Saurabh Mukherjea stocks: What to do when EPS grows 25-30% but portfolio falls 15%? Saurabh Mukherjea answers

It has been a tough market for investors, traders and even for television commentators like us because there is hardly anything to comment on.
I think it has been a tough year for everybody. I have never seen both investors in India and investors in the Western world feel so subdued by the turn of events.

After Covid, there was widespread expectation that we would see a recovery but I guess the war that started a year ago put paid to some of that and the inflation that it engendered has led to these rate hikes. My reckoning though is that if we do get a US recession in the coming few months, which is what the expectation is now, given the credit tightening in America that we are seeing on the back of these bank collapses, we will also see it in Europe.

If we do get a recession in America in the coming few months, that generally will be the top of the rate hike cycle. It will be difficult for the Fed to expedite rate hikes if America is going into a recession and banks are blowing up every week.

Back home in India, we are fortunate that our economy is in good shape. I think we carry on having healthy corporate earnings. Across our portfolios, I am seeing around 25% EPS growth in the year that is going to end next week. 25% EPS growth and yet portfolios are down typically around 15%. So if you have that sort of disconnect where earnings are up 25% and share prices are down 15%, as an investor you really have to…

You were saying that there is a disconnect between where EPS is expected to grow by 25-30% but the portfolio is down 15%. What does one do?
I think you buy more when share prices of companies that have been consistently compounding earnings year after year, are not moving or are going down. You buy more. Just look at HDFC Bank. In the last three years or so, it has compounded at 22%, 23%. So the bank has more than doubled in the last three years in terms of size and yet the share price action is easily 3-4% per annum. We exist as equity investors to capitalize on situations like this.

Sometimes these sorts of situations happen in a flash. Three years ago, Covid happened in a flash. In a 90-day period, it opened up a window of opportunity for us to buy great franchises at attractive prices. The last 12 months have been a slow grind, but the opportunity is similar. We have got great franchises available at very attractive valuations and therefore we are trying our best to load up on that, rather than waiting for the Fed to say that tomorrow morning we will start cutting rates. As and when that happens, it will be great news. But long before that, we need to load up on great franchises.I distinctly remember we had a conversation in 2020 and you made a similar case that the US recession is great news for India. Crude will come down, interest rates will come down but while the recession is at play, it tends to impact global growth. It tends to impact exports. It tends to impact flows. In long term, commodity prices and interest rates come down and on the margin, it will benefit India. But by the time we reach recession, there will be collateral damage to IT, exports and flows. How does one deal with that?
We are in a very good place as a nation because of the damage that is taking place every week in the US-China relationship. Because of that damage, we are seeing very heavy reallocation of business. I spent the last couple of days travelling across Tamil Nadu, seeing the birth of the electronic manufacturing services industry.

My reckoning is decades hence, the electronic manufacturing services, making phones, medical equipment and electronic devices will be bigger than the IT services that industry is today. Much of this industry is in China. Our electronic manufacturing services industry is tiny, perhaps $5-6 billion. I reckon this will become hundreds of billions of dollars in size. So every week as the China-US relationship deteriorates, pharma manufacturing, API manufacturing, and now electronic manufacturing moves to India.

The reallocation of global trade away from China towards countries like Vietnam, India, will give us a real buffer. An US recession should spell the top of the rate cycle in America. Anyway with the bank blowups in America, the top of the rate cycle is all but assured and the combination of a US recession with rate cycle, rate hikes peaking, should also mean oil prices coming off.

I pointed out in 2020 that every single economic movement in India starts with the US recession because that brings down rates, brings down oil prices and a high energy entrepreneurial country like India, that is all you need to get moving with a solid economic movement.

Will your Consistent Compounder Portfolio benefit if there is a US recession and if rates are down because TCS, Asian Pains, Bajaj Finance, Divi’s – some of these businesses are not directly related with what will happen to the US recession?
There will probably be some impact on TCS earnings but as you rightly said, TCS’s main moats are on the supply side. TCS’s moats are not on the demand side. As long as TCS is strong on the recruitment side, say 150,000 odd new quality recruits at affordable wages, TCS should be all right.

Firms like Asian Paints have very little dependence on America. What typically tends to happen is when the US goes into recession, the rate cycle peaks, the FII flows, which have dwindled to almost nothing in the last 12 months pick up and these stocks are loved by the FIIs.

Typically in our country, the capital market cycle revs into high gear with the US recession because money starts flowing from the Western world to India. Historically, we had to compete with China for those dollars. I do not think this time we will be competing with China for those dollars and therefore, in the next couple of years, foreign investor participation in the Indian market could double or triple.

There is currently around 0.6 billion FII participation. I reckon that number could double or triple in the next couple of years, given that foreign investors have $3-3.5 trillion deployed in China and it has not made any money for them in the last 10 years or so.