Firstly, let us talk about the discussion or the debate between the largecap space versus the midcap space. Where are you actually seeing a value lie at this point in time given the fact that now you have a lot of largecaps playing a catch up trade when you compare them to the broader markets?
Madanagopal Ramu: It is a debate between how do you look at the short term and the long term perspective. If you look at largecaps they clearly struggle from a structural growth being less than say 10% sort of range. So, literally that makes the case that if you are investing in largecaps in the next three years you might make anywhere between 10% to 12% sort of return. But if you look at midcaps and if you are choosing and if you are selecting the right stocks, India has always been throwing a lot of those midcap and smallcap companies which have grown structurally and have grown even above 20% sort of earnings growth for a long period of time.
And if you can get into some of those names, but being very particular in those midcap and smallcap space, then I think you have a chance of making higher returns.
But if you are investing into mid and smallcaps at the index level or if you are investing at a very diversified sort of portfolios, then you need to be a little worried about it because the tail can start hurting you, it is not at all the mid and smallcap sectors are doing fine.
There are many of those businesses have traditionally suffered in the hands of largecap companies in the same sector.
Is structurally anything changed? Those can get rewarded. But wherever there is no structural change and they have benefited in the last two years because of flows happening in mid and smallcap there are many of those.
There is a long list of stocks which have benefited due to cyclical upturn which is very short term and when the cycle turns not so favourable then you might see a lot of those mid and smallcap names struggling to justify the valuation at which they are trading right now.
So, if you are running a 100-stock midcap portfolio or even 60 something stock midcap portfolio, the tail which was helping you in the last two years is going to start hurting you.
Same with smallcap funds also. So that is where the investor needs to be very choosy. But if you are able to select the stocks within the mid and smallcap space which are capable of delivering a 20% sort of growth from a little long-term perspective and trading at a reasonable valuation if not cheap because you do not get anything cheap today given the way the valuations have run up in the overall market, I feel then you create a real case for generating a 20% sort of returns to the investors little the long term. Those opportunities are there but the number of those stocks have come down meaningfully in the last one year or so.
Going ahead with that conversation, the fact that you said that there are certain opportunities but the opportunities may be limited when you talk about the size of the pool at this point in time. We have seen a sharp rally in the mid and smallcap space be it the PSU sector amongst that space also has seen a sharp rally. We are seeing some sort of correction creeping in that entire pocket. Where would you right now say there is scope for that 20% return portfolio or for one to make a 20% return when you talk about the sectoral themes?
Madanagopal Ramu: You have certain large long-term trends that are happening also simultaneously in India as well as globally if you observe there is a global theme of energy transition clearly happening. Because after so many decades of fighting for clean energy without a government subsidy at a commercial rate, I think after so many years this has become a reality now. With capacity getting added in China both in solar cells as well as in the lithium-ion battery both these energy sources I would say one for power another for mobility right now we can think about a scenario that you can add a lot of these energy sources at a price lower than the fossil fuel.
So, you will see electric vehicle penetration increasing particularly in countries like India because now you can launch an electric vehicle almost at the same price as the petrol vehicle because the battery prices have come down meaningfully in the last one year or so.
So that can lead to a large transition. Even on the power side we can imagine a situation of renewable energy supported by backup storage at a price lower than this fossil fuel is quite possible or at least at par.
So, we feel that this is a new opportunity that is emerging with what has happened in the last six months in battery prices as well as on the solar cell manufacturing prices. So, we feel that transition will create a lot of opportunities if investors can pay attention and many of these opportunities, the balance sheet of those companies the ROCE of these companies are much better.
Therefore, that is a set of stocks that you can search there. Other area where I feel market has not yet rewarded meaningfully but can start adding some meaningful return in the next two-three years is NBFC space. NBFC space has seen through the margin compression story for the last one year or so.
Good companies with a good 20% sort of growth still not rewarded as much as what capital goods companies or infra companies got the benefit in the last one year or so.
So, if you choose the right names there which can continue their growth momentum at almost 20% plus, trading at reasonable valuation because valuation has not run up in that space, so there you can make a meaningful return in our opinion if you buy and hold for the next three years.
Consumption space, except for big names like Trent, Titan, Zomato, not many of the consumption companies, I am not referring to staples here, I am referring to mostly discretionary companies.
Discretionary companies in QSR space, healthcare space, we find some of those ideas with good value on the table, not many but there are opportunities in this. So, these are broadly three areas which we are focusing and we feel that a handful of companies of around 20-25 stocks we can find with a reasonable valuation. They are not cheap. They are trading at probably at a fair value, but their earnings growth is much more better than the broader index or even Large Cap Nifty.
We feel that Nifty should be around 10% to 12% sort of earnings growth. If we can create a focused portfolio of around 20% growth, it is quite possible and available at a reasonable valuation you can create those kinds of returns.
Which is that area that you think is a no-go right now, given the fact that there is a sharp run-up? Any of the capital good names would actually feature in that list? Do you think that tremendous growth that the sector has seen is here to stall for a bit now?
Madanagopal Ramu: See, what happens in a bull market is we start thinking everything as a structural growth story, but not many of them turns out to be really a structural growth story. A lot of them turn out to be cyclical market.
But last year was a year where the earnings got benefited from commodity tailwinds we had after the Ukraine war also.
So, therefore, we feel that a lot of it got extrapolated in many spaces and we also had a scenario of narrative becoming strong with the political stability after election.
Therefore, a lot of thematic funds came in. We also saw mid and smallcap continuously getting benefit of flows, initially from FIIs, later from domestic, and then from thematics of late.
And most of these thematic funds are in the mid and smallcap space. They are focused on sectors in mid and smallcap predominantly. Therefore, we cannot rule out a situation that there could be a valuation froth that has got created in the large part of mid and smallcap space if not all of them and therefore, wherever lot of thematics are flowing today, I particularly feel, I am not saying there will be large drawdown, but there could be a scenario, the risk is played out in a different way here, there could be a scenario of those money which has come during closer to say June, July which have been in the thematics and smallcaps and all, probably for the next three-four years you might not make returns more than fixed deposits.
So, wherever those are playing out and a lot of money is being collected and coming back into the same illiquid space of mid and smallcap thematics, I think there if you can avoid and be very choosy. I will not say avoid, be very choosy, then you will avoid risk of underperforming in the next two-three-year time period.
