'Equities will continue to be rewarding' | Economic Times

The financial year 2021-22 is likely to witness strong economic growth and long-term investors who can ignore market movements would benefit, Ravi Menon, CEO, HSBC Global Asset Management, India tells ET Wealth.What is your assessment of the current market scenario and economic recovery?The dichotomy between market indices touching new highs and current GDP numbers can be baffling. But if one were to look at the forecasted GDP numbers, may be not so. The marketplace is forecasting rising earnings. Skeptics may say analyst’s early numbers are invariably moderated downwards. They are right. But in the current year, earnings have surprised on the upside. Let me quote Aswath Damodaran who said: “Markets are not a reflector but a predictor of economic activity”. The quick recovery in equity markets has led some to believe that the market ignored the crisis, but that is not true. An economist opined that large listed Indian companies have little or no operating leverage. At the first sign of crisis they were able to cut costs significantly and boost profitability. Increasing demand, rising liquidity, strong offshore flows and a weakening dollar have led to a very sharp increase in our markets. The pandemic has accelerated the theme of dominant companies becoming even bigger—given their advantages of scale, cost and balance sheet—which is getting rewarded in market cap. We reckon that 2021-22 will be a strong year for economic growth.Most valuation metrics suggest markets are highly overvalued. But are low interest rates, abundance of liquidity challenging conventional wisdom on valuations?While the equity markets are trading at higher than historical averages on conventional valuation metrics, strong global liquidity and a low cost of capital environment in India as well as globally, place equity as a relatively better asset class in the near to medium term. Low cost of capital is a driver on both supply and demand side for companies, while for investors a lower discount rate means a higher real rate of return from equities compared to other asset classes. If the cost of capital were to remain low for a sustained period of time, then the current multiples are sustainable and the equity returns would be in line with earnings growth.Interest rates are unlikely to move up. There has also been a lot of discussion on current one year forward PE levels compared to historic averages. On an absolute basis, it is no doubt trading higher than historic averages. There is no denying that and it is a cause to exercise some restraint. This restraint will be specific to individual risk appetite.What is the best way for investors to approach a runaway market like this?It will depend on their risk appetite and return expectations. For an investor who has saved for retirement and is approaching that stage, it would be prudent to book regular profits. For a long-term investor, market movements are of less significance as it is the compounding factor that drives returns in the long run. India’s growing middle class and expanding working age population is expected to drive the consumption demand and this is a multi-year story with long legs. India is one of the fastest growing large economies and its incremental contribution to world GDP would remain high. This would eventually reflect in the market cap parameters too. The ingredients are all in place – stable democracy, structural policy reforms and Indian equities are expected to continue to be a rewarding place for investors who are willing to stay invested.Will value get its time under the sun finally?Growth stocks do not work if there is no value in them and value stocks do not work if there is no growth in them. During the past decade or so, Indian equity markets have been rewarding growth, while value has taken a backseat. As we are a growing economy, investors are willing to pay a premium for growth. But value stocks which are part of a growing industry, regaining its mojo due to company specific factors, can still outperform. But we cannot generalise. It will be better to be selective while evaluating value stocks and we expect growth to outperform.How are you positioning equity funds for the next few years? Which sectors or themes are you betting on?Our investment philosophy is to invest in dominant scalable businesses, available at reasonable valuations. Over the past few years, we’ve witnessed the trend of profit pool consolidating with the dominant players in respective sectors/industries. We believe that will accelerate as the current disruption has a higher magnitude as well as it encompasses more sectors. The disruption will pave way for interesting themes. One is that of accelerated digital adoption by consumers as well as enterprises. We see telecom, internet economy, ecommerce, technology vendors, etc. benefitting from this disruption. Another long term theme is of diversification of the global supply chain due to ‘China + 1’ strategy which could be adopted by corporates as well as economies and India could benefit. We would position our portfolios to benefit out of these themes in the medium to long term. In the short to medium term, we would be focusing on earnings growth surprises.Is interest rate down-cycle on its last leg? What should one expect from debt funds?Interest rate moves in a cycle but we think terming it as on the last leg is a bit preemptive. While the central bank has done a lot in terms of supporting the market, the space for further action is perhaps constrained.While short-end funds tend to do well with respect to consistency and volatility, their ability to generate return in a falling interest rate regime is limited. Similarly, while long duration strategy tends to be higher in terms of volatility, their ability to generate capital gains is much higher when interest rate is moving down. The preference of allocation comes from individual’s risk and return appetite.The disruption will pave way for interesting themes. One is that of accelerated digital adoption by consumers as well as enterprises. We see telecom, internet economy, ecommerce, technology vendors, etc. benefitting from this disruption. Another long term theme is of diversification of the global supply chain due to ‘China + 1’ strategy which could be adopted by corporates as well as economies and India could benefit. We would position our portfolios to benefit out of these themes in the medium to long term. In the short to medium term, we would be focusing on earnings growth surprises. Is interest rate down-cycle on its last leg? What should one expect from debt funds?Interest rate moves in a cycle but we think terming it as on the last leg is a bit preemptive. While the central bank has done a lot in terms of supporting the market, the space for further action is perhaps constrained. While short-end funds tend to do well with respect to consistency and volatility, their ability to generate return in a falling interest rate regime is limited. Similarly, while long duration strategy tends to be higher in terms of volatility, their ability to generate capital gains is much higher when interest rate is moving down. The preference of allocation comes from individual’s risk and return appetite.