of course, the US elections.
Chinese stocks entered a bull market after the biggest surge since 2008, supported by government stimulus measures and valuation support. How are we placed among EMs in terms of valuations?
In terms of valuations in the emerging market context, India has always been more expensive. If I go back to the early days of my career on the sell side, I remember the argument was always that India is expensive, a view that has remained constant, frankly, for the last 30 years.
But yes, if you look at it, and I think what is happening in China is very important and cannot be ignored, valuations in China before the recent upturn in the Chinese market were probably half of India’s at the index level.
So, they were very, very cheap. In fact, I am sure you know the context where people were increasingly fed up with Chinese markets’ underperformance and some of the actions by the government. This led to the question of whether the Chinese market had become uninvestable from an institutional perspective.
That was the backdrop. So, those were the initial conditions. Clearly, the announcements made by the Chinese government have led to the action we have seen.
Now, I must qualify that I am not an expert in China, but I have read a lot about what is happening in China and the views of different strategists. One school of thought suggests that what they are doing is not enough, and there have been many false starts in the past where there was no follow-up action.
The other school of thought believes that this time, both the content of what they are doing and the style in which they are delivering the message have led many people to say that this time it is different.
So, we do not know exactly how it is going to unfold because even the big bulls acknowledge the structural problems faced by the Chinese economy, government sector, and corporate sector. But if indeed it is different this time, then clearly more and more people will take it seriously.
We should also not forget the initial conditions, which are that people were very, very underweight on China. So, in any such market, people rush to at least cover their underweight position.
From India’s perspective, to what extent this will matter depends on whether it is really different this time. It will impact us at the margin from a flows perspective. But again, I do not see this as very durable from a medium to long-term perspective.
With the US cutting rates by 50 bps and China also supporting the economy with stimulus measures, the slowdown fears are real. Will India continue to remain the bright spot, and for how long?
Frankly, the Chinese slowdown has been there for a long, long time. In fact, the government has tried to take incremental steps, but that has not been enough. So, I don’t think that is new at all.
As for the US, yes, there is some concern about whether the economy is moving too slowly, etc. But if you recall the discussion over the last 15 to 18 months, everybody expected a recession in the US after the rate cuts.
Somehow, I think they either managed well or were just very lucky, and what we are seeing is a soft landing. So, it is unlikely that there will be a sudden problem in the US. I think the weakness is also there in Europe, which is another large economy, particularly in Germany, but in other markets as well.
In fact, that is one of the reasons why India is being looked at as a bright spot. As I said earlier, on a relative basis, our macroeconomic fundamentals are looking good.
When was the last time you saw the fiscal deficit in India lower in absolute terms than in the US, France, and elsewhere? Inflation, too, is much better behaved—it is manageable. I think the way our economy was steered post-pandemic—partly skill, partly luck, as is always the case—has positioned us well.
We really are a bright spot right now, and that is one of the reasons why the inclusion of Indian bonds in the JPMorgan bond index, which was announced last year, is a recognition that investors want to invest in India.
So, yes, there are problems, and cyclically these things happen from time to time, but I think India’s position as a bright spot is actually emphasized because of these factors.
The US Fed gave the needed trigger for the market to hit fresh highs, but what will be the next big trigger that investors should watch out for—the festive season or earnings?
I would say that one of the weak points for the Indian corporate sector, if you look at it overall, has been consumption. The big theme has been investments.
The major story over the last several years has been the government’s significant capex on infrastructure, etc. It has largely been an investment-driven story, particularly over the last one and a half to two years, while the consumption part has been relatively weak.
I’m speaking on an overall basis, though there are some pockets where consumption has still been good. So, I think the market is looking forward to what happens in the second half of this fiscal year. The festive season has probably started from today.
I think analysts and fund managers will really focus on what commentary the managements give in their results updates. The results themselves are not expected to show much improvement, as the last three months saw no real pickup, partly because we were just coming out of the election season.
But the outlook from managements for the rest of the year will be key—whether customers are returning and whether they see any green shoots in their product market segments. I would say that we do expect to see a pickup in consumption across both consumer durables, maybe staples, and services. That is likely to provide the next leg for the market.
After a 50-bps rate cut by the US Fed, when do you see the RBI cutting rates?
We must remember, when comparing the two, that the extent of the policy rate increase in the US was much higher than in India. In India, it wasn’t warranted to the same extent, and that’s the context we shouldn’t forget.
We do expect that the RBI will likely reduce policy rates, but predicting exactly when and how quickly they will start is difficult. However, if you look at the market, it is already expecting some kind of policy rate cuts from the RBI.
That said, the RBI will likely be more calibrated in its rate cuts, and we shouldn’t directly compare it to what’s happening in the US.
Markets are slaves to earnings. How will earnings pan out for India Inc. in the next few quarters?
Again, we need to remember the context. If you look at the four years from FY20 to FY24, and take Nifty as a proxy for corporate India, earnings doubled. That’s a 20% CAGR in earnings from FY20 to FY24, which is very robust for an economy the size of India’s.
So, compared to that, I think the earnings growth will appear a little slower. However, given the size of the Indian economy and the base, it’s still going to be healthy.
Our expectation is that over the next couple of years, we’ll see mid-teen earnings growth, which I would say is still quite positive.
Also, as I mentioned earlier, the balance sheet of corporate India is very solid, with not much debt. So, it’s unleveraged growth of mid-teen percentages, which I think is a pretty good outcome.
Quarter to quarter, of course, because of the base effect, it will appear a little softer. But when we study businesses and stocks, we’re typically looking at the next couple of years.
Which sectors are you overweight and underweight in?
Across funds, depending on the mandate, the extent of exposure varies. However, on an overall basis, we are positive on consumer discretionary, telecom, and healthcare at this stage.
On the underweight side, we are underweight in BFSI, particularly the banking sector, and also in consumer staples.
Do you see any signs of topping out?
From a top-down perspective, if you look at what drives markets, two things broadly influence them: the underlying growth of the economy and corporate sector, and the second is flows, or the demand for liquidity.
As far as earnings growth is concerned, we expect fairly healthy growth over the next couple of years, as I mentioned earlier—the base is very strong.
You’re absolutely right when you say the geopolitical situation is more like a black swan event. If things deteriorate rapidly, what investors should really focus on is oil prices. It can be overwhelming to track everything, but for India, the single most important variable is the price of oil.
If things worsen in the Middle East and oil prices shoot up—and more importantly, stay elevated for an extended period—many of the positives we’ve seen in India, such as a healthy current account, fiscal deficit, low inflation, and relatively lower interest rates, might unwind.
That said, this is not our base case scenario at all. I’m simply responding to your question about what to watch for as a sign of trouble. Oil prices are the key, as they affect everything, including currency.
Our base case is that, based on the current oil market supply and recent statements from Saudi Arabia, even if oil prices rise due to developments in the Middle East, they are unlikely to remain high for long.
The oil market seems oversupplied, but that’s something investors may want to monitor. The other important factor is flows. Your question about China becomes relevant here, particularly in terms of FII flows—whether they invest more in China and less in India is something we’ll have to observe.
Regarding domestic flows, as you know, the biggest story is the increasing participation of domestic investors. As long as that continues, I don’t think there’s much to worry about.
In terms of sectors, do you see any industry showing signs of a turnaround?
As I mentioned earlier, consumption has been a weak area for the Indian economy. If you look solely at the markets, you wouldn’t notice this, because they’ve performed well.
But if you speak to company management, they’ll tell you that consumption, particularly in rural India, has been the soft spot. This is something we’ll be focusing on closely.
While it may not show up in the second-quarter numbers, we’ll be listening intently to management commentary to gauge whether there are any green shoots.
Investment has been a strong story, but at some point, consumption needs to recover, and that’s something I’ll be watching for very closely going forward.
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