Editor’s note: Expensive valuations might have made many investors uncomfortable but bulls have been cruising with impregnable confidence for eleven months in a row. At present, no height looks high enough for market indices; such has been the nature of the rally. Since markets foretell how economic growth might look like in future, we thought of digging deeper this time to take the commonplace discussion of valuation vs growth in a conclusive direction.
We recently caught up with Shrinivas Rao—CIO-Equities at PGIM India Mutual Fund. The topic of discussion was whether India is likely to enter a phase of cyclical upswing or there’s going to be any structural shift to India’s growth story. His response was interesting and equally enlightening.
You may skim through highlights to get the essence of our discussion or may watch the recorded podcast in case you don’t want to miss even a minute of it.
We began by asking Shrinivas about the present market conditions and the macroeconomic setup.
In response, he underscored the synchronized nature of rallies in equities globally and expected the economic recovery to continue throughout 2021.
He believed the resurgence of the virus and slower pace of global growth in Q4 might have opened a window for another round of stimulus (in the US). He expected inflation to remain benign because of structural factors such as ageing population, globalization and technological advancements, besides the supportive policy response of central banks.
When asked about what could act as a speed bump for the current market rally, he outlined four major risks—expensive valuations, increased market concentration, Sino-US trade frictions, and fresh wave of COVID cases.
Speaking about India, he thought the post-lockdown recovery has been stronger than anticipated. Various macroeconomic indicators, such as Nomura Business Resumption Index, Monthly e-way bills, railway fright data, toll collections and GST collections, suggest that the recovery has more elements than just pent-up demand.
He remained optimistic about the long-term prospects of the Production-Linked Incentive (PLI) scheme. Although it may add 100-150 bps to India’s GDP in the long run, meeting such expectations in the short run could be difficult.
Shrinivas’ remarks on the topic of India’s structural growth story were interesting. He drew the attention of the audience to historical per capita GDP data of various economies such as China, Malaysia and Turkey, to name a few. The observation he made was—economic growth explodes once an economy surpasses the per capita GDP of USD 2,000. With its per capita GDP of USD 2000 at present, the Indian economy is perhaps on the cusp of entering the multi-year growth cycle anecdotally witnessed by other major economies.
It has been observed that discretionary spending increases substantially when an economy attains the per capita GDP of USD 2,000. Shrinivas expected India’s per capita GDP to grow at 7%-10% CAGR (compounded Annualized Growth Rate) for a decade at least. In other words, even a conservative estimate of 7% CAGR can take India’s per capita GDP to the USD 3,680 mark by 2030.
Looking at various government initiatives he believed the chances of India achieving an 8% structural GDP growth in future have brightened.
Rising FPI (Foreign Portfolio Investors) inflows has been a function of some tradeoff between Emerging Markets and Developed Markets (EM Vs DM). In plain English, global investors at large believe EMs have better prospects in the foreseeable future thus their allocation to India increases, not because their bullishness about India in specific, but because India is an important emerging market. These inflows are relatively unstable as compared to those by long-only offshore funds investing in India.
Drying up FPI inflows could be a risk but the dependency of Indian markets on FPIs has been declining, stated Shrinivas. Also, anecdotal evidence suggests that Indian markets are likely to be less dependent on the inflow of foreign capital even going forward.
When asked about themes that could drive growth, he named three prominent ones—digitalization, financialization and healthcare. Speaking about the each of them individually, he thought the digitalization opportunity in India, which could be achieved by 2025, has been to the tune of USD 435 billion. COVID has helped India make speedy progress on digitalization, which otherwise could have taken 4-5 more years.
He broke down the digital theme into four sub-categories—software, telecom, e-commerce and industrial automation. He believed India is likely to remain a major outsourcing destination for corporations globally and Indian IT companies have a chance of gaining further market share.
Shrinivas also sounded upbeat on the trend of financialization of domestic savings of which banking, asset management companies and insurance companies are likely to be the major beneficiaries.
On the topic of healthcare Shrinivas highlighted four areas of healthcare that can witness a multi-decade opportunity which include domestic formulation, rest of the world formulation, US generics and API, CDMO and CRO. He thought, Indian companies have steadily moved up the product complexity curve and have been improving their compliance record. These he counted as big positives.
PGIM Mutual Fund has been investing its AUM (Asset Under Management) where its mouth is. Below is the last disclosed scheme-wise exposure to the three key themes that Shrinivas highlighted earlier.
(Source: Fund house disclosures)
Our panel asked him about his views on Electric Vehicle (EV) evolution to which he didn’t give an optimistic answer. He thought EV adaptation is likely to be very slow with only 20% of Passenger vehicles becoming EVs even by 2040. Indian markets are price sensitive and value driven thus commercial viability of EV implementation may happen at a slower pace in India.
Shrinivas’ comments on the trend of growing retail participation in equities…
We couldn’t end our conversation without seeking his view on the growing trend of retail participation in the equity markets through the direct route and a lukewarm response of investors to mutual funds of late. In response, he sounded a bit cautious about this trend and explained the reason candidly. Since mutual funds invest in 30-40 stocks on an average, they haven’t been able to match the return generated by a concentrated portfolio of say 5-7 stocks present in an investor’s portfolio. But when the going gets tougher, individual investors often find it difficult to handle the volatility that a concentrated equity portfolio exposes them to.
He also warned against booking profits to time the market and advised investors to take more prudent calls based on asset allocation.
Data as on February 26, 2021
(Source: ACE MF)
Shrinivas was of the view that the long-term prospects of the Indian economy were bright and the long-term structural story of India looked extremely attractive to him.
Speaking about markets, he didn’t rule out the possibility of a correction due to the overheated nature of the present rally and unprecedented rise in market valuations. The GDP growth of 8% plus in the medium term, i.e. beyond Q2FY22, looked farfetched to him after the favourable base effect faded out in Q1 and Q2FY22.
Important note (Please read as a disclaimer): None of the mutual fund schemes discussed in this note is a recommendation to buy, hold or redeem. So is the case with sectors that might have been referred to. Views expressed herein overtly or even otherwise are solely that of the guest and under no circumstances should be construed as those of Ventura Securities. The only purpose of this coverage is to create awareness amongst investors.
Investing in mutual funds involves risks. Please consult your financial advisor before taking any decision pertaining to your mutual fund portfolio.
You may also like to read: In conversation with Nilesh Shah
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