Dhiraj Agarwal on the next big trigger for equity markets

Dhiraj Agarwal on the next big trigger for equity markets

"Macros are looking good in a number of pockets, but then the corporate sector performance there are signs of weakness. Maybe some of them get addressed going forward. And valuations are a little bit stretched. So, there will be push and pull on the market on both sides right through this year as well," says Dhiraj Agarwal, MD, Ambit Investment.

How are you looking at the broader landscape we are operating in, in the market? On the one hand, RBI Governor just yesterday made a comment that we are now at the cusp of structural shift in growth, 8% on a sustainable basis positive, other macro indicators are looking very handsome. But on the other hand, on micros, many companies are now sounding cautious for Q1. Stock prices, meanwhile, are just ignoring all of that and running away. What is the prudent strategy to approach the market if one is sitting on handsome gains?Dhiraj Agarwal: I think the markets will continue to be choppy this year. It has been very choppy so far YTD, say well except June has been a very surprising one-way rally after the election day dip, which actually has taken the YTD gains to almost 9-9.5%.

But otherwise, I have held the view for a while that this will be the year of what I call non-linear markets, which means we will get violent both sides move in the market.

And when we look at the overall performance at the end of the year, it will be the plus-minus single digit kind of a range perhaps and not anything fancier than that.

So, as you rightly said, macros are looking good in a number of pockets, but then the corporate sector performance there are signs of weakness. Maybe some of them get addressed going forward. And valuations are a little bit stretched. So, there will be push and pull on the market on both sides right through this year as well.

Let us understand your outlook then as to where you stand when it comes to the overall liquidity situation. Is it that you believe that FIIs will continue to remain on the sidelines or once we get more clarity with respect to the budget now that the elections are out of the way, we will see a continued flow of FII interest into the Indian markets?Dhiraj Agarwal: It is a toss-up. It is very difficult to predict. I think liquidity is impossible to predict. So, even the continuous dip in the FII holding in Indian markets in the last three or four years has surprised many of us because economically the country is doing well, markets have been doing well, but yet the FII holding of Indian market is at a decadal low of 18-18.5% down from peak of 21%. So, which way that sits, I think it is not just a question around elections or question around how the budget is, it is also alternate allocation.

At least for a couple of months, China pulled in a large amount of inflows by the global investors. I have not seen the most recent data, but Feb-March they pulled in about $40 million. Something like that happens, it obviously impacts the amount of flow, which could happen in India. So, on the FPI flow, it is just a toss-up. I mean, it is very difficult to predict, honestly.

Which are the parts of the market which you are still finding attractive risk reward from here on?Dhiraj Agarwal: I have been talking about of late what I broadly say winds of change. There are some signs of winds of change in the last two months, which is that while one has been fundamentally feeling like that for a while, it looks like the money flow is also moving in that direction right now.

So, one has been feeling for a while that banks, especially the private banks, have underperformed for a prolonged period of time, valuations have become reasonable, businesses are doing okay and that is one segment which could come back into outperformance trajectory.

Last one week or two weeks of moves actually points towards possibility of that happening or getting momentum, so that is one space. The other, not turned around yet, but very interestingly poised could be IT services, that has also underperformed over the last 12 or 18 months.

My sense is most of the bad news is priced in. So, it probably does not get worse from here, do we get an inflection immediately in the short run or will we require some more patience for that is the question mark.

The third space, which is not a large sector, but medium size is chemicals. There are some signs of bottoming out thereafter. So, basically my thinking at this point of time is to focus on sectors which have underperformed in the last two or three years and be very watchful of signs of turnaround either in fundamentals or in terms of liquidity flow or both.

I was talking to two agrochemical companies. Interestingly, both were talking about how they are witnessing pricing power coming back, demand improvement, and the severity of Chinese dumping actually reducing and both have actually calling about second half of the year and very hesitatingly talking about decent FY25 prospects. Would you start nibbling in domestic agro focused companies because you are looking at chemicals or you would go for much more complex guys, SRF, PIs of the world?Dhiraj Agarwal: Complex guys probably have not fully turned around the corner yet. It is pretty close maybe. But you are right, the agrochemicals and the so called more commoditised space is looking more interesting at this point of time relatively speaking.

What would you think would be the next big trigger for the equity markets? I know you flagged off that flows are not purely contingent on a lot of fundamental events. But just going by where the markets are currently at, what do you think is going to be the next key triggers?Dhiraj Agarwal: Budget could be a trigger. But the way I am thinking at this point of time, budget trigger would either be neutral or negative. I do not think budget can do anything which can be a meaningfully additional positive trigger from here on because most of the market expects the government to carry on with the continuation of the whole capex programme and policies.

There are some expectations that there could be a little bit of consumption boost kind of incentives built into the budget as well, after slightly weak performance in the elections.

But I do not think, I mean unless there is a huge tilt in that direction, I do not think there will be a big disappointment as well. So, I think around the budget one should closely watch if the market goes into a little bit of a correction.

Some of the guys in the midcap IT which actually cater to a specialised set of services or clients or niches they offer, are actually not slowing down on their growth outlook or even declared numbers. In fact, they are buying out companies and stuff like that. The larger ones are much more cautious. Their numbers are not very impressive. But both have undergone corrective phases. Which side would you find more comfort buying into?Dhiraj Agarwal: Last two or three years our market has become more retail dominant. I mean, obviously, much of the retail money is going into institutions. But somehow, the dominance of retail investors in the market and moving was setting the stock price and stock price expectations has become very-very powerful. And retail is focusing on one single metric at this point of time, which is growth.

I often call it as a growth chase as well. There is a growth chase in the market. The one metric people are looking for is growth. Sometimes we get confused that the growth is coming at the expense of cash flows and yet the stock prices are moving up, but that is the nature of the market today. It is somewhat like what it was in the 90s.

So, as you rightly said, a few midcap names, midcap smaller names are displaying better growth characteristics as compared to the largecaps and they have done better and I think they may continue to do better going forward as well.

While as a strategy, you are looking at some of the underperforming sectors, would there be any other interesting niche plays maybe that you have observed by way of sectors that are interesting outperformers or have the potential to be outperformers in the market?Dhiraj Agarwal: The one niche sector which has been doing very well, which can perhaps continue to do well is EPC, construction, infrastructure, so that is one space where competition really came down after the previous cycle.

So, in the previous capex cycle of 2003-2007, there were a huge number of EPC companies and competing viciously against each other.

And many of them just died because they overextended their balance sheets or just became too weak to compete. So, at this point of time, that space has lesser number of competitors left. At this point of time, business is doing well, order books are strong so that could be one. I mean, it has become sort of a niche sector now from that yardstick so that could do well. Power is in a structural uptrend. Although after the very strong performance of last two years, I think it might just take a breather. But if you want to take a longer-term call, I think it is still in a structural uptrend.

Are you playing the power theme? They still say that massive demand-supply gaps are existing and big addition happening next five-seven years. So, this area should not be abandoned even if the stocks have actually moved up. But within the entire value chain of the power, which end are you most comfortable in?Dhiraj Agarwal: I mean, everything has become expensive at this point of time. So, can you justify that there is growth for the next few years? Of course, yes, because there is power deficit and investments are picking up. But can you justify valuations in a number of cases? A little difficult. But at the same time, you are right. I mean, if a sector stays in a very high growth phase for a long period of time, we have seen valuations sustain at unrealistic levels. I mean, it happened to the consumer stocks between 2014 to 2020, why cannot it happen to power today? So, at these prices, these valuations, I would just either pick some relative softness in valuation or we will probably just do a basket approach.

But what is the outlook in specific, if you could just elaborate when it comes to some of the rate sensitives, in particular auto for instance we have seen the introduction of EV, a lot of newer models, the competition seems to be heating up?Dhiraj Agarwal: Auto has had a fantastic run over the last one or two years and I am generally slightly cautious on anything which has had a fantastic run over the last two years. Nothing to do with earnings outlook or fundamentals, but simply because they have run too hard, too strong, valuations are a bit overstretched and everything corrects, everything consolidates. I think it is time for a bit of a consolidation there.

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