What is the buzzword amongst private clients right now? How are you telling your clients to navigate this kind of volatility?
It’s a pretty challenging time as volatility is extremely high, nervousness is there. So I am having several meetings with our ultra-high net worth individuals and they have seen these kind of volatilities in the past. So as an asset allocator our job is to direct our investors towards their proper asset allocation depending on their risk appetite and their objectives. So net-net our investment committee believes that equity is a difficult asset class at least in the near term. We are underweight on developed market equities. However, we are a little positive on Asia relative to the developed markets and this is what we are communicating. For little bit risk averse investors we are overweight on bond portfolios. We think yields are attractive in India but from a medium to long term perspective we are extremely positive on Indian equity markets. We think that it is going to be in a sweet spot. We have been very vocal that India may command very high valuations and it may remain a very highly valued market. So from next three to five year perspective, if anyone has patience and investment horizon I think equity looks very differentiated and a very attractive asset class. So we are communicating our investors that look first half of 2023 is going to be a year of consolidation or some kind of correction as the valuation froth settles. However, from H2 onwards, we expect a good recovery in Indian equity market. So use this correction as a buying opportunity, certain sectors, certain stocks which are there for long term and you will make money.
Why do you think second half will be better than first half?
There are two things to it. First is that right now it is extremely difficult to predict what Fed is going to do looking at the inflation, looking at geopolitical situations. We are also seeing valuation being a little bit on the higher side. So I think after this consolidation as we move towards let us say post June 2023, there is a high probability that we may get more clarity in terms of the Fed tightening cycle. We were of the opinion that this is not a kind of 2002 to 2007 like scenario where Fed is going to tighten and equity markets will also do well.
We expected that such a sharp tightening by the Fed may lead to some kind of correction or reset of growth projections and that has largely now priced into.
We are also looking at inflation as it should start to fall a bit in the second half because the base effect is going to catch up. So I think from a rate perspective we are almost peaking. So I think that from second half onwards there will be more clarity in terms of 2024 and 2025 where we think that there are better chances of rate cuts. Secondly, we also have elections in 2024 so second half we might start to see some more action in terms of taking exposure to Indian equities.
Largely, the risk premium of India has fallen and if we have another five-year term government, a very stable government then I think we might see more inflows in equities in the second half in that anticipation. So we think that, yes first half is going to be challenging because of valuations, because of Fed tightening but second half these headwinds should start to abate as the base catches up.
Do you think that there is any worry right now when it comes to the overall banking sector? It seems like most of the experts on the Street have said that the Silicon Valley Bank crisis is unlikely to really have a contagion effect on Indian banks as a whole, what would be your outlook on the banking space?
Yes, this is a little concerning that what is happening in US but we are also of the opinion that Asian banks are in a better position. In fact, Indian banks have better tier-1 ratios and we are pretty much insulated from what is happening in US right now. However, one has to look at earlier or I would say that pre-COVID levels, there were little opportunities. People were just looking at private banks. Some of the PSU banks, smaller banks were extremely struggling. But over a period of time, we have seen that banking system has cleaned up their books so the opportunity is huge and we are spoilt for choice in the banking space. And hence, overall sector-wise if I look at the banking index, it is cheap. It is not very expensive. But still I do not think that the large banks, the top two-three banks, are going to command even higher valuation compared to this pre-COVID levels because there is a lot of opportunity available as some of the smaller, mid-tier banks have actually done really a good job in terms of curtailing their NPAs and risk management practices.
So overall, we remain overweight on the banking sector with a very good selection and diversified holdings. However, in the near term, we have cut our exposure in the PSU space. We have booked profit in PSUs and moved on with large private banks. As we think that liability franchise, the strength of the liability franchise is going to be key in the next one year or so. So, we are rotating our portfolios within the banking sector but overall we remain overweight in our portfolio context.
With fixed income, there is bit of guarantee and there is no volatility. Why should one go for equities and when the projected returns are not more than 50% higher than fixed income?
It is a matter of asset allocation and so if I have to look at next five years or so, then definitely equity will outperform the debt market. We think that the projected returns for Indian equities is actually going to be solid looking at the kind of nominal GDP growth for India which is going to accelerate. So, for example, we think that India is coming out to be a good wealth creating market, even if I look at since 2000, so I will give you an example that India’s let us say per capita income grew by almost six times, while China’s per capita income grew by 13 times. But India has outperformed China in the local as well as in the USD terms. So Indian market is actually a wealth creating market. So, you should not be perturbed by so much of this volatility because that is parts and parcels of equity investment. But if you are a long-term investor, definitely equity as an asset class will outperform bonds and I feel that this is what one should look at.
Secondly, India is in a sweet spot with respect to the GDP growth, with respect to the equity market, with respect to flows. For example, if we grow 10% in the next three years continuously, currently India’s economy is around rupees 270 lakh crore, and if we grow 10% in the next three years, we are going to add almost 100 lakh crore to India’s GDP which is one-third of what we added over the past 75 years of independence. So, we are in a sweet spot for sure and to play this, we need to be invested in a risky asset class such as equity investment and whenever the large correction comes and if you are an investor during that time, the overall return could be even higher than what you had mentioned recently, 10% to 11%.
But we think that there could be even better return opportunities if you invest during the time of the selloffs or time
of the kind of panic that we see generally. So, from a valuation perspective, it is extremely important when you enter in the equity market and definitely when the correction comes and if you are invested at that time, I think over the next three-five years there is a double-digit kind of return which is pretty attractive.
