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'Stock valuations may not go up'

By Samie Modak
April 05, 2021 10:10 IST
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'It won't help being complacent about the momentum and valuations of equities that currently exist.'

Kindly note the image has only been posted for representational purposes. Photograph: Kind courtesy Gino Crescoli/Pixabay
 

Liquidity also has its cycles and there could be reversal in foreign flows if bond yields continue to rise, warns Kenneth Andrade, founder and chief investment officer, Old Bridge Capital Management. In an interview with Samie Modak, Andrade spells out the challenges in playing the 'value' theme.

What are your views on valuations and corporate earnings?

Earnings growth is reverting to mean.

This is a good thing as it does provide a lot of cash flow to corporates to restructure their business operations.

So rather than looking at earnings growth we should look at how profitability improves financial health of the business.

This trend remains secularly upwards. And that is one of the reasons why markets trade at fair valuations.

Given the macro-onslaught of liquidity and abnormally-low interest rates, high valuation can be sticky.

That shouldn't be the reason to get complacent about them.

Do you believe there is scope for further expansion in valuations?

A lot of us believe that the stimulus is perpetual and this will continue to inflate asset prices.

We need to be a bit careful where to draw this line.

Earnings will come back, but that does not always mean stock valuations will go up.

One has to be cautious when it comes to extrapolating macros and the market.

The market has taken the Budget very positively. Among the Budget announcements, which ones could have a big influence on the market if implemented properly?

More than a single event, the reshaping of the global trade macros and India's response to it is providing large opportunities to a cyclical recovery.

Should the emphasis on manufacturing and protecting domestic corporate profitability sustain, this could be the large economic multiplier we have been looking for.

The 'value' trade has finally caught on.

After every economic shock, the trade mostly shifts to protection of capital, which is where the market has found the 'value' bias.

But for this trade to sustain, these companies also need to demonstrate growth.

What is your take on the rally in the PSU universe?

In conjunction with the above, growth needs to kick in for value to emerge.

For us as investors, we have a difficult time trying to ascertain capital-efficient growth in most of these PSUs.

Do you think there are hidden opportunities available in the smallcap space?
Can you share some insights about going about investing in this space where there is little research available?

In an environment driven by passive flows, the momentum is usually in the most liquid part of the market.

There are opportunities in the smallest part of the market.

However, given the structure of the money chasing equity, we can't expect divergent valuations between the large and the small companies to converge.

One needs to try and pick the opportunity in smaller spaces and be very patient with these investments.

It will be ideal to run a very balanced portfolio.

If FPIs pull out for any reason such as rising bond yields, do you think Indian markets will get de-rated?

I don't think you can time this.

Liquidity also has its cycles. Flows could reverse if bond yields continue to rise.

Like I said, it won't help being complacent about the momentum and valuations of equities that currently exist.

Cyclical stocks metal, energy, cement stocks too have done quite well.
Do you think the rally is justified?
Is there further scope for valuation expansion?

The world is seeing a cyclical recovery in a number of industries.

The automotive market needs to be reformatted to work on electricity.

The energy industry is decarbonising, which in itself is a massive investment cycle.

All this and many more categories are undergoing changes that we haven't seen in decades.

This is going to put pressure on the supply side of all the building blocks of the sector.

On the other hand, for the last decade, there has been negligible investment in the commodity cycle which has kept supply in check.

In the medium to long run, the fundamentals stack up for these businesses.

I would keep a close eye on valuation for assessing my entry points into this trade.

Any other sectors you are bullish on?

The tech sector does look compelling if they stick to their guidance.

The digitisation could trigger large capex cycles which would favour large IT services companies.

Apart from this the obvious choice would be businesses that will benefit from the cyclical recovery in exports.

Companies that are now competing with the rest of the world.

What's your view on the banking space?

I don't think you can be very bullish about this space as a whole.

You need to be selective. A couple of companies will do well, as it is an industry where stronger participants are consolidating their franchisee.

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