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Indian shares have continued to remain highly volatile in recent months and the key indices have come off from their peaks. Vetri Subramaniam (bottom, left), chief investment officer of Religare Invesco Mutual Fund, tells Chandan Kishore Kant, that their approach is to focus on companies with healthy balance sheets and return ratios. Excerpts:
How does one play the market, given the global risks like Greece or the US Federal Reserve interest rate increase?
Frankly, there is no way to factor these broad concerns into stock picking. Our approach emphasises buying quality companies, with healthy balance sheets and return ratios. We think this is the best way to navigate adverse macro situations. We want to invest in such companies that can weather adverse macros and enjoy the benefit of a cyclical uplift in the economy, as and when it happens.
If the US Fed or Greece or any other macro factor were to cause stress in the financial system, there would surely be a knock-down effect on our markets and valuations. By its nature, valuations tend to mean-revert and sentiment is a key component of what causes valuation changes.
What are the challenges for the market?
That it has moved much higher not only in price terms but in valuation, compared to where it was two years ago. During this period, earnings have witnessed very subdued growth. Our sense is that the markets are at a stage where they are digesting the gains of the past two to three years; the risk is that the valuations might mean-revert. This could happen either if prices pull back or don’t respond to earnings.
How long does need to wait for actual revival in corporate earnings?
The March quarter was extremely disappointing. We suspect there could be an improvement sequentially, as the fourth quarter (of 2014-15) was affected by a dramatic fiscal squeeze by the government. That effect will not only be absent but government spending might turn supportive this year.
The bigger question is whether the economy exhibits sufficient traction to achieve the 18 per cent earnings growth already being forecast. In our mind, that remains a very high bar, though there will be some sequential improvement.
Should investors scale back their return expectations?
The market has gained nearly 100 per cent from its lows in late 2011. Nevertheless, this rear-view mirror is of little use, as it was driven predominantly by price-earnings (P/E ratio) re-rating and earnings made a smaller contribution. Long-term equity returns in India have averaged about 15 per cent (annually) and matches longer-term earnings growth.
Investors should invest in the market with this threshold in mind. Further, given the current valuations and a still on-the-mend economy, they should keep a time horizon of five years or more.
Are corrections providing opportunities?
Valuations have corrected from the peak. However, the drop in P/E is less than the drop in prices. From the recent peak valuation premium of 30 per cent to the long-term average trailing P/E multiple for the Sensex, this has corrected to about 20 per cent after the recent market correction.
Obviously, the most attractive time to buy is when valuations are below average. For us, what is more important is whether we can find stocks that are reasonably valued and, compared to three months ago, we do find more relative value. However, very few stocks have dropped to what we would call absolutely cheap levels.
How much more downside should one be prepared for, say, till December?
Our focus is on picking stocks and not in trying to forecast market movement. Right now, the Sensex is above a P/E of 20 times on a trailing basis. The long-term average is 16.3 times. If the market were to correct more, we would hope to find more stocks at reasonable or even attractive valuations.
Are you turning stock-specific or there’s still room for sectoral plays?
Our emphasis is more on stock picking than on sector allocation. To the extent that we'd like to maintain a pro-cyclical bias in our funds, our preferred sectors are consumer discretionary and financials. Given the valuations and present macro conditions, we are underweight on stocks in the consumer staples and industrials sectors.
Do you see any opportunity of a contrarian call?
We are incrementally seeing opportunities in stocks that have been de-rated on account of concerns over a poor monsoon and weak rural spending trends. These are in the automobile and farm-related sectors.
