What is the best way to bet on the Indian consumer?

Ravi Dharamshi, Founder & CIO, ValueQuest Investment, says “we have witnessed a correction in the SME mid and smallcap space. The froth is now out of the system and the earnings trajectory still remains very strong. In that kind of a scenario, we will always find a buyer. It is not a 2-5% kind of correction. Some of the companies have corrected 30-40% as well and in that scenario, if the earnings still remains strong, then they will find a buyer at a lower level.”

The Reserve Bank of India has made big changes on liquidity, the scrutiny and the monitoring of NBFCs has increased. You are betting on NBFCs, let us say names like Five Star, Home First. Why are you betting on NBFCs at a time when the liquidity is actually moving against them?

Ravi Dharamshi: I think the liquidity issue is also the issue of the last six months. Going forward, the liquidity situation will ease. A lot of it was also related to the fact that we were heading into election season as well as a tax season. Both of those things have panned out now. I expect liquidity to start easing. RBI in this particular meeting that they are scheduled for this week should hopefully announce some measures to ease the liquidity.


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So, market moves anticipating what is going to be there in the future. If you look at it from the point of view of growth rate, return ratios, asset quality, these companies are doing fantastically well. So, all they need is that little bit of assurance that margins are not going to be under a lot of pressure and the stocks will start rallying from here again.

Why are private banks not chipping in? I mean, there is a serious case why they should do well — leverage is low, their cost to income ratios are decent, they are getting lion’s share of fresh deposits even though it is challenging, but they are still getting lion’s share of deposit. But from a market standpoint, private banks have been massive underperformers.

Ravi Dharamshi: There are a couple of fundamental reasons and a couple of technical reasons. The fundamental reason is essentially that the NIMs were under pressure. The fight is on for the deposits and that is putting pressure on the NIMs, that is number one. Number two, as you mentioned yourself, the liquidity was a little tight. Number three, the technical reasons that I would say is that it is the largest FII-owned sector and FIIs in India have been kind of reducing their weightage because the valuations are making them uncomfortable.

The easiest way to reduce weightage is to sell a little bit of financials because that is where the maximum holding is. However, just to give you a perspective, they used to own about 43% of the financials free float. It has come down to almost 31-32% and nothing to say that it cannot go down further, but I believe that now the positioning has corrected itself. And if the FII money was to flow back into the markets, then financials will also find a place in their portfolio.

In the case of IT versus banks, go for banks. But when it comes to banks versus pharma, where do you see higher delta?

Ravi Dharamshi: Pharma is no more a homogeneous sector. One will have to take each story on its own. Each story differs. There are various buckets. So, if it is oral solid US-focused generic play, then that is not something that excites us. But if there are, let us say, API companies, CDMO companies, biotech companies, inhaler companies, then there are diagnostics companies, hospital companies, so there are various buckets, domestic-focused branded generic companies. Apart from the US-focused oral solid generic business which is kind of on a cyclical revival because the pricing pressure is kind of easing, that is not a very exciting story for us. It is a cyclical play and it will pan itself out and the companies actually who are heavily dependent on US generic will have to reinvent itself to kind of add a little bit more specialty to their portfolio and that has been happening since the last five-seven years.

I would not say that it is something where realisation has struck right now; it has been happening but it has been too slow and this is a cycle that takes time.

What is the best consumer play in India? Is it still discretionary? Is it still durables? Is it still staples? What is the best way to bet on the Indian consumer?

Ravi Dharamshi: If your return profile is that you want to make maximum bang for the buck, then it cannot be the staples. It has to be discretionary. India is the last consumer left on the planet Earth.A large block of last consumer that has yet to experience a consumption boom.

If we are going to move from a $3.5-trillion to $5-trillion economy and our per capita is going to move from $2000-2,500 to $4,000, the jump in the discretionary consumption will be far more than the staples. Now, if that is the case, then we have to bet on discretionary consumption going forward. But discretionary consumption is a very, very, very broad theme.

The three pillars on which the discretionary consumption boom rides is access, affordability, and availability. We have to see which particular sub-sector is going to witness a J-curve in the next three to five years and that is what we will try to understand if this is where the boom is coming. There might be some spaces, like for example, travel is witnessing a fantastic boom in the last three years post Covid and it is largely to do with the fact that it was a K-shaped recovery and the top end of the consumer is actually doing quite well.

We are witnessing that in travel and in premium real estate as well. However, the bottom of the pyramid is not doing that well. For that entire mass consumption basket to pick up, the trickle-down effect as well as the pent-up demand of the last few years should pan out over the next three-five years.

Which are these categories? Have you identified something where J-curve is around the corner or demand could surprise us?

Ravi Dharamshi: No, that is where the work lies for us. Right now, it is an ignored space. People are not really so bullish on consumption and that is why it is a good space to be looking at with the next… I would kind of qualify my statement by saying that I am not seeing the revival around the corner, but it is a fertile space where we can witness revival but we will have to give it two, four, six quarters. I do not know exactly how long it will take.

At an all-time high, markets are trading at a mild premium to the historical averages. If one looks at the previous benchmark in terms of where markets have peaked out before or they have topped out, even the Nifty has a long-long way to go. 20-21 times markets rarely peaks out.

Ravi Dharamshi: Actually valuation is only one aspect of it. For the markets to really peak out and when I say peak, we are talking about peaks like March 92 peak or January 2001 peak or even just before global financial crisis, when we have peak profitability, peak growth, peak leverage – all those things have to come together for a market to form a major peak.

As you rightly mentioned, leverage is not at peak. The corporate sector is not leveraged. Profitability and the drivers of growth and profitability are also not at peak. Not all of the engines are firing, utilisation levels are not at high. There is scope for gross margin and EBITDA margins to improve because of the operating leverage. All those kinds of things tell you that valuations are high, but these are still slightly above long-term average and the cycle is also still in the early stages, that is what gives us the confidence that you should be looking at three to five years. Corrections are part and parcel of the market.

One cannot avoid corrections and one should not even try. But the question you should be asking is, by investing at this level am I making a cardinal sin of coming in at the top? I do not think this is the point of maximum optimism for the markets. From that perspective, I think we are okay.

Let us look at historical parameters. Markets peak out when there is excess participation in the derivative market, which is evident. There is a rush of IPOs, which is obvious and there is a frenzy in small and midcap stocks, which I think cannot be denied. Typically, all the boxes are ticking, which historically have also acted as indirect indicators of market top, retail, IPO, midcap activity and also what is happening in the F&O market.

Ravi Dharamshi: You could have ticked all these boxes 12 months back also and you would have said there is excess participation in retail, F&O activity is going up and the IPOs are happening and all those kinds of things and you would have made the mistake of selling out.

So, first of all, this endeavour to find the top is counterproductive. If you try and do that -very often, you will most likely end up missing out on the market move. However, coming back to what are the boxes that are not yet being ticked, which will tell you that this is a market peak, one is all the engines of growth are not yet firing. Exports and consumption both are not firing yet. State capex is going to pick up this year itself. These are the engines on the growth side that are not yet delivered.

On the operating leverage front, utilisation levels in the economy are at about 74-75%, that is not the peak. In fact, the private cycle capex usually picks up steam post it crossing 78-80% kind of a number. We are probably going to do that this year. So, again, the capex cycle and the numbers are going to pan out positively over the next two-three years.

The third in terms of valuations is slightly above long-term average and does not qualify to be a peak valuations on peak profitability. So, the peak profitability is ahead of us and peak valuations are also ahead of us, that is why I can say we are comfortable holding on to our positions. But yes, finding new opportunities is becoming more and more challenging.

It is not easy to find opportunities which are just buy, eyes closed. Those kinds of opportunities are very difficult to combine. So, I would like to say that some of the things are ticked, not all of the things are ticked in terms of euphoria, bubble, bull market, however you want to classify it and we can always witness a correction.

We have just witnessed it in the SME mid and smallcap space. The froth is now out of the system and the earnings trajectory still remains very strong. In that kind of a scenario, we will always find a buyer. It is not a 2-5% kind of correction. Some of the companies have corrected 30-40% as well and in that scenario, if the earnings still remains strong, then they will find a buyer at a lower level.

Harry Byrne

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