Prashant Jain on PSU stocks

By Morningstar |  21-12-21 | 
 

Prashant Jain is the Executive Director and Chief Investment Officer at HDFC Mutual Fund. He shares his investment strategy with senior editor Larissa Fernand.

You can watch the video here.

You refrain from finding refuge in cash when the market tanks. You also stay away from schizophrenic valuations. In the late 1990s, you avoided tech stocks. In 2007, you avoided real estate and infrastructure. Right now, what are you shirking and what are you gravitating towards?

This market has a considerable variation in valuations. Some sectors are quite expensive, while others are cheap. Having said that, I don’t think the level of polarization in these markets is close to what was experienced in 1999 or 2007. Even the pockets of deep value are fewer, same with areas of excessive valuations. The bulk of the market is close to where valuations ought to be.

You have a penchant for PSU stocks. But there is a fine line between rigidity and conviction. What do you base your conviction upon? Do you find any merit in the concern that PSU banks will lose market share to private banks? That their NPAs are a huge cause for concern?

The public sector banks are losing market share to private banks. It is a very natural outcome. When you own 100% of the market, you will reduce as new entrants come in. So, I do not find it worrisome.

We have always distinguished between strong and weak businesses. There are strong and weak public companies, as there are private ones. There are strong banks that have been doing well; you have observed their stock price and our performance. There are also weak private sector banks which have not done well. The real issue is whether the business that is being invested in is sustainable and competitive, be it public or private sector.

A stock’s value can be mispriced when errors occur in the 1) dissemination, 2) processing, or 3) incorporation of information. With that as a context, how do you view the old economy or PSU stocks?

I do not think in terms of PSU or private or old economy or new economy. I think the investment approach is quite consistent. We look for businesses that are sustainable, growing, and which offer reasonable value. That value could be found in old economy stocks, public sector stocks, or private sector stocks. Wherever we find the coming together of competitive advantages and sustainable growth and reasonable value, we participate in that space.

Post covid, the outlook for the core sectors of the economy has improved for a variety of reasons. The government’s focus on infrastructure, the strong revival in profitability across the core sectors of the economy, the decade low corporate leverage, strong rebound in economic conditions, and picking up of exports.

Private capex should revive pretty soon. The corporate NPA cycle  which banks experienced, by now is common knowledge and has ended. So banks should do well in the next cycle. Outlook for the so-called old economy is quite positive. We are equally focused on the new-age companies. While some of these businesses are very appealing, sustainable, with significant growth potential, but many are at valuations where the prospect of meaningful long-term returns appear to be moderate.

You combine the top-down and bottom-up view when arriving at an investment thesis. You believe that the Indian market operates on the basis of cycles with clear sector leadership. How does that fit in the current market – the massive asset bubble fueled by low interest rates and central bank policies?

Over the last 30 years, I have experienced a few cycles. In 1995-2000, the leadership was with IT, in 2008, it was with commodities and capital expenditure type of businesses, the last decade has belonged to financial services, private banks and FMCG. Broadly, markets do tend to operate in cycles.

Where are we currently? If you look at the trailing 10-15 year returns of the indices, they are in line with the nominal GDP growth of India’s economy over the past 10-15 years. Contrary to what many believe, because of the strong run up, I don’t believe that they are in a bubble zone. Broadly, they are reasonably valued. And, if you take a 3-4 year views, I feel the returns should be in line with the growth rates. Of course, there is a need to moderate our return expectations.

Going forward, the capex part of the economy which has lagged over the last 8-10 years, should lead. Banks which have suffered due to NPA provisioning should benefit. Broadly, businesses linked to investments should do better.

Do you feel that your funds have become more volatile in their performance? Or, is size a problem?

I have run some of these funds for almost 28 years. They have seen rough years – 1999, 2007, even 2020 was a difficult year. I feel good about the fact that every time these funds have suffered, we have recovered the performance almost entirely. We have done it this time around as well; some are right at the top, while some still have room to improve.

But, I do agree with you that the last couple of years volatility was higher than what is comfortable.  The primary reason for that was that the corporate NPA cycle took longer to resolve than what was anticipated. When things were on the verge of improving, Covid hit. That delayed recovery by almost a year.

When Covid happened, we were faced with two choices. Either we wait for things to improve or reshuffle the portfolio. We took the first approach because we believed that we had invested in strong businesses and they would recover over time. Fortunately, as things normalized, those businesses have done extremely well. I am quite pleased at the outcome of events. Though life is a constant learning process and the learnings of this cycle we will try to apply them better.

Watch the video of the above interaction here.

 Larissa Fernand is Senior Editor at Morningstar India. You can follow her on Twitter.

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