‘We look at valuations more or less the same way across markets’: Rajeev Thakkar of PPFAS MF

We have a coverage list for companies where we think management quality, promoter quality, business characteristics are good...where leverage is not too much, where return on capital employed is reasonably good across a cycle. Overall, we have roughly 400 Indian companies and 250-300 global stocks, which we cover. Our research team is structured on sectoral lines — so, the same auto analyst looking at Maruti in India will also look at Tesla or General Motors abroad. The approach is not to have too much diversification and a very concentrated portfolio as well. So, roughly we have 30 stocks. This allows a meaningful exposure to our best ideas; at the same time, it does not dilute..

From day one, our stance is that we will not force ourselves to be fully invested at all times. If we are not immediately finding an opportunity, we will stay in cash for some time. So we are not driven by the monthly flows as such.

However, the good part is if you look at the past, let’s say even 25 years, each time there has been a bubble or an overvaluation kind of scenario, that typically is associated with a few sectors. And other sectors are going at reasonable valuation levels, or even very, very cheap. Let’s take the late-1990s, for example. At that time, there was a clear demarcation. There was the new economy —the internet companies and IT services companies, and there was the old economy — the FMCG companies, utilities, metal companies, etc. So the new-economy companies were at very high multiples. So Infosys, Wipro, etc would be at 200-250 times multiples. Whereas, a Hindustan Unilever kind of company, no one would want to buy at that point in time. So you could actually find attractive valuations in that era.

Let’s look at 2007, where there was a temporary high in the equity indices. At that time, the most fancied companies were in the real estate, infrastructure, or commodity space. So again, at that point in time, ironically, no one wanted IT services. So the darlings of the last bull run — Infosys, Wipro, etc were available at attractive valuations in that period.

2017 was a period where everyone was chasing small- and mid-cap companies. And in that time, actually large-cap companies were offering better value. So at every point in time, you have to find out pockets of value.

If you look at the private sector banks, for example, a lot of them are trading at just above the pre-Covid levels. Their balance sheets are clean, they made provisions for the previous corporate lending cycle, the retail bad loans post Covid have been cleaned up. Because of the rising interest rates, they are benefiting from the low cost, their margins are improving, they continue to gain market share over their PSU counterparts, their fee base activities are doing well in terms of their mutual fund distribution, or they are owners of AMCs, insurance companies, credit card businesses, foreign exchange business - all those are growing reasonably well.

But their valuation, whether in terms of price to book or price to earnings, or absolute level of stock prices, compared with the pre-Covid levels, or the index levels, they have been underperforming in this period. I think that is a pocket of value, even in the current times.

In general, the way we look at companies or the way we look at valuations is more or less the same across markets. The growth rates will be different, because currencies are different. Growth rate in Indian rupee terms looks higher because of rupee depreciation over a period of time. So, we make adjustments for that and also for cost of capital. The cost of capital that we have in India is higher than the cost of capital in overseas markets. Today, one way or the other, you have to be a global analyst. So, if you are looking at Tata Motors, you are forced to look at Jaguar Land Rover or in Hindalco, you have to evaluate Novelis. In Bharti Airtel, you have to evaluate their African business. If the valuation difference is too high between one country and the other, then, arguably, one stock is undervalued, the other is overvalued, and we can avail of those opportunities. We can choose to buy TCS or we can choose to buy Accenture, subject to the limit.

Why do some active mutual funds underperform? One, you have to be sensitive about costs. You cannot outperform passive funds by having a very expensive cost structure. Second, you need to have some discipline in terms of your approach — some good process, whereby you are not swayed by emotions or you don’t get into wrong strategies. Third, specifically in India, my belief is that passive funds are run at a loss by the industry as a whole and they are cross-subsidised by active funds. Now, in such a situation, passive funds are at an advantage.

There are two other points in this debate. Consider this example. YES Bank was part of Nifty in the past, then there was a moratorium on YES Bank. A portion of the shares of YES Bank were frozen for all investors. Now the index removed YES Bank from its list of 50 stocks, but all index funds were stuck with YES Bank shares, which they could not sell. So, when we talk about active funds underperforming the index, actually, 100 per cent of the passive funds also underperform the index, because index return is theoretical. Next, there are some obvious opportunities, which active managers can avail of and passive funds cannot. So just a live example — HDFC and HDFC Bank merger issue has been known for a year, and the two companies were trading at a price difference of almost 4 per cent. Now, by selling one and buying the other, you are able to earn 4 per cent for your clients. Now that can only be done by active funds, not by passive funds, which are obliged to own both the companies. So, I think active vs passive debate is endless. Both have their place in the market, a large portion of institutional money/ endowment money will go to passive funds. There will be active managers who will try to do better than the indices, and they will also have their space.