SEBI Is Hinting At Being Cautious, But There Are Some Good Businesses, Says Nimesh Chandan
Chandan wants people looking into the small and mid-cap space to be a "little extra cautious, considering the overall valuation".
SEBI is hinting at being cautious when it comes to investing in companies in the small- and mid-cap segments, according to Bajaj Finserv Asset's Nimesh Chandan. However, there are some good businesses for investment in that space, he said.
He was speaking about the recent advice given by the Securities and Exchange Board of India to SMID mutual fund investors about moderating inflows into small and mid-cap schemes.
"A lot of experts have been talking about it, and I think SEBI also wants to just give hint to people to be cautious here. It's not that there are no good businesses in small caps or that they are no companies worth investing, but you have to be cautious about liquidity and volatility in that space. I think that is the main message," Chandan, chief investment officer of Bajaj Finserv Asset, told NDTV Profit.
He asks people looking into the small and mid-cap space to be a "little extra cautious considering the overall valuation".
While one has to be cautious, he still sees good businesses that can be picked from this space. With our macro and corporate earnings doing well, he sees Indian markets in good shape with wealth to be created. When people have high expectations from any sector and there is a minor dip, then these stocks collapse quickly as they move away, Chandan said. This is because people are looking at making money in the short term, he said.
When it comes to the banking sector, asset quality is good across the sector, he said. However, there is some extra pressure on the net interest margins as the deposit rates have gone up. But according to him, these are short-term impacts. In the longer term, he said investors can take the opportunity and pick up some good companies with good valuations.
Talking about Reliance and Disney's agreement, Chandan said, "Obviously, the merger ... is mega, like two large platforms coming together, and it will definitely have an impact on the other players in the industry quite significantly."
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Edited Excerpts From The Interview:
While SEBI has sounded off a cautionary tone, it's not the first time that experts have spoken about it. It is just that when SEBI comes in and uses the term froth, it makes people stand up and take notice.
Are you concerned with the overall valuations in the space, or it may not matter as much because, the overall valuations may stay elevated, but there will always be pockets where in smart investors can find good growth stories?
Nimesh Chandan: I think, for a couple of months now, or may be a little more, fund managers, CIOs have been coming on television and talking about that when a certain category gets into very high expectations and over valuations, you need to be a little cautious when picking companies or themes from that side of the market.
Small caps also have been in discussion in that same lens—that they have rallied significantly in the last year. And now, when you're looking at businesses in the space and investing in the space, you have to be a little extra cautious considering the overall valuation, not that you would not invest in a small cap.
For example at Bajaj FinServ AMC, when a good business comes as an idea for us, we don't immediately cut it off because it's a small cap. But obviously, we look at it a little more cautiously as to what valuations the company had and what is it trading at today and what kind of expectations have already been built in by the crowd. And ultimately investment is about understanding the difference between what you think is the intrinsic value of a company and what market prices have already built in terms of expectations. A lot of experts have been talking about it and I think SEBI also wants to just hint to people that just be cautious here. It's not that there are no good businesses in small caps or not companies worth investing, but just that you have to be cautious about liquidity, volatility in this segment. And I think, that is the main message.
A clutch of sectors, a clutch of newer avenues that have opened up in India—the PLI beneficiaries, sectors like chemicals, etc.—just don't have a large cap presence. May be one or two, but some of the high growth companies, potentially longer gestation companies of growth are currently mid caps or small caps because, by definition, in small caps and mid caps, the average market cap has also gone up or by performance.
My point is that it's good to be cautious in this space because the stocks have gone through the roof, in multiple areas. But it still remains possibly the best hunting ground for longer term growth stories. Isn't it?
Nimesh Chandan: You are absolutely right about that. There are, I think, very good businesses here to really pick from.
See, overall, we are in a very beautiful situation in the country. Our macros are doing very well, much better than I have seen in my career compared to some of our peer countries, where we were generally compared to. Our corporate earnings are extremely good. It's doing very well. It's well-diversified. So the earnings pool that contributes to the growth in the overall Nifty or other indices, that pool is very well-diversified. So India is a beautiful market for stock-pickers to really build a good portfolio. And we are bullish over a longer term about all the categories—large, mid, or small. There is wealth to be created.
But often what happens is that when markets get excited, they discount multiple years of growth in a particular business, or in a particular category, or say a theme and they give the value for it today. What happens is, even if those growth prospects, the potential translates into reality, if we have already factored that in, in our current estimates and in the current price, then the price doesn't see that change. And life is lived in cycles, but people like to project it in an Excel sheet in a straight line.
Whenever there is even a small downturn, in those areas where people have high expectations, then the stocks collapse very quickly. See, the intrinsic value or fundamental value, however vague a concept it is, it acts as a magnet to the price. Many times people move ahead of pricing some opportunity, very high, very soon. Then, it has to be corrected. Sometimes people get depressed. Like in some of the areas mentioned in the PLI, for example, look at the chemicals sector. For the last three years, it has been an underperformer. So now, when the business has actually come out from the slowdown or downturn that they went in, we'll see the re-rating also coming in when the numbers come back. On the longer term basis, ultimately stock prices follow the earnings growth or the profit growth in a company and the sector.
Are you constructive on markets currently, or would you believe that if you were to play tactically, if your mandate allowed you to play tactically, would you sit on a larger pool of cash?
Nimesh Chandan: I'll do better than that for you. We launched a Balanced Advantage Fund, which uses fundamental and behavioural indicators. I will just split the view from there.
On a fundamental basis, we are at the intrinsic value, very close to the intrinsic value of the Nifty. We calculate a number of parameters and we come to this. And we've done some back testing and we calculate this intrinsic value, which has historically been like a regression line around the Nifty. We are okay with it. This is the steady state of the pendulum. This is the intrinsic value. Now, the market doesn't stay at intrinsic value. It moves around that intrinsic value based on the sentiment, or behavior, or the expectations, or the participation bias of the crowd. Now, there is a behavioural indicator that we have created which tells us that. Now, that indicator is still bullish. We look at four different markets and 16 different parameters to look at it, but that indicator is still bullish right now. So markets are at fair value but can trend higher in the near term. So as you said, tactically, they can trend higher because of the bullish sentiment. There is no letdown in terms of that.
For 2023, one can argue that among sectors which did well, banks as a fundamental performance didn't have a bad year. May be because of supply or whatever, the larger poster boys have consistently seen a pullback, whereas may be there are some idiosyncratic midsize, small size banks which have done okay.
Do you envisage a situation, wherein 2024 could be a year in which banks could do well, despite may be potential NIM (net interest margin) compression, but because supply-side issues ease, may be the stocks do well, relative to what they did in 2023?
Nimesh Chandan: Let me first come to the market perspective and then to the outlook from our side, especially on the banking sector.
There are two things that impact the stock price movement in the near term. So, typically, you will see the crowd always looks forward. We don't look at historical numbers and then look at the stock prices moving. The market looks forward as to what is expected in the future and then tries to discount that into the prices.
The second part or characteristics of the crowd is that when we are in a bull market, when markets are moving up rapidly, people want to reduce their investment horizon. They shorten their investment horizon. So they look at very near-term data—month or a quarter. Now, if you combine these two characteristics, people are looking forward but they are looking at very short term. Any sector or stocks, where there is near-term trouble, people don't want to invest in it. People try to ignore it saying, okay, I would make quicker money somewhere else and they start moving there. And that leads to these valuations getting depressed in companies that have shown some historical good numbers, but are looking at some short-term issues, may be a quarter or two in the future. I think that's what has happened with the banking sector.
We look at the banking sector now, coming to a fundamental view on three different aspects. You look at asset quality, you look at their net interest margins and you look at the credit growth. Their asset quality is good. Across the banking sector, I think, we are swimming in the best of times in terms of asset quality. In terms of net interest margin, there is some pressure expected as deposit rates start going up. So there could be some near-term pressure in the margins of some of the banks. And the third is credit growth. I think, if India is doing capex and consumption is expected to do well in India, even credit growth will be healthy. May be again, for the near term, between net interest margins and credit growth, some companies may choose margins more than growth. That can lead to some changes in numbers in the near term. I think this is the reason why banking sector, despite giving good numbers last year, has in the near term underperformed. Especially, some of the private banks are seeing a little more pressure on that in terms of deposit growth. But these are short-term issues. In the longer term, the banking sector is an extremely large part of the economy, very important for various indices and for businesses. So I think for a long-term investor, who can look beyond these short-term issues and take the opportunities of picking up some of these companies at good balance sheets.
Now, before we get back to this conversation, let's talk about a big merger story from Dalal Street. Reliance and Disney signed a binding agreement to form a 70,000 crore joint venture. Reliance has started off on a positive note but the other allied entities haven't and may be this entity impacts some of the other media businesses in the country too.
It is a space that has largely not created wealth for a number of years now. Is the space consolidating? Is that good for broadcasters or does something like this—a behemoth getting created—create issues for some of the others, particularly in the GEC space?
Nimesh Chandan: Without commenting on a specific company, I would say a consolidation is the way forward here actually. And this is where we had so many companies coming out with OTT platforms and I'm sure, like many have certain pockets of niches where they are really strong. Obviously, the merger that you were talking about is mega, like two large platforms coming together. And it will definitely have an impact on the other players in the industry, quite significantly.
Would you be constructive on media at large, or would something like this kind of make you stand up and say, let's see how things play out? We can take a call later on.
Nimesh Chandan: We have very little exposure to the media space. We have a few conglomerates only. We don't have much direct exposure in the media space. We have better opportunities or growth stories right now in the other sectors. And this sector, we will watch for some time before taking a decision.
Where are these opportunities now? What is the first among equals to your mind?
Nimesh Chandan: Anything that is right now visible on the table like you know, where you can calculate earnings and come to a P/E ratio, everything seems to be now fairly valued or discovered.
You can play a compounding story from here in some of these companies. But if you really want to pick up really high compounders or high growth in the wealth creation, one has to look at the market with a contrarian streak or look at companies which are going through some short-term trouble, businesses which are going through some short-term downtown, where the crowd has either overreacted to a negative that has come, or not reacted to some turnarounds or some positives that are happening. If you go fishing right now, you may find more fish and less water. So your chances of a hit rate are better in those companies or the sectors that have underperformed for the last three or four years. I find a lot of companies, which used to be among the companies, which used to be quality at any price, somewhere in 2018 or so. And now, for the last five years, six years they have not performed. Their earnings have grown and their intrinsic values have gone up. But the stock prices of these companies have not, because they have not been exciting stocks or exciting themes to be in. Several of them are in the consumption space, where one can find very good opportunities to pick. Some of these companies are across market cap categories. And private banks, we spoke about, is one such category.
Let's start with consumption. The overarching view for all of 2023 was that consumption is this K-shaped pocket, wherein the upper crust of the K—premiumisation—is doing very well and the lower end isn't doing well. The volume growth isn't coming, the pricing power is not there. There is a local competition, which is eating into pan-India players. Is that changing or is that the consumption you're referring to?
Nimesh Chandan: For now, it is not changing much. So this K-shape continues, even till the last quarter numbers that we see. We've seen a more premium and higher end consumption doing very well and lower end not so much. Some reflection of that can be that rural has not done much and urban has done a little better. You will find areas like travel and tourism, hotels have done better than the FMCG counterparts. Within cars, you see SUVs doing very well rather than very low-end cars. So that K-shape frankly continues till now.
But there are green shoots of a bottoming out—pickup in the rural side, pickup in some of these other areas also. So we are actually looking very closely, keeping our finger on the pulse of the economy, to see if there are any changes happening on that side because that's where the market is quite pessimistic about. The market is not looking at any immediate trigger. So those are areas we look for, whether the valuations of these companies are attractive, whether the business can go back to growth… We just finished analysing the festive season. But frankly, again in two quarters, we'll be talking about the next festive season, the next monsoon season. You can't say that because the last one had a certain X or percentage of growth, the next one will also have the same. So we can see some pickup there. We are seeing some green shoots coming in, in the rural side. So consumption is an area where we are looking for a pickup.
In terms of chemicals, a lot of them saw some pricing pressure and volumes being under pressure because of inventory buildup. Now it's a lot of space. Though we have to look at it company by company, but generally, I can risk one generalization—that there is an improvement across some of these chemical prices and volumes also, may be a little bit of improvement bottoming out kind of going through. But again, when you look at 2-3 quarters down the line or two years, three years down the line, these are the companies which are beneficiaries of PLI, beneficiaries of China Plus One, beneficiaries of global sourcing. So, I think there's an opportunity there.
Again a small sector I'll add to this. See, real estate has just started doing well last year and possibly it continues for the next three years. And when real estate grows, it affects so many different sectors positively. Whether you look at cement and steel, tiles, some of these building materials that come in like wires, cables, consumer goods. So those will also start seeing an improvement.
Right now, the market is not factoring in much from there. But that's where the opportunity lies. If you can pick up brands at reasonable valuations, they can be your compounders.
Do pharmaceuticals fit the bill as well, as an underperforming sector starting to show some turnaround?
Nimesh Chandan: Absolutely. I think the pharma sector has some similar long way to go. Some part of the rally has happened. I would say that the U.S. generics side of the business has good discounting. I think people are now relooking at some of the domestic stories, especially the MNC pharma side.
We are very much interested in the contract research and manufacturing side. As we are expecting interest rates to go down, global funding for some of these small biotech companies or pharma companies is expected to go up. And India is a fantastic partner in contract research and manufacturing to many of these companies. So there is a lot of interest for them. So we have looked at the smaller pharma companies which are involved in contract research and manufacturing and have capabilities to take from kilo lab to tons. And those can be the dark horses, or those can be the areas where pharma can do well.
