Stocks: 'Returns will be much more modest'

'Valuations were depressed at 8,000 (Nifty 50 index) levels. It was a free ride to 12,000 levels.'
'What went down had to come up. Now fundamentals have to support further gains.'

Legendary investor Phillip Fisher once said: 'It seems logical that before even thinking of buying any common stock, the first step is to see how money has been most successfully made in the past.'

Motilal Oswal Financial Services has been conducting wealth creation studies for a quarter-century to see how money was made in the Indian stock markets.

On the occasion of the 25th edition of the report, Motilal Oswal Chairman Raamdeo Agrawal tells Vishal Chhabria and Sachin P Mampatta, "If you ask me to bet a very disproportionate amount in one sector, it is going to be private insurance."

Wealth creation studies have been going on for a long time. What would you say is the message from looking at the past?

The market keeps changing with time.

There were thousands of companies in 1995. Only 100 companies have beaten the index as of the date of the report.

There is so much of mediocrity. Many have survived. But only a few have created wealth. And the threshold is a return of around 9 per cent, based on the index level at the end of March between 1995 and 2020. It has been very polarised. The process of evolution is constant.

What are the common qualitative characteristics among the winners?

There are three parameters -- the quality of business as reflected by the return on equity, growth in earnings, and longevity reflected through consistency.

The market gives you a higher multiple when the consistency of the management is very good.

A lot of initial public offerings are doing well. Liquidity is a factor; some are saying there is already froth. What's your take on it?

Of course, liquidity is a factor. Very clearly, people are speculating more to make a quick buck. They don't bother about how it is made.

In the sense that they ride the momentum regardless of the underlying risk and valuation.

You can see some bizarre phenomenon like oversubscription of around a hundred times or two hundred times.

For a Rs 1,000 crore equity issue, if you can get Rs 1 trillion in application money, it clearly indicates that there is too much liquidity looking for a quick buck.

Do you see similar froth elsewhere -- for example, mid-caps -- given the recent rise?

I see more froth in IPOs. There's not as much distortion in the secondary market.

How do you see things in the broader market given earnings haven't caught up to valuations yet?

Globally, the yield has collapsed to 1 per cent. The only worthwhile asset class is equity. You can't deploy in gold, you can't deploy in bonds. At 1 per cent, what do you get? It is like you are sitting on cash.

So technically, some people are saying that in the US, which is trading at 25-27 price/earnings (P/E) multiple, it can go to as high as 40-50.

That kind of wild talk is happening. I'm not saying that. One of the arguments is that one can say bond P/E is 100, given that 10-year yield is 1 per cent, so higher P/E multiples may be justified for stocks.

What are your thoughts on the issue?

A risk I see is inflation. Commodity prices recently have been zooming, so inflation can be knocking at the door and that can spoil the party.

If inflation spikes and they (central banks) start tightening, then bond yields can begin to spike. It can go up to 2 per cent or 3 per cent.

How much time does it take for bond yields to spike? It's an open market. If it goes to 4 per cent, where is the attractiveness of equity?

Which are the segments seeing future wealth creation?

One sector which is not part of the study because it is more recent is the insurance industry. We have talked about it in the report. You will see very large winners.

If you ask me to bet a very disproportionate amount in one sector, it is going to be private insurance.

The second place where I see growth is Internet businesses. Only a few of them are listed here, but some will become very large.

What kind of returns from the market can we expect in the near term?

Returns will be much more modest from here. Valuations were depressed at 8,000 (Nifty 50 index) levels. It was a free ride to 12,000 levels. What went down had to come up. Now fundamentals have to support further gains.

Which are the sectors you expect to do well in 2021?

Growth-oriented consumer stocks should do well. And then, I think, recovery stocks will do well.

Now as COVID-19 is subsiding, I think all the companies affected by the pandemic should be back in action by the end of 2021.

Which are the ones you expect will outperform?

Aviation, construction, real estate, and tourism. All construction materials and automotive stocks.

The government wants to build on this initial recovery, but is constrained by the current year's Budget, which has been spoilt by the first quarter's debacle.

But next year will open on a high note. And hopefully, it will not have an unusual handicap like COVID-19.

What is your view on public sector stocks?

The government has become far more proactive on divestment.

People are looking with hope towards the process and the bids that may come in for some of the companies.

Anyway, they are beaten out of shape. Things can't turn worse for them.

 

Feature Presentation: Rajesh Alva/Rediff.com