Time To Look At 'Bottom-Up' Strategy, Says ICICI Prudential AMC's Anand Shah

Anand Shah: So I think it's complicated. It's a good news, which is not a good news in that sense. You know, good news is bad news, bad news is good news. So to that extent, yes, a rate cut to me gets pushed out. Maybe the quantum reduces but it's a strong economy. So that's the solace.

And to me, the genesis of this is that China, which was an exporter of deflation, which allowed everybody to print money and have growth without inflation, I think that's behind us. And to that extent, I think there's inflation which one will have to deal with and that would need a slowdown. It definitely will need some bit of slowdown in the US economy, engineered or otherwise.

Anand Shah: It's not happening yet and I think to that extent, even today, there is some bit of, you know, chatter that might be a need of another rate hike in the US rather than a rate cut. Again, these are all chatters that we are talking about. So you're right. I think, as the Fed always says, it will be data dependent.

The current data tells us that you know, it's not yet happening. But there are early signs and we'll have to see because the rates are going to eventually push back some bit of real estate and other stuff. We are seeing some bit of slowdown in the commercial real estate for sure. Residential is very strong. We are no experts here but we are watching that data closely.

Anand Shah: I think, it's not been the case in the last 3–4 years that people were not cautious. I have spoken to so many people and each one of us is confused why the markets are doing so well.

I think, the underlying factor of earnings growth rate is not really talked about as much. There is a stark difference between the Indian Inc., pre-2020 and post-2020. If you see for almost five years pre-2020, while the macro was okay, we were not really worried about what's happening on inflation or interest rates. Currencies were okay, growth was okay, but India Inc. was suffering. You had practically no earnings growth rate for five years and that's not happened for a long time.

In the last four years, while it's all marred with various macroeconomic issues, be it Covid, be it Russia, Ukraine, leading to inflation, dollar strengthening, and more recently Middle East, I think the earnings growth has been very, very strong. That's why I was saying that the last four years have been really bottom up and there has been a very clear stark difference between the sectors which performed pre-2020 and post-2020 and that's the way forward.

Anand Shah: I would rather look at it that way that there are segments of the market which get impacted by what happened in China, particularly, and the US. These are the two large economies and we need to be cognisant of that. So while metals, we are not a very large exporters of metals, and to that extent, that doesn't make a difference, but the prices are impacted and to that extent, one needs to be cognisant of what's happening there. But you're right, the domestic will be the big driver. zBut also when you're looking at exports growth, we are also looking at import substitution, in many areas.

Look, the entire story of pre-2020 and post-2020 difference is that China was an exporter of deflation. For almost a decade, anything and everything you needed would come from China—cheap. That’s changing, not in 2020, but it was changing for a while. And that is what has been the driver of profits also, especially in manufacturing, manufacturing allied businesses and corporate banks. State-owned banks and erstwhile corporate banks, they all have been driving the profits.

The consumer-facing businesses were doing well prior to 2020. They are still doing okay. They're not doing great but they're not bleeding. And to that extent, overall, a large part of India Inc. is better off post-2020 than pre-2020.

Anand Shah: The global flows, as you rightly said, would be the function of US interest rates and that's further pushed out if you ask me.

The domestic flows, I would divide into two parts. One is the large SIP money. Now this is very, very soothing. These are the set of investors who have not come for the short term. They have made up their mind that they don't want to make a sudden entry into the markets. You want to believe that SIP investors are coming in for the long term. They're taking baby steps, they're not in a hurry and to that extent, that's, to me personally very, very soothing, sustainable, long-term commitment to the Indian equity markets at the bottom end of the pyramid.

The other set of money which is lump sum, which is HNI money, which would move with the sentiments, to me, it's been more or less neutral. I don't think we would have had, at least from the AMC point of view, from the mutual fund industry point of view, I think the big driver has been SIP. If you look at the net collections, net of SIP, it's not been consistent and great as such.

Anand Shah: So again, as I was saying, in the last four years, there has never been somebody who would not be confused with the market. In the backdrop of what's happening in the economy, the market has been doing fairly well and to that extent, people are sceptical, and rightly so.

Many of us would also question pockets of the market, which are frothy. So, to that extent, there is as you rightly said, money available when the market dips. I think that's been a consistent factor.

You have a large set of investors, who would have liquidity but they're sitting on the fence and saying look, markets are too frothy and I would rather wait for markets to correct. So that is one set of money which is still lying.

There is the other set of money. Along with SIPs, people are also doing systematic deployment of capital as and when there are flattish market correction markets, so on and so forth.

Anand Shah: I think, the businesses are great. They've been generating lots of free cashflow and not today, but for the last many years. Incrementally, they are also distributing that sort of profits back to the investors.

The challenge is growth and that challenge came about because the valuations at which they're trading today, they need growth. I think that's what has changed.

You know, you had a very fabulous two years when the world was in lockdown or in social distancing and to that extent, corporates had extra money to spend on IT. I think, that's pulling back.

So to that extent, the investors will have to realign or get adjusted to the new growth rates, which will be much lower than what we saw in those two years, and that's the adjustment which I think the sector is going through for the last 18-odd months, I think maybe another 12 months, but that's the adjustment we are looking for. That valuations have to be more in alignment with what growth the sector can do.

Anand Shah: I think as you rightly said, we are still confused. What's the new growth for the sector, given that the US economy is still very strong. I can't say that, look, we have already reached the bottom. So I think, if there's going to be a requirement of a more slowdown, lower inflation in the US, then I think, we need to see much more slow down before we see the uptick.

Anand Shah: I think, the key is inflation. I think, we've been overweight manufacturing and in the businesses which sort of support manufacturing growth because as I was saying, the key difference between the two eras of pre-2020 and post-2020 is that the world will need to manufacture more outside China.

China would not be the factory for the world or would not be allowed, let me put it this way, because each government also wants to protect whatever manufacturing is left and also develop new manufacturing.

So I think, that's one area where we've been focused on for the last three years. Valuations were very attractive at that point of time, given that almost for a decade that was a sector which was struggling. They have deleveraged, the balance sheets are improving.

I think, both banks and India Inc are ready to do the next round of growth, next round of capex, given that they have deleveraged and banks have also been sitting on a very fabulous asset quality as we speak today. So I think that's one area.

We believe in both infrastructure and the private sector corporate capex, I think, both should be a good medium to long-term story as we speak, given that the capacity to realisations are reaching a point, and the China Plus One strategy can lead to select export opportunities also. I'm not saying across the board, but in select areas where we are actually good. We are globally competitive, we can do manufacturing export also.

Anand Shah: Capital goods, power. Power is a very big, I would say lubricant for the economy in general. If the manufacturing were to pick up —today, we are talking of the growth in electricity demand even in the US—so it is obvious that India would see much more. So I think the entire power value chain needs to be prepared to do the capex as the industry takes off as manufacturing takes on in this country.

Anand Shah: There's no denying that after a long time we've reached the point where now we are worrying about power deficit, plus there is a change in the structure. So if you have more solar power, we have ample power during the day, but then you have pockets for a couple of hours in a day when we will be deficit. So those need a lot of investment in grids also, a lot of investment for round-the-clock renewable. So there are various opportunities across the board.

I think, we are going very bottom up. To be very honest, there are opportunities across the board. At the same time, as you rightly said, it's not a theme which is now undiscovered. It was a theme undiscovered 24-36 months back, when actually nobody was looking at it.

But I think, we have reached a point where India will need to do capex for power. The deficit is for real. We are also talking of which was shunned which is a thermal-based power plant. So that's something which is coming back on the drawing board—that, look while we will invest in renewables, we will also need to invest in thermal.

So I think, it's more bottom-up power generation, TND, everywhere we are seeing investments happening.

Anand Shah: I think, when you're looking at manufacturing, you are still looking at the new age manufacturing, you are looking at electronics, you are looking at some bit of solar and modules.

Yes, that is there. The high-tech manufacturing, the EV manufacturing is something which is of course, we will have to get it right and (if) we are given a lot of PLI support.

I think, the low-hanging fruit is the old economy manufacturing, which you already know. I think, that is the one area of manufacturing where China's labour is getting expensive, their pollution costs are going up. They will be letting go of many of these old economy manufacturing and that's where we find value even today.

So, be it commodities, chemicals, metals, textiles, these are the areas where it's not that it's new to us. We know that and we can actually scale up very rapidly, whereas the areas in electronics and all that will need a learning curve. That's also great.

But across the value chain of manufacturing, we believe the low-hanging fruit is more in the old economy manufacturing.

Anand Shah: Yes and to be very honest, they've not done a great. Even in the last few years, it's not that metals have been a blowout performer or something like that.

So there's always scepticism that China can always come back with the capacity and always can dump. I think, that's something which will take time for people, because people have scars of the yesteryears. Every time you do a little well, and then China will dump a lot of those stuff.

Anand Shah: That is what I'm saying. I'm seeing a structural change not only in India, not only the government would want to protect this manufacturing, but even in China as they become more prosperous, their ability to manufacture this and dump it in the rest of the world and their willingness, both are in question.