Investment Advisor s Commentary for. India Emerging Opportunities Fund. Jan 2018

Transcription

1 Investment Advisor s Commentary for India Emerging Opportunities Fund Jan 2018

2 TABLE OF CONTENTS 1. Business Head & CIO s Commentary Fund Manager s Commentary Fund Strategy

3 Business Head & CIO s Commentary The past month has been an unusual month where large cap indices give the impression that the market is making a new high while the broad market has just not kept pace. This is unusual and has happened on account of several factors which have converged. Increased margins by the regulator caused a correction in the part of the market which was in momentum and resulted in an uptick in the part of the market where there were more of negative views. The other factor seems to be consolidation of MF schemes which is also probably causing sharp stock moves as holdings are shuffled. IT sector delivered results which were on expected lines. However, the future outlook was better and this caused a sharp rally in the sector. The overall growth that the sector can generate is barely double digit and is significantly lower than our minimum desired levels. Prospect of increased interest rates in India: Over the past few months, the trend in 10 year G-secs have reversed. This has been on account of some slippage on fiscal and a fear that the budget for FY19 may slip on the stated path of fiscal consolidation. This factor has taken some sheen off the NBFC sector which was performing well till recently. NBFCs are seen to have benefited from higher NIMs as the interest costs have come down and this cycle may be ending. While this is correct in general, NBFCs are doing well on account of expertise in their chosen areas. Our view is that these NBFCs have mostly passed on the advantage of lower interest cost to the end consumer and have maintained NIMs. The valuations are on account of the rapid growth these NBFCs have been able to report and are seen as sustainable. Also, while the G-sec rates may go up on account of higher government borrowing, in a scenario when corporate credit requirement is low and banks have been recapitalized and would want to grow again, the lending rates may not go up. While there may have been revenue shortfall on account of GST in the first few months, the country would get a stronger flow of taxation as the process settles down. Direct taxes are already buoyant and record numbers of people have been added to direct tax net. With stronger growth in the economy, the government would have the benefit of very buoyant tax collections in the next fiscal. Rural focus to an extent is needed and there would be money to do that. We believe that the urban distress also makes rural distress sharply higher because people are unable to get jobs in the cities either and policy makers would surely keep this in view. We have looked at our concept companies and believe that the growth that our companies would register would be of an order higher than that of the index and hence we should be able to compete well with the index performance going forward. The team has prepared a detailed note to this effect and it has been shared separately. 2

4 Fund Manager s Commentary Indian Markets like those globally started the year on a very strong note in the month of January. The recent period of strong market returns have been led by a few index heavy weights such as Larsen & Toubro, HDFC Ltd, the IT sector, Reliance and ICICI Bank. On the other hand most of our strategy companies have been flat or weaker in this period. This impacted the relative strategy performance. Some of the up move in index heavyweights can be explained by regulatory changes on Mutual Fund classification of mid cap / large caps (by SEBI, which has forced MFs to sell existing stocks and enter index names). Otherwise we believe that there is little scope left for any further rerating across any sector in the market. We expect visible and quality earnings growth to get rewarded by the market in the quarters ahead and strongly believe that our fund performances will claw back. At this point we would like to reiterate not only the superior quality of our companies but also the strong earnings delivery in the past, in the ongoing quarter and in the next 4-8 quarters ahead. Historically our strategy companies have delivered a 20%+ earnings growth per annum in each of the last few years. The earnings growth outlook for our companies remains equally robust. In the ongoing 3QFY18 result season, earnings growth of our concept companies has been in line with our estimates. While many companies have yet to report their results, the current trends suggest that growth will be robust for 3QFY18. In the ongoing result season we do hear a refrain from some companies which have a large unorganised presence that due to the lack of the e-way bill, there has been strong supply coming from unorganised players in segments such as ceramic tiles. With the e-way bill to be implemented in February we expect such aberrations to get resolved and the organised sector to get on a stronger footing. Global growth outlook remains strong for CY18. On the other hand there is a hardening of yields in the US and with the expected QE unwinding by the ECB, there might be an adverse impact of flows into EM equities. Domestic growth outlook also has an improving bias. The economic survey suggests that GDP growth will pick up in FY19 to the 7%-7.5% range. The recent GST reforms seem to be getting the right sort of traction. With the data of the first five months, the economic survey argues The GST promises to be a buoyant source of future revenues. Already in the first five months indirect tax collections have shown a buoyancy of 1.14 X which is higher than the historical level of 0.9 X for indirect taxes. Further, there has been a 50% increase in the number of unique registered indirect tax payers post GST. As per the survey, the initial data suggest that India s formal sector is substantially bigger than what is believed. Post demonetisation there has been a large increase in the number of direct tax filers as well. If the Central Government sticks to its path of fiscal consolidation, despite suggestions to the contrary, we believe that the stability of the India Macro story will get reinforced. On the other hand the initial bank recap details announced during the month were a bit of a dampener. The weakest banks got the maximum infusion to help them meet adequacy norms. Hopefully the next tranche will address the issue of relatively better banks getting a reasonable share to help fund the investment growth need of the economy. Our strategies are characterised by high ROCE - typically our funds have ROCEs in excess of 45% and no leverage at all. We expect our funds to claw back on relative performance in the months ahead. 3

5 Fund Strategy Growth Fund The recent period of strong market returns have been led by a few index heavy weights such as Larsen & Toubro, HDFC Ltd, the IT sector, Reliance and ICICI Bank. On the other hand most of our concept companies have been flat or weaker in this period. The overall impact of this has been to pull down relative strategy performance. We expect visible and quality earnings growth to get rewarded by the market in the quarters ahead and strongly believe that our strategy performances will claw back. There were no changes made to the concept. Specifically we highlight the most underperforming names in the recent past and why they should do better in the period ahead. Eicher Motors : Stock gave a return of 44% from Jan 2017 to Sep 2017 and then corrected resulting in underperformance; Current valuations are reasonable implying a growth of 16%. We believe Eicher has a very strong franchise with a robust growth outlook which will translate into similar compounding in the future. HPCL: Despite recent one month underperformance, stock has appreciated by 40% over last 12 months. Recent underperformance was due to lower than expected price for stake sale and spike in crude. We still believe that the marketing assets are grossly undervalued. Kaveri Seeds : Expect revenue CAGR of 14% in the period FY17-20E on the back of volume growth in both cotton and non cotton portfolio with 21% operating profit CAGR respectively. +20% earnings growth should translate into a similar stock compounding. Life Fund The recent period of strong market returns have been led by a few index heavy weights such as Larsen & Toubro, HDFC Ltd, the IT sector, Reliance and ICICI Bank. On the other hand most of our fund companies have been flat or weaker in this period. The overall impact of this has been to pull down relative fund performance. We expect visible and quality earnings growth to get rewarded by the market in the quarters ahead and strongly believe that our strategy performances will claw back. During the month we replaced MRF with Balkrishna Tyres (BKT). BKT is also a high quality business in the tyre space but more in the Off Highway Tyres (OHT) and export segment with a higher growth outlook than MRF. During the month we also replaced Igarashi Motors with 3M. Igarashi Motors has a niche presence in its domain. However there is part of its business which feeds into IC engines. With the eventual coming of electric vehicles the growth outlook for motors going into IC engine could drop considerably. This might impact overall growth for Igarashi Motors. 3M is a high quality business model with 50%+ ROCE. In the last five years operating profit growth has been in excess of 25% p.a. and we expect the same to continue as there are large growth opportunities in the country. Indian Entrepreneur Fund Month of January 2018 has seen our strategy witness a temporary bout of relative underperformance. This in turn has pulled down the trailing one year performance as well. The recent period of strong market returns have been led by the IT sector, a few other index heavy weights such private corporate banks ICICI / Axis 4

6 Bank, Larsen & Toubro and Reliance. On the other hand most of our fund companies have been flat or weaker in this period. This has pulled down relative strategy performance. However we believe that this phenomenon cannot persist and will reverse such that the market rewards robust growth of high quality firms, such as those we own in the concept. During the month we have switched from Sun Pharma to Divis. We expect a more predictable earnings growth of 20% in Divi s Lab. This is because Divi s Vizag facility has got an all clearance for its manufacturing facility from the USFDA. On the other hand Sun Pharma s Halol facility has yet to get an approval or an all clear, and so the visibility of growth is greater for Divi s Lab. In the ongoing 3QFY18 result season, earnings growth of our fund companies has been in line with estimates. Strategy companies that have reported results include Kotak Bank, IndusInd Bank, Shree Cement, Havells, Asian Paints, Pidilite, Cholamandalam Finance etc. For eg. Cholamandalam Finance has reported 53% growth in earnings, profits of Pidilite has grown by 19%, while Havells have reported 27% growth in profits during the quarter. While many companies are yet to declare their results the current trends suggest that growth will be very robust for 3QFY18. Going forward, we expect improving growth trajectory from these businesses. Other psychographics of the fund such as ROCE and leverage are also much superior to the market. Typically our strategies have ROCEs in excess of 45% and no leverage. India Select Fund The recent period of strong market returns have been led by a few index heavy weights such as Larsen & Toubro, HDFC Ltd, the IT sector, Reliance and ICICI Bank. On the other hand most of our fund companies have been flat or weaker in this period. The overall impact of this has been to pull down relative strategy performance. We expect visible and quality earnings growth to get rewarded by the market in the quarters ahead and strongly believe that our fund performances will claw back. During the month we replaced Sun Pharma with Divi s Lab. While Sun Pharma has rallied by over 10% since our purchase we expect a more predictable earnings growth of 20%+ in Divi s Lab. This is because Divi s critical Vizag facility has got an all clearance from the USFDA. On the other hand Sun Pharma s Halol facility has yet to get an approval or an all clear and so the visibility of growth is greater for Divi s Lab. Specifically we highlight the most underperforming names in the recent past and why they should do better in the period ahead. Page Industries: Despite recent one month underperformance, stock has appreciated by 33% over last 6 month. Earnings outlook at +25%, remains visible and robust. Max Financial Services: Underperformance is due to lower growth in non-ulip products vs peers. As the high base of premium growth comes in to play for peers, the divergence in growth rate should reduce meaningfully. Stock is the cheapest high quality life insurance player in the market today HPCL: Despite recent one month underperformance, stock has appreciated by 40% over last 12 months. Recent underperformance was due to lower than expected price for Stake sale and spike in crude prices. We still believe that the marketing assets are grossly undervalued. Disclaimer: This note has been prepared by ASK Investment Managers Private Limited (ASKIM) solely for the information of the clients of ASKIM. While reasonable care has been taken in it's preparation, this report does not purport to be a complete description of the securities, markets, investment philosophy or developments referred to herein and ASKIM does not warrant it's accuracy, completeness or results. The information contained herein may be changed without notice. To the extent permitted by law, ASKIM or its officers, employees or agents may have bought or sold the securities mentioned in this report or may do so in future. This report is not an offer or solicitation of an offer to buy or sell any securities mentioned herein. 5