He says S Krishnakumar, Director, Lion Hill Capital.
India has done much better than its peers and even if you look at the macro data, it seems that India has been much more resilient. Is this trend likely to continue?
Over the next six months, you would see further weakening in the global macros in terms of growth and further tightening, and this should have little impact on India from a global demand and export demand perspective.
We see that there could be a little bit of weakness in terms of growth over the next six to nine months, but having said that, India is much more of a domestic growth story. We should be able to comfortably have 6-7% growth this year and get back to 7% growth in FY24-FY25. A temporary weakness will come in the second half of the year, but that too is well priced into analyst expectations.
India has been doing well. Ratings have become quite premium. We have seen the beginning of the sales in the last quarter. Will there be more discounts? For IT stocks, the FY24 surplus might not be that big and even a lot of commodity and energy plays have already been made. What is your opinion on future EPS downgrades?
Even a year before the FY24 profit figure, which is very relevant to us, today it was closer to Rs 980 to Rs 1000 and today, after all this Ukraine turmoil and the other inflationary pressures and adjustments, still we have a profit figure closer to Rs 1,000 for FY24.
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While the energy basket and the metals basket could detract from earnings, we are a large user of these metals and commodities and therefore the user industries will see earnings improvement basically from a margin perspective. I see that overall we would continue to deliver a good 14-15% earnings CAGR for three to four years, which will support a market performance at those levels. If you look at valuations, at 18x FY24, we are probably more reasonably priced than we were in October 2021 when the correction started. We have consolidated and today we are in a better position. The other economies in Asia and other emerging markets have seen a significant slowdown and earnings downgrades.
Valuations again reflect below-normal growth potential, while India has been able to sustain growth amid two or three years of turmoil. I think we deserve this kind of valuation premium for the region and emerging markets.
It has a lot to do with the way investors have ignored other countries, resulting in valuations looking a bit more premium than we were, but on an absolute basis and relative to the company’s own valuations. India, which is approximately 17 times in the future. it’s 18 times. This is not a very significant market expense. We should remain cautiously optimistic and use market corrections to enter the market.
Should I read between the lines and understand that a new high is coming for the Indian markets because we are 3-4% away? Is it likely to happen before Diwali?
As I told you, in the short term, the current macro macros globally are getting tighter and we have a little tightening cycle in the US and in the European region, which affects demand and starts a little bit of recession.
We expect a small drop in terms of global growth in the short term, which will have a small impact on India. I may not be able to give you an idea if a new high for Diwali is possible. If you have a two or three year horizon, we should definitely see a lot of positive returns for investors led by a lot of big sectors like banking etc.
You are saying how strong internal growth looks. Is it the right time to look at real estate games and home building games given the fact that the entire industry is coming off a long-term hiatus?
Interest rates have been soft in this cycle for the last two to three years and we expect rates not to rise significantly and affect demand in real estate. We see a very strong uptick in real estate demand on the residential side.
Commercial real estate activity has also recovered a lot as take-up has been significantly high after the Covid scare. There hasn’t been a lot of new offerings in the last couple of years and we’re seeing a lot of developers getting active in commercial development as well. Real estate is a huge space one should be secularly optimistic about for the next decade.
If you look at all the supply industries to real estate, be it the decoration players, the paints, the tubes, the PVC pipes and the interiors, from the flooring to the other suppliers of sanitary ware, there is a huge demand that is waiting for you. . If you look at the type of interiors we have, it’s much better than what we had 10 years ago.
I think people are spending a lot more on interiors and home improvements, so this is a great space. Within that, paints are probably seeing a lot more competitive action after a bit of a duopolistic market. So paints may not be the right place to be, but even from a valuation perspective, the other sectors including hardboard, plywood and other plastics etc would be good areas to get involved.
Housing financing is once again a big space along with the real estate sector. Banks are a big game and not just NBFCs but banks are also very entrenched there and that should be another space to look at. Regardless of that, if you look at the business cycle, as we enter a growth rate above 7% and a nominal real growth rate of 14-15%, credit growth is already accelerating to the top 15%.
So three or four years of 15% credit growth is something we should see coupled with a little bit of spread expansion for banks, because in any cycle when interest rates go up, banks have good fixing power of prices. We see NIMs expanding, cost leverage kicking in and the benefits of digitization and fee revenues increasing as well.
All of these things, along with lower cost of credit and provisions, should see banks double profits in the next two and a half years. Banks are a huge space and a huge weight in any portfolio of investors that we should continue to add at this point. Here are some things that look interesting right now as we come off a low base and enter a period of growth.
What are the main bets in this space and how should those names be identified?
While housing finance is one of the big drivers of credit growth, there is going to be a big acceleration in corporate lending with the public sector as government spending and order books from various companies rise. In addition, the private sector is also entering capex mode.
In India, the last capex cycle ended sometime in 2010. We’re seeing a lot of initiatives, including PLI-related investments, etc. There are multiple drivers for banks and to identify various banks and NBFCs, one has to look at how much penetration they have achieved. from the distribution in terms of presence across India, a) from the retail perspective and b) it is also important which is the liability side of the banks and NBFCs.
The differentiator will be the type of CASA they have, which is low cost passive and also the type of capacity to generate deposits at low cost. Banks that offer a broad spectrum of services to the retail banking channel could have a much better liability franchise that will give them a lot of pricing power and the ability to outperform other competitors.
It is important to look at the liability franchise of these players to identify or shortlist some of them. On top of that, what’s important right now is the type of banks’ default positioning and the type of provision coverage that we have right now. If the banks have completed all the provisioning and are doing well, those types of banks that have less net NPAs would be well positioned because we’re also going to get a lot of recoveries on corporate loans that failed in the next couple of years. These are the two or three points one would use to search for banks and NBFCs to buy.
Third, in any industry, valuations are very important in terms of the book price of banks because the bank’s net worth determines what it can leverage and lend because capital adequacy and book price ratio are very important. as to how banks would offer returns to investors. These are the parameters one would use to filter banks and NBFCs.