'Not disruptors, mkt leadership lies with incumbents that adapted'

In most cases, it has been a win for the incumbents who have been alive to the risk and have grabbed the opportunity, Aditya Narain, Head of Research, Institutional Equities, Edelweiss Securities, tells ET Now. 65209324 65191921 65175874 Edited excerpts: Is it looking good for corporate banks or is this looking good because of the base? After one quarter, we realise that the hole only has got deeper. There are two ways of looking at it. One is in terms of the current asset quality cycle and this is reflective of the fact that you have reached the bottom or are reaching the bottom and that incremental stresses have already been captured or they are diminished. In that sense, this is very illustrative of what has happened. The second part is when are these guys are going to be ready to go and put out money. When they have the risk appetite to go and lend is really the next phase that you need to look at and the jury is out on that. Most of these people have had a really rough ride over the last couple of years and risk appetite often comes back a little slowly. That is going to be the challenge rather than the numbers suddenly deteriorating in any material manner going forward. Did you think that they would manage to get that gumption because someone on the Street believes it may not be PSBs because they are going to tighten their purse strings further and that share could actually be taken away by NBFCs? That is absolutely my point. It is one thing to say that the asset cycle is ending. There is a story there. You have seen some response in terms of stocks. You will see more of it. The second bit is do they have the appetite to go out and lend? Also, where do they lend? They obviously have some appetite but if it is going to be completely at the top end where there is no margin, it is not going to have the same impact in terms of stocks. You have to think about how you are going to play rather than that the asset quality cycle is done. A large part of that will depend on corporates wanting to borrow and which has not come through? Yes in any case, you are right. But that is something where the change in risk appetite has been more gradual. Risk appetite has tended to build up a little bit. There is a little bit more appetite there but the reality is it has to be matched from a supplier side also. If they are going to stay out, then it is the private banks who have the appetite and who are actually going to get a disproportionate share. In two-wheelers, the cycle may be great but there is fight for market share. Within the four-wheeler space, there is talk of electric vehicles and the disruption it could have. For the commercial vehicles, there are axle loading norms which in the short term will ensure that demand will remain subdued. Is the near and medium-term outlook looking slightly shaky for the sector across the board? If you were to look at an extended cycle, where you need to be really watchful about competition is when you have new entrants or people who want to change their positioning entirely. That is not the case as far as two-wheelers is concerned. It is a fairly consolidated market. You had this problem three-four years ago when Honda was coming in. As far as the four-wheelers is concerned, Maruti continues to be dominant. There is simply not enough disruption going on in that space. As far as the CV space is concerned, you could see a little bit of it again but it is basically a two-player or a three-player market. While you can have a quarter or two in terms of disruptive pricing or disruptive strategies, these disruptions do not sustain for too long in an oligopolistic kind of structure. They happen when the market is tending to widen. In the NBFC space and housing finance space, you could have a lot of distortion. There is a possibility that you have new players who are going from zero to wanting to get to two or four. They can try and sustain it a lot. In segments where you have a fairly well entrenched competitive landscape, disruptive pricing seldom goes on for an extended period of time. Bajaj Auto historically has been a profit- and margin-conscious company. They have gone on record saying they were not there for market share. They wanted to be India’s most profitable two- wheeler company. Rajiv Bajaj in the past has said that his margins at 21% were very good. The same guy comes out and says sorry I would do whatever I can to regain market share. Eicher has been the darling of everyone and now Harley says that I am going to come and hit you on the same turf, even BMW. So, within the two-wheeler space, there is competition and there are new entrants. But as I said, when you have relatively limited players, it is unlikely that two players are going to drag themselves completely down into a ditch… Will you be a buyer in autos? Yes. In the two-wheeler space we are more neutral. We want the dust to settle down but if you ask me whether it is going to be as competitive four to eight quarters down the line as it is expected to be upfront, first of all, I would say no. Second, in these spaces, because brands and products are more entrenched, the impact can be somewhat limited and is going to be a test of the brand and the product. So, obviously, the next couple of quarters is going to be a little tense. But I will be surprised if this extends for an extended period of time. You will have a two-four quarter period when they will try. If it works, then you will have some kind of a base reset. If it does not, then they revert to normal.One of the darlings of the market, the hottest sector till about six months back was aviation. We always talk about the fact that irrespective of what crude is doing, some of these aviation companies have not been able to adjust pricing according to the spike in crude prices. What happens to aviation now which was being looked at as a quasi consumption play? Aviation is something that is very influenced by the external environment. It is a volatile consumption play rather than a pure consumption play as seen in the Indian context. To that extent, you have to be watchful about the external developments.If you compare the competitive landscape in aviation vis-à-vis two wheelers, it is very different. Here the competitive landscape is such that it allows you to go down a lot but caps how much you can effectively charge. This is more a volatile kind of consumption play and you have to be cognisant of the external environment. Is it avoidable right now? Right now, those prices have taken a beating but unless you have a greater sense of where crude is going, it does become a little bit of a challenge. If this was a two-player market, it would be a different story. The demand has actually been very resilient even as prices have gone up a little bit. The traffic numbers have actually continued to be good but people are taking it on the jaw when it comes to the profitability that is there. This is something that is a little bit more cyclical. Consumption is a demand side, profitability is the external side for this one. We Have a Preference for IT LargecapsAre IT and pharma the definitive alpha opportunities right now in the market? We have been very bullish on the IT space for the last two quarters or so. This is really a three-four year trend and it is going to sustain. We are very clear that what will happen within the sector is that business will tend to shift to the larger businesses and the large caps and the smaller ones. We have a distinct preference for larger ones like Infosys over midcap stocks where we believe there is a certain amount of overvaluation. You prefer Infosys to TCS as well? Why? There is a valuation gap, there is a catch up game that is effective. Purely on valuation parameter? Valuation and a certain amount of catch up in terms of business momentum. To some extent, IT is a little bit more of beta simply because the whole sector has got a huge amount of tailwind and there we prefer the larger caps to the midcaps. As far as pharma is concerned, it is a little bit more alpha there. I do not think it is necessarily a sectoral tailwind. There still remains fundamental challenges as far as the US market is concerned, but there are specific stock opportunities like Dr Reddy’s where they are lined up in terms of their product profile.Reliance is up more than 10% after the AGM and now everyone is saying they are trying to achieve what Tencent has achieved globally by becoming an AI company. Are markets right in giving the extra PE multiple or the perception benefit to Reliance? In many senses, Reliance is falling in a very sweet spot and we have been pretty bullish on the stock for the last year and a half. That has played through but the interesting thing is the old business is not getting rusty. The cash is coming and at an incremental pace from the older businesses that are continuing to expand on new platforms. The sweet spot lies there. In between, the cash that had been invested in telecom is now actually looking after itself fairly well. Getting on to that oil data in a new oil kind of economy, AI is the option on it. If you get that backbone going, it looks after itself and doing everything that they promised.It is a sweet spot if you say that the move is on the back of all the AI talk. I would say it has run ahead of itself but if you were to combine the fact that the old business, even though a lot of it is new, is generating a huge amount of cash; if you look at the invested business which is telecom and that is getting decent revenue numbers and traction. AI is more in the option value that they are seeking having created the platform as far as the data economy is concerned.Leaders Get All Growth & Profitability Right now, there is a disproportionate amount of premium which some of the consumer names and private banks are enjoying. The second one is a mega trend. About 15 years ago, if you bought into private banks, you hit a homerun. 10 years ago, it was retail managed NBFCs that made you rich. What do you think will work for next three years and what is the mega trend in the making for next five years? Market leadership is really going to be the defining feature of businesses that do better and generate higher profitability. Largecaps or midcaps, wherever you have market leadership, you are going to get disproportionate growth and profitability. That is really the mega trend. Give me an example. All the market leaders – be it consumer, banks or automobiles are market leaders and tend to grow faster. It is being able to do so on its own profitability. You attribute that to scale, brand and efficiency, but effectively a lot of that is coming through and that is the key that you really need to look at over the next couple of years. But you yourself are betting on Infy not TCS? Aditya Narain: Between large businesses, you have to balance between valuation and between… Number one and two? Yes. By market leadership, I do not mean number one. The top three or four in every sector are what really going to count, and it is not whether it is a largecap or it is a smallcap. You can have a lot of smallcaps that look very attractive but are number 15th in their sector. Be a little more watchful about the valuation. Even if they get a lot of growth rather than a number two who is actually a very small player. But the fact is he is meaningful in that market. Are L&T and ACC examples of that? Absolutely. L&T is a classic case that business will move towards there. Why is not the market giving them value then? It is giving them a fair amount of value relative to a lot of the others. It is a question has a stock moved enough or not? Has it been valued up for a while? Are they getting a disproportionate share of every business that they are entering? I think they are. Instead of market leadership, we are using the word disruption that is challenging the market leaders. A lot of market leadership patterns which are intact and where we thought they had a moat around them and nothing is going to change are getting disrupted by a range of products, services and technology offerings. That is very valid but disruption by a new player entirely, whether in entertainment (Netflix, Balaji) or consumption goods (Patanjali), most of the market leaders are agile and have actually gone into these spaces themselves.They have the basic flow, they have the cash and it is not very hard to get into a disruptive business when you can hire people and technologies off the floor. It can be a Tesla kind of a product but all the auto manufacturers are also getting into the same thing. Tesla might have changed the way the world looks at things, there may have been disruptors but other than a few global guys, for the rest, it has been a win for the incumbents who have been alive to the risk and have grabbed the opportunity. Look in the media space. Anything that is net based or YouTube based, all the existing guys have become very strong or have entered new segments very aggressively. Patanjali was big but the Ayushs of the world are all coming back very aggressively. It is true. Volume growth is back for Lever’s and Britannia. Yes. Do you think Airtel has managed to do it in the telecom space? Effectively they have also come back very strongly in that space. So, there is not a standalone differentiator who has been able to disrupt the whole business in a meaningful manner. Disruptors end up being monocline and invariably they are back to some extent with cash but not by the same amount of cash and to some extent they invariably lack the experience in that space.The peak of disruption by a new player has more or less happened. You are getting plenty of existing guys who do not want to necessarily disrupt and kill their own business at the possibility of a new business but all of them are there in that new business space. That is why you are tending to see that the big boys are continuing to get a little bigger and market shares have not changed in a lot of these spaces. Nor have opportunities gone up. You have a Paytm, which has come up in a particular manner but again there are those three-four names in most of the other spaces where the incumbent, who has been ready to change and has managed to make a reasonable foray into these areas. A lot of businesses are thinking like this now. When you talk about Reliance’s AGM being about AI, it gives you a sense of the fact that this is a refining company which is talking AI because that is why they see the disruption. They see that they have made the investments and they should be leading it or at least being part of it in a meaningful manner. What about the overall market construct? The micro is definitely improving. Besides earnings, there has been a recent bout of correction as well. But the macros continue to be challenging -- be it currency, be it crude. Tomorrow is policy day and we may have an interest rate hike as well? We see the market in a range of about 10500 to 11500 on the Nifty. We have visualised it as a half circle because the micro has come half circle from being bad to beginning to look good and the macro has actually tended to reverse and is somewhere in the middle.At some level, it is very well balanced and that can explain why the markets have been weak a month ago because the macro was looking like it was going to go full circle right and has actually arrested itself and it is hanging around somewhere there whereas the micro actually is getting more convincing.In the backdrop of elections, this is a fair range for the market. For the range to change, the macro has to fall back quite a bit and start heading much lower. For it to hit much higher, you got to have the macros suddenly saying okay this is it, the currency pressure is over, the interest rate pressure is over and a year and a half down the line, you are going to be where you were six months down the line. Otherwise, it is reasonably well balanced.In the last couple of weeks, there was a little bit of a tailwind from the micro and again a couple of weeks back, there was a little bit of tailwind or at least the easing of headwinds on the macros.

from The Economic Times https://ift.tt/2LFGHgg