The screen across is definitely red and we can debate about the factors that are in play for the Indian benchmark indices, maybe it is valuations, maybe it is slower earnings. But give us a sense that how much more pain is left in this sort of a market because though definitely the portfolios are red, but do not you believe that the sentiment now is also turning very pessimistic? So, what has been your reading across the board?
Jigar Mistry: It is that pendulum effect. The farther we took it from the equilibrium it will push back on the other side so that the equilibrium is eventually achieved. If you look at the earnings growth and the share price movement of the smallcap index at its peak, we saw that the earnings was growing at the same 16-17% CAGR over the past three years.But at its peak, the share prices were moving at a velocity of 25% CAGR per year, creating that 10% to 12% of alpha or excess build-out for three years in a row.
The reason why we think that was happening is because of the unprecedented wealth that was generated post COVID, especially by the retail investors. If I put some numbers to it, at the bottom of the market in COVID, March 2020, the total of retail ownership, and I am excluding mutual funds and life insurance, was around 16 lakh crores.
By September 24, that number had ballooned to a whopping 67 lakh crores. There is some amount of flow into it, but a large part of it was mark to market gains. So, there are 25 crore savers who are saving 14 lakh crores and there were two to three crore active Demat account holders who generated 50 lakh crores in wealth, predominantly from the small and microcap stocks.
And many of them started believing that this is the only way to generate wealth on a sustainable basis. So, money kept flowing into this illiquid smallcap stocks which resulted in the EPS and share price dislocating to a level that it had to fall under its own weight.
A large part of that is resolved. So, I was working up the numbers this morning and today, the overall number is only at a 10% cumulative share price is higher than your earnings growth.
So, unless earnings goes down materially, we have seen some part of the pain left. But as I said, if you have taken the pendulum to one extreme, then it is not fair to assume that it will stop when the equilibrium is reached. It may go on in the other side, which will then create opportunities for the next rally.
Help us understand what your portfolio construct is looking like right now, how have you positioned, made any changes, exited or entered into a sector, changed your stance, maybe gone overweight to underweight or the other way given the kind of market correction that we are seeing right now. What I can understand from your portfolio right now is you are very big on BFSI, that is something you like and FMCG is somewhere that you have slowed down your allocation a little bit. Would not that be surprising now that growth is coming back to FMCG? Help us understand what your portfolio construct is like at the moment.
Jigar Mistry: We think that there were two pivotal items in this budget, which we have not seen in the previous almost 10 budgets. One, there was a conspicuous move away from capex into consumption. The central government did it to the tune of one lakh crores.
But if you analyse the state budgets of the last 12 states that went into election before Delhi, we found that their capex bill was somewhere around 4.3 trillion INR, whereas their social spending/freebie budgets were 3.1 trillion INR.
So, given the increasing move of the states towards a lot of these freebies and the central also joining in, there was, as I said, the state-centre PSU CapEx was growing at around 30% per annum for the past three or four years and there is this conspicuous shift which we now need to take into account.
The second thing is that if you take the budget numbers for this time around and adjust for the fact that capital gain tax is not linear, they have assumed that capital gain tax, which is one, very large number, by my estimate, 2.5 lakh crores of the total 12.5 lakh crores tax collection at the central level.
Of that number, if you assume that capital gain tax, then underlying personal income tax is expected to grow at something like 35% as per budget documents, which we do not think will likely get delivered.
And both of this will result if you cannot really collect enough tax and you miss it by, say, 1.5 or 2 lakh crores, then that number has to either come from lower capital expenditure at the central level or higher disinvestment because they are maxed out on RBI dividends.
And in that scenario, obviously for capex, all the stocks which were going on a big narrative, capex, your railway, a lot of other solar, renewables, all those stocks need to correct even more from here for it to make sense.
On the other hand, consumption is a large basket and whatever money comes in, the velocity, the velocity will not be as high, but those businesses will not be discounting a lot and very clearly that is the reason why we had changed stance into consumption.
And banking is the sector that we have been overweight for almost a very long period of time. And the reason was that, we think investors are focusing on the fact that NIMs are slowing and deposits are hard to come by or the asset quality at the margin is deteriorating.
But a lot of people are not paying attention to the fact that what you are paying to buy these businesses is not overly expensive.
And, yes, the earnings is slowing down, maybe to, say, 15% from 25%, but the stocks are discounting on a reverse DCF something like 7-8% earnings growth and therefore, as a sector, the BFSI put together was almost 40% of our exposure by January.
And the third, in terms of market cap allocations, in around May 23, our exposure to small and midcaps was almost 63% if memory serves.
Today, smallcap exposure for us is close to 25%. So, we had over the past six or seven months started moving very aggressively into larger cap businesses. And today, larger caps plus cash account for majority of our portfolio.
Talk to us about the insurance space because what we see is that you have 10% of the allocation within this basket and just in the near term if I see some of the triggers, then the industry growth is not that exciting. There are some risks in terms of the functioning of these businesses with respect to threats on bank assurance. Give us your sense that in the long run how do you see the insurance story playing up? And as an investor, do you believe that it is still a good time to go ahead and add more of insurance plays?
Jigar Mistry: We do, in fact, because you are right that the open architecture threatens some businesses more than others. So, even within the broader challenges that present itself either via the sort of open architecture, banca versus select, etc, one needs to take into account the fact that you may have to get positioned in a business that is relatively less impacted on account of this.
There was some confusion in the Budget, but I think that was duly noted and taken cognisance of. At the end, the penetration of insurance in India can only potentially move up and that is the reason why we have increased the weights as the markets kept on correcting these stocks and we are reasonably positive on most of them.
