Surjitt Singh Arora, Portfolio Manager - Portfolio Management Services, PGIM India Mutual Fund, talks about where he is finding value in the current market.
Given the kind of correction we are witnessing lately, in which pockets are you finding buying opportunities?
We are positive on Industrials, Building Materials and Chemical space. Incrementally, post the recent correction, Financials especially Banks are looking attractive and are coming into the value zone.
How are you protecting the downside/drawdown in the current market volatility?
We invest in structurally strong companies, that are termed as good quality companies. A good quality company is a company that has reached a minimum scale in terms of revenue, has gone through at least one downcycle and emerged as a stronger company, has consistency in cash flows, and higher return on capital employed over the last 10 years.
The second aspect has been to always own companies that are market leaders in a particular domain. We have over a period of time seen that market leaders generally tend to come back stronger with higher market share after the downturn as weaker players usually vanish in the downturn. While a good track record (Quality) of a company is a necessary condition, it is not sufficient to be included in the portfolio. We seek to satisfy ourselves with the following aspects before investing:
- The ability of the company to grow its sales and profits over the next 3-5 years.
- The ability of the company to do this without consistently resorting to additional external funding.
- The track record of the management in capital allocation, and in treating minority shareholders fairly.
Real estate stocks are also correcting with BSE Realty Index down 19% down YTD as Of May 24, 2022. Do you see rising interest rates and inflation hurting the demand for housing?
The Real Estate (RE) sector accounts for ~6-7% of India’s GDP and is the second-largest employment generator. Increased urbanization, nuclearization, and aspirations are likely to maintain the sector’s significance in India’s growth story. Average house prices have increased at a rate of 7.4% CAGR over 2009 to 2015 period; however, in the last 6 years i.e. 2015 to 2021, the price rise has been modest, increasing at a CAGR of only 3.2%.
This phenomenon coupled with increased salaries and lower interest rates has led to a revival in sales for developers. As a result of consolidation among Grade A developers, the Top 10 developers' share has gone up to 27% in CY21 from 22% in CY15. The decline in the number of developers has been 40-70% across micro-markets. Increased absorption leading to lower inventory levels – average inventory (no. of months) reduced from a peak of 40 months to 26-27 months.
Yes, interest rates are likely to inch up given the global trend as well as in India, the government borrowing program is higher than anticipated. This is sentimentally negative. Current demand is around 3.2 lakh units versus a supply of 2.4 lakh units (source: PropEquity.in). Despite interest rates inching up by 50-100bps, affordability is strong given the price increases and increase in salaries.
You seem to be participating in the real estate through builders. What about the ancillary themes like paint, cement, tiles, etc? Are you looking at them?
As highlighted above, we are positive on the building material space which includes paints, cement, plywood, pipes, etc. Yes, we have exposure to the indirect beneficiaries of the Real Estate sector in our PGIM India Core Equity Portfolio Approach and direct exposure to builders in our PGIM India Phoenix Portfolio Approach.
Power and Energy sector-related stocks have delivered outsized returns YTD and a 1-year trailing period as of May 24, 2022. What is your view on these companies?
General pick up in manufacturing activity is causing demand to be steady which was hitherto impacted by covid and subdued activity levels. This in turn is favouring the power sector.
Further, moderate capacity addition over the past few years (that too in the renewables space largely) is leading to improved utilisation and hence profitability of the existing assets. Lastly, many of the power stocks which were languishing at throwaway valuations, in spite of decent growth, healthy dividend yields and assured Return on Equity (ROE) profile, have seen normalcy come back to an extent as valuations are reverting to long term averages. We are positive about the space and have exposure to the Utilities sector in our PGIM India Core Equity Portfolio.
The IT Index is down 23% YTD as of May 24, 2022. Do you expect to see further correction in IT stocks?
Some of the key positives for the IT sector are:
- Strong demand environment and healthy growth in total contract value (TCV)
- Strong hiring and pyramid rationalization to help bring down salary costs over next couple of quarters
- Strong balance sheet and cash flows. Post the recent correction, valuations have become reasonable
Which sectors are you avoiding currently in the light of the multiple headwinds we are facing in the domestic as well as international space?
A few sectors we are avoiding at this point in time are Consumer Staples and Oil Marketing Companies. We prefer companies that are inward-oriented i.e., mainly domestic demand driven as against those who are predominantly dependent on exports, given the current global environment.
