DSIJ Mindshare

Bottom-Up Is The Way







Sanjay Chawla
Chief Investment Officer
Baroda Pioneer AMC

Take us through your journey in the Indian capital markets.

I have been associated with the capital markets for a shade over 20 years. I have blend doing research, managing people and actively managing funds. From a very early stage in my life, I as clear I wanted to be in the financial markets. I have grown from being a research analyst to the Head of Research, to Portfolio Manager, then to a Senior Fund Manager and now I am the Chief Investment Officer. Each role has its own challenges and I have enjoyed each and every role.

Coming to the markets, what is your take on the present investment climate?

The investment climate is slowly improving. In the last two to three years, large numbers of projects were not cleared due to a multitude of reasons. Some of the projects were stalled leading to invested capital not generating any returns. All this has led to crisis of confidence. Added to this was the firming of crude prices along with India’s gold imports soaring. This led to a high CAD and the devaluation of the Indian currency. Corporate earnings slowed down, which led to equity markets giving tepid returns. 

The Project Management Group, an empowered body under the aegis of the Cabinet Secretary is speedily clearing stalled projects and fast tracking new projects, which is a very encouraging sign. While it is too early to say, that capital formation in the country will come back to the original level, we are definitely seeing some traction on that front. I am hopeful this would result into some stalled projects taking off, which in turn will result in improvement of the return on the invested capital. The ripple effect of the same is expected to be felt on the banking system with improved credit off take and lower NPAs to follow. Eventually, this may lead to confidence building in the system and economic growth of the country. 

What is your take on inflation and interest rates for CY14? Do you foresee both of them coming down?

We do expect inflation to come down based on the sharp fall in vegetable prices. This fall is mainly the result of an increased supply following a good crop.  Both the CP and WPI print has fallen in the month of December 2013. Given the further fall in vegetable prices in January, we expect the same trend to continue in the near future.

However, we are worried about core inflation, which is stubborn and refuses to come down. Mind you, core inflation is flat when the GDP growth rate is at or below its recent historical levels. Unless and until certain supply side issues are resolved, inflation can be very sticky, especially if GDP growth rates start improving.

We expect corporate houses to benefit from lower interest, only after inflation falls below the RBI’s comfort zone.  We need to wait to see core inflation fall or stabilize, following a growth in the economy. 

Does the concept of 'buy and hold' still hold true, particularly in the present scenario when sector rotation is happening at such a fast pace?

In the last couple of years, markets have been volatile and range bound. Despite this, we have seen certain sectors doing well. In CY13, IT did well. In CY12 Banking outperformed. Clearly, the breadth of the market in the last couple of years was relatively narrow. 

The key element to be successful in equity markets is to identify broad themes (sectors) and then use the bottom-up approach to identify good stocks at reasonable valuations. This is also true in a range bound market. It is also important to have some structural stories in the portfolio. These are typically sector agnostic and are multi-year plays. This helps us to ensure that we are not whipsawed out from the market when sector rotation happens. The risk to this strategy is that, at times this may lead to short term underperformance. My experience has proved time and again, that on a long term basis, you will outperform. Besides, on a risk adjusted basis, it provides for better and stable returns.  
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What is your take on the present valuations of the India markets?

Indian markets are clearly trading at their historical five to seven year average valuation. When looking at the valuations, it is important to look at more than just one dimension. One should compare it with growth in earnings and return ratios. While the current valuations are in line with historic levels, earnings growth in recent times has been much slower than what we have witnessed in the past. Return on Equity and Return on Capital Employed have consistently fallen in the last three years. One reason for this is, the misallocation of capital by company managements and the other is the stalled projects. The recent move that we have seen in the equity markets is on the back of a re-rating that is happening. Corporate earnings have not been revised. We expect the earnings momentum to pick up in the FY15. This should lead to markets trading at reasonable valuations. Return ratios are also expected to improve with the efficient use of capital and stalled projects commencing production in coming years.

What is your outlook on the Q3FY14 results, and how do you see the earnings of India Inc. panning out in H2FY14?

Q2FY14 was the first quarter in the last 6 quarters where earnings had surprised the consensus estimates. Personally, I was happy to see the sales growth stabilizing at a reasonable level for the quarter ending September 2013. We believe the earnings downgrade cycle is over. The street has maintained its FY14 estimates. 

Given the stable macro environment and no major disruption in business, we expect Q3FY14 to be equally good as Q2FY14. Considering that Q4 has historically been a strong quarter, we should see improved corporate earnings in 2HFY14 over 1HFY14.  It is too early to say that the earnings upgrade cycle has started, but the downgrade cycle does seem to be over. 

With the GDP number for Q2FY14 coming in at 4.8 per cent, do you feel we are looking at some revival in the economy going forward?

Usually the second half is better than the first half of the year. If history repeats itself, then we should see an improved GDP print in coming quarters. On the margin, we have seen some economic activity pick up. The only caveat being that, planned expenditure may be curtailed in order to meet the fiscal deficit target promised to international rating agencies. If the planned expenditure is cut drastically, it may dampen the GDP growth

What is your advice on playing the markets till the General Elections of 2014?

It is very difficult to make an investment decision based on any event, especially on the outcome of an election result. Historically, we have seen financial markets reacting to the outcome of an election. Subsequently, it is the economic policy, GDP growth and corporate earnings which impact the markets. We are hoping for a stable Government that provides a conducive investment climate, ensures progressive corporate earnings and is able to attract foreign capital.  

We do believe in the prowess of the economic growth of India, You need to invest, irrespective of the election outcome. Underlying Indian economic growth is strong. A stable and a stronger Government at the center would lead to India achieving its true growth potential. 

Which are the sectors that you are currently betting upon?

Given the volatility in the last couple of years, coupled with a range bound market and certain event risk, we believe the bottom-up approach will yield the best returns. We are playing on improved US growth and recovery theme in Europe. 

Sectors like IT Services, Pharma and select auto and auto ancillary should benefit from sales to these regions. A depreciating Rupee provides a tailwind to corporate profitability. The industrial segment is expected to report a better operating environment. The order flows have been a trickle, but competitive intensity is lower than recent past.

A key theme that is likely to play out in corporate India is the deleveraging story. Few corporate entities which are highly leveraged are selling their assets and reducing their debt levels.  Some of these companies are trading far below their book value and this offers good return potential.  

Can you spell out the challenges that the Indian funds industry is currently facing?

In the last couple of years, investors were focusing on physical investments and hence financial investments have declined. We believe that in asset allocation, financial products should also be a part of the investor’s portfolio. We are confident that investors would start looking at Mutual Funds much more favorably in CY2014.

What advice would you like to give retail investors at this juncture?

It is very difficult to time the market. To make the maximum from one’s investment in Mutual Funds, you need to invest systematically and over a long period. Set your financial goals and save accordingly. Don’t save what is left after spending, but spend after you have set aside your savings. Finally, I would say match your risk profile to your investments. 

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