Expect sector churn; money will flow from expensive stocks to growing, cheaper stocks: Raamdeo Agrawal

Raamdeo Agrawal, Founder & Chairman, Motilal Oswal Group, says he wants to buy well-established businesses with strong management teams, which may be facing some headwinds recently. Agrawal says the shift of deposits from banks to the capital market is a significant trend. The banking sector must adapt to this change and ensure sufficient credit and liquidity for corporate lending. Ultimately, the success of a business depends on both its quality and the competence of its management team. Therefore, it is essential to carefully evaluate both aspects before making any long-term investment decisions.

Agrawal also says that the more expensive companies like Asian Paints, Titan will have time correction and the money will flow to the other companies which are growing, freshly growing companies which look to be relatively cheaper.

The leadership in the bull market right now lies with capex, PSUs and some of those so-called infra themes. Are they the clear winners in this bull market and do you think that is the space which will continue to drive and surprise the market irrespective of the current valuations?
Raamdeo Agrawal: To start with, they were smallcap to midcaps and today because of the expansion in the multiple or even expansion in the earnings, they have become very large companies. But will they keep up with the expectations? Most of the stocks are trading at 40, 50, 60 PE multiple. So, will they be able to match up with say at least half the growth, say 30% sustained growth can they do, generally we have found that beyond 20% very few companies are able to stack up for a long time, even five years, five years.

At least in the past five years, 20-25% growth was almost impossible. So, some of these valuations are looking very lofty and hence the sector churn has to happen, Wherever the excessive valuation is there since the flow is coming, money has to find its way. So, what will happen is silently the more expensive companies like Asian Paints, Titan and all this very heavily priced companies they will stay, they will have time correction and the money will flow to the other companies which are growing, freshly growing companies and they are finding… they look to be relatively cheaper.

But is it time not to start looking at a business as sector which you always in a sense spoken about consumers, rural facing companies, staples because monsoon is good government knows that rule spend needs to be pick up and if consumption does not come back, there is a problem even at the macro level.
Raamdeo Agrawal: Yes, you cannot become seriously large economy without… I mean what for you are working at the end actually if consumption is not happening.

So, time to look at consumer stocks again?
Raamdeo Agrawal: Yes, if you understand them well, well managed and it is just a passing phase I think this is a time to definitely build but you have to have a lot of patience because it could be quite frustrating if by chance things do not turn out for another 12 months and everything else moves up, so then you are still like… somebody was saying all the FIIs what they did, they were sitting in HDFC Bank and the water flew from other side, so they are feeling… I mean they actually allocated in India, but the India portfolio also because of wrong selection might have not done as well. So, you have to be very careful how much you own are something which is more like a value not so much of a growth.

So, what is good and cheap in this market?
Raamdeo Agrawal: It is for the fund managers to figure out. I mean you have to speak to our team for individual stocks, in any case, I am not at liberty to talk…

No, I am not talking about stocks here, but like PSU stocks in 2020 they were cheap. They were not good, but they were cheap.
Raamdeo Agrawal: So, now you have to find relatively cheap stocks, absolute cheap stocks that in our era were 10 PE, 8 PE, 7 PE stocks -- that era is over. Now, if the index is trading at 21-22 times Nifty largecap and midcaps are trading at 30-35 times, can I get a good midcap at 20 times or 15 times because earlier cheap midcaps means single digit PE and now cheap midcaps means 15-17 PE? That is a kind of a challenge now and it has to be relative. Absolute cheap stocks are very rare to come by.

Can I say private banks are suffering not because of earnings but because of technical factors? Every time they go higher, FIIs are selling. They are good businesses to own, but there is selling, what can one do?
Raamdeo Agrawal: Both things are there, but if you are doing very well, why should even FIIs sell? Second, there is enough domestic flow who will take it up if you are growing at 30-40% your deposit challenges are not there because what happens is when the large leader bank basically say like HDFC Bank when HDFC Bank is for whatever issue which might be very specific to HDFC Bank, the merger, the transition because of that the leader remains low, it hurts the entire sector.

I remember in 1992, ACC had a problem because they brought the first million tonne plant in Wadi and that did not function for quite some time; it hurt the EPS of ACC. But if the ACC is available cheap, then the entire sector also remains cheap. So, right now, as this merger process gets resolved or subsumed and normal earnings start functioning, the bank start functioning as a merged entity starting from the next quarter, this is the last quarter for a year-on-year comparison. I think the first quarter year-on-year comparison will start from September and then the journey starts. So, we could be at the bottom of private sector because if the private sector banks do not fly, how far will we go as an economy?

Warren Buffett made a late bet in his early 80s in Apple, which is the largest part of his portfolio and that in a sense has become his most famous bet in last 15 years. In his early 60s, what could be that bet for Raamdeo Agrawal?
Raamdeo Agrawal: My bet is all my own products and one or two stocks which I own personally. Now one other thing is that I want to buy a stock only forever. But I do not want to do from zero date. Once the company becomes of some size say Rs 10,000-15,000 crore turnover, maybe Rs 5,000 crore, so I do not have to test whether it is good or bad, the business model is right or not. So, once that is tested, if I like the guy and I like the business, I want to buy small chunks for ever types.

The inspiration came from AU Bank. We bought it at say Rs 1,400-crore valuation and I am still holding it and now it is Rs 40,000-45,000 crore market cap company. Whatever be the short-term challenges of the sector or the bank or whatever, the journey is very long and we have to sit through. For three-four years, we have not made any money out of that when the market is just booming. I have patience now, I have a lot of patient capital, so I can sit in a business which is a fantastic long term but very challenging short term. That is the spot where you will get good quality business at reasonable price.

So, higher uncertainty and higher margin of safety is the combination you look at? When there is uncertainty you get good value and that is the time you want to buy.
Raamdeo Agrawal: Yes, so I want to buy tested good business run by good management, but today passing through some headwind because good business also have a headwind. I have seen enough headwind in my business, today it is tailwinded, but there are headwind and headwind is punished by the market big-time. Today deposits are moving away from banks to the capital market.

It is there in the FM interview, it is there in the RBI interview everywhere, it is a big subject, I do not know how they will pass through this, but this transition is real. So, see what is happening on the capital market side and what is happening on the banking side, but then these are all passing phases. The nation has to find a way – enough credit, enough liquidity has to be there for the banks to lend to the corporate world, otherwise just the equity is not going to solve the problem.

So, we have to have a longer term understanding of the business and the management, more importantly management because in the longer run businesses remain good, but if the management or the jockey is not good, then also there is a problem. So, when the combination of good business and good management come, then you can sit long term. India is a compounded story. What have we not seen? Forex crisis, Kargil crisis, atomic bomb crisis, Y2K crisis. We have seen everything. We have had 30 years of coalition government. So, we have seen the political crisis, social crisis, military crisis, famine, flood.

Now, we have $650 billion of foreign exchange reserve. Every week we are getting $6-7 billion. The world is looking at India as one of the fastest growing large economies and the base is there now. See, for everything you need a base and now we are with $4-5 trillion of economy, $5 trillion of capitalisation. Nobody can ignore us. Even China someday has to accept that and be honourable neighbours. So, everything is going good. The India story is compounded story. Past has been compounded. There is no reason why the future will not be compounded and in that future compounded story, we have a lot of businesses which are compounded and within them, the good managements they will have a compounded story.