No mad scramble of people trying to invest in India; everybody waiting for a correction: Pratik Gupta

“Historically India has always traded at a premium but that premium range has been usually around 40% to 60%. Now we have gone 100% and while global investors agree with the long-term positive view on India, we do not see a mad scramble of people trying to invest in India aggressively at this point in time. Almost everybody seems to be waiting for a correction,” says Pratik Gupta, CEO & Co-Head, Institutional Equities, Kotak Securities

The India resilience really has outshone but at some point do you think we are going to align with our global peers or do you think this outperformance is here to stay?
We have done extremely well and have come out of Covid as an economy doing much better than most other emerging market economies. Our currency and market have all done extremely well and that shows the resilience of both the economy as well as the market. This is partly supported by very strong domestic flows but going forward, that same thing may actually work against us at a time when, if at all for whatever reason, there is a global risk on rally.

For example, if there is any peaceful resolution of or some peace talks between Russia and Ukraine, some initiatives are under way over there or conversely if China starts reopening their economy – although it does not seem imminent right now. Global investors have lost so much money in China and they are so underweight China, that the Chinese market is now significantly cheaper than India. The valuation gap has increased quite dramatically and we run the risk of money flowing out of India in case of a risk-on rally. India has done well in a risk-off environment.

That is the risk but structurally we remain quite positive on India from a longer-term perspective given that our macro is still in a reasonably decent shape. Current account deficit is high but is manageable, inflation is higher than what the RBI target is but it is trending down and we do not think the RBI will need to hike rates as much as what the western central banks are having to do and growth is still reasonably robust at 6% odd.

Also earnings growth is still in the double digits, we expect earnings growth of about 11-12% this year and next year it should pick up to about 16-17% but as you pointed out, our valuations are getting on the pricier side. We are trading at 19 times FY24 earnings on the Nifty, 17 times on FY25 and I think more importantly as I said that relative to other emerging markets globally our valuations have really shot up, the MSCI India for example is now trading at a 100% premium to the overall broader MSCI EM index.

Historically India has always traded at a premium but that premium range has been usually around 40% to 60%. Now we have gone 100% and while global investors agree with the long-term positive view on India, we do not see a mad scramble of people trying to invest in India aggressively at this point in time. Almost everybody seems to be waiting for a correction.

Do we need to look at the cheaper banks, the smaller PSBs? Are they the ones which are going to generate a higher alpha as opposed to the likes of an ICICI Bank or SBI?
Yes we think so. For the last few months, we have been advising investors to go down the market cap and the quality curve. Some banks are still in trouble. They have not cleaned up their books as yet and for some of them, it will take another couple of quarters but it is worth definitely going down the quality curve and the market cap curve and taking on a bit more risk.

The banking sector in our view is in a sort of sweet spot wherein the worst of the credit costs are behind us. Credit cost should be coming down. Loan growth is accelerating and rates are going up and so the loan pricing moves up faster than the deposit rate increases. Therefore, NIMs are stable to expanding in some cases. In some cases, they are beginning to come off. But by and large, it is a good environment for banks.

Therefore the larger private sector banks have already rallied. They are already trading at 2.5-3 times price to book but there are a lot of cheaper banks which are in the smaller PSU banks other than SBI which are still at 0.6-0.7 times price to book as well as some of the mid-tier banks, private banks which are at 1.2 to 1.5 times price to book.

We could see a little bit of a re-rating happening over there but eventually at some point, in the next one or two quarters, as the valuation gap closes, investors will need to be nimble enough to move back into the private banks which will once again lead the rally. But for now, it makes sense to go down the quality curve a bit.

The Street seems very divided when it comes to the auto sector saying that the EV story will still take time to play out and others are saying that it seems to be quite an expensive proposition in India and perhaps might not be able to play catch up with some of the global peers. How are you looking at the supply chain constraints and the chip constraints for some of the auto players and the EV story playing out?
The EV story is more likely to impact the two-wheeler space first and that is where we are still worried about the structural changes in the industry over there and also the demand environment for two-wheelers as we have seen in the monthly numbers coming out is still quite weak. We still have not gone back to the pre-Covid levels in terms of on a CAGR basis and also in terms of the overall industry levels.

So, two-wheelers are where we are still a bit cautious. We instead prefer some of the commercial vehicle players where the EV risk is a bit lower. On passenger vehicles, frankly there is just one or two companies and one of them, Tata Motors for example, is not really a pure EV play which is listed. They have EVs but they also have a lot of other things, commercial vehicles and the global JRL business which is very different and exposed to other factors other than EVs. It has risks of a global slowdown in the US, Europe and perhaps even China. That is why the auto space right now is a bit tricky and valuations are not necessarily cheap. We still see the risk of more earnings downgrades and so we are a bit cautious.

The only thing I would say is within autos, the OEMs still look relatively better versus the auto ancillaries. Most of the auto ancillaries are export plays and in an environment where either you have the EV risk or where the auto ancillary is supplying to the non-EV OEM players. There is risk of scaling up in the future or if they are supplying to the US and Europe in particular where there is a very high risk of a slowdown. Earnings are cuts likely for FY24 and perhaps even FY25. The OEMs look relatively better but within the OEM space, we prefer the CV players vis-a-vis the two-wheelers.