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WF: Large caps are seen today as relatively better valued than mid-caps. But beyond relative valuation, do near and medium term growth prospects justify investing into the large caps space now?
Amar: There are several key factors that drives our conviction for large caps to emerge as a prominent theme, listed as under:
Valuations are cheap in absolute terms and relative to midcaps. ROE of Indian corporates is low vs. historical trend and likely to turn up. Large cap companies have proven business models and established track record of management teams.
WF: How different are your two large cap oriented funds: Select Large Cap and Top 100?
Amar: ICICI Prudential Select Large Cap is a pure large cap fund and its benchmark is S&P BSE 100. The stocks in the portfolio are predominantly from within the benchmark index. ICICI Prudential Top 100 invests predominantly in large caps with some exposure to midcaps.
Another important factor which differentiates the two funds is that ICICI Prudential Select large cap fund offers a concentrated portfolio with 15-20 high conviction stocks whereas ICICI Prudential Top 100 is a well-diversified portfolio investing across sectors and stocks.
WF: Given the rather patchy progress of the domestic recovery theme, which segments offer the best prospects within this theme?
Amar: Within the domestic cyclical recovery theme segments like construction projects, banks & cement are likely to benefit from cyclical growth in the economy and are available at reasonable valuations.
Banks can benefit from the declining Interest Rates and increased Government Expenditure on Rural & Infrastructure Development.
In case of cement sector, demand will pick up due to government focus on infrastructure and rural development. Improvement in demand coupled with lower capacity expansion could improve utilisation and subdued raw material prices and stable cement prices could improve margins.
As for construction projects, announcement of new projects could improve utilisation and bottom-line.
WF: The banking space - which you have identified as one of the key themes - is going through huge transformation from multiple drivers - technology driven disruption, new licences, payment banks, NPA issues being sorted out, etc. How do you see the longer term trends playing out in the banking space?
Amar: Banks can benefit from the declining Interest Rates and increased Government Expenditure on Rural & Infrastructure Development. Usually, lower interest rates improves credit growth which in turn augments the top line growth of Banks.
Further, we believe banks' asset quality is expected to improve due to:
Efforts taken to revive power and metal sectors that contribute to a major portion of non-performing assets The Reserve Bank of India's efforts to improve the asset quality of the overall banking sector
WF: Some observers believe we are witnessing a major value shift from PSU banks to private sector banks, which is not likely to reverse any time soon. Are PSU banks looking more like value traps now?
Amar: Clearly there is a big effect of macro variables like credit growth, interest rates, commodity prices etc. on the profitability of these banks. While, we believe that a fair amount of asset quality pain is priced in the valuation of PSU banks, one needs to balance the macroeconomic situation while evaluating this segment.
The government has retained the capital infusion in PSU Banks at Rs250bn which we hope is adequate to support the economic recovery.
Alternatively, we expect the Government to infuse more capital if required as Bank Recapitalization could boost the economy's growth and revival to large extent. With this budget, first phase of the deleveraging cycle will be completed as the government takes steps to clean up the NPLs in the system.
WF: Is your bullishness on oil& gas and metals a contra play? Do you see evidence of a turnaround in global commodities or are you looking at buying when they are cheap, in the hope of an eventual turnaround?
Amar: Valuations of oil & gas and metals are at multi-year lows led by correction in commodity prices. High cost global suppliers could be unable to sustain and India being a low cost producer will benefit in the near term. Also, crude oil prices cannot sustain at such low levels and may rise in the near term. Thus we believe these sectors will recover sharply as demand-supply dynamics stabilize and crude oil prices mean revert.
Historically, we have seen a strong positive correlation between metals & mining and oil & gas.
WF: In what ways will UDAY impact power utilities and power generation companies? What underpins your optimism on power utilities?
Amar: While UDAY could be one of the factors to augment the sector, we strongly believe that capacity utilization in these sector is really low. Once the power plants are utilized more efficiently profit margins could improve sizeably.
Currently, valuations of these companies are attractive with healthy earnings growth visibility. Historical trend indicates that falling yields coupled with strong earnings growth would increase the PE multiple for power companies.
WF: Both portfolios seem to be focusing on cyclicals. Are defensives no longer attractive now?
Amar: With an improvement in economic indicators, lower oil prices and a sizeable capital expenditure program by the government, India is on road to gradual but steady recovery.
There is also an increased focus from the Government on new and existing projects, and thrust on reforms. In case of domestic cyclical sectors, the growth is likely to be structural and consistent considering the likelihood of India's economic growth. Therefore, "Power of 2" offers portfolio with a blend of two High-Conviction Themes:
As defensives have done well over last three to five years, valuations are not dirt cheap. While pharmaceuticals have corrected over the last six months, we believe IT sector is currently fully valued. We have even been underweight consumers for quite some time now due to overvaluations.
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