Dhaval Gala, Fund Manager, Aditya Birla Sun Life AMC Limited (ABSLAMC)

8 Jun 2023 , 05:34 AM

What is your outlook on markets?

A host of economic indicators suggest that the economic recovery is broadening – GST collections touched all=time highs and came in at Rs. 1.87 lakh crore, PMIs continue to be in expansionary phase with PMI Services at multi-year highs, capacity utilization levels inching upwards, recovery trackers signaling the strong recovery taking place. Indicators that are weak are external such as exports.

CPI slowed to 5.66% y-o-y in March driven by broad based moderation. Even though the proportion of basket experiencing high inflation remains higher than LTA, it showed recovery on a M-o-M basis. Core inflation meanwhile moderated to an 8-month low of 6% and remains a key monitorable for RBI.

WPI inflation, which has been on a downward path in recent months, eased to a 29-month low of 1.3% YoY. With commodity prices easing, imported inflationary impulses are fading and inflation is domestically driven now.

Private capex is yet to meaningfully take-off despite the capacity utilization above LTAs and cleaning up of balance sheets at both lenders and borrowers.

FMCG companies are reporting volume contractions in rural areas, and with weather forecasts predicting 96% LPA rainfalls with chances of El Nino conditions, rural recovery is an area that will be a monitorable. However, high reservoir levels provide comfort as rainfall deficiency can be met from these. All eyes will now be on the next update on El Nino probabilities. Pick up in construction and informal activity in urban areas will be positive for net income/employment for rural India. The same is visible in the declining jobs demanded in MNREGA.

PSUs have had a strong run up in 2022, is this trend sustainable?

We are happy to see the PSU theme outperform in 2022 after sighting a cyclical investment opportunity in 2019 on account of decadal low stock valuations, strong balance sheets with high ROEs and steady cash flows from operations, along with high dividend pay-outs. We remain positive on PSU banks, defence and power and believe re-rating could continue in these sectors.

PSU Banks: PSU banks are well positioned to deliver better credit growth, sustain market share, aided by low NPL cycle. Thus, earnings could improve and deliver best decadal high ROEs with reasonable valuations. We estimate the top seven PSBs to report a PAT of Rs. 1.3 trillion in FY25 versus a loss of Rs. 594 billion in FY18 thereby driving FY25 estimated RoA/RoE to 0.9%/14.2%, respectively.

 

Defence and railways: We remain structurally positive on government spending and policymaking in the defence and railway sectors over the next three to five years. In railways, the government’s focus is expected to shift from capacity building to equipment procurement. Increasingly, we also believe the government’s focus on growing exports in both defence and railways should start becoming visible in the next one-two years.

Power: In our view, there is a need for coal/hydro power capacity addition to meet the peak power demand and thus remains constructive in this sector. Power demand in India will likely grow by 10 GW per annum, which requires 35 GW of renewable capacity addition compared to capacity addition of 15 GW in FY22.  Increased renewable capacity addition will need requisite upgrades in the transmission system as well as setting up of Green Energy Corridors (Rs. 2.4 trillion opportunity over the next decade), even as privatization of the extant distribution systems will lead to higher investment in that segment. Overall, we expect power sector capex to increase to over Rs. 1.4 trillion by FY25 substantially over Rs. 1-1.2 trillion in the recent past. Accordingly, capex growth will be led by private sector participation in renewable generation, followed by investments in inter-state transmission by both PSUs as well as new private participation, and lastly by private sector entry in distribution segment. The biggest beneficiary of the entire cycle will be NTPC, and Power grid. Cheap valuation + Higher dividend yield + earnings growth on future demand are the key thesis for our investments in this space.

Overall, remain constructive on India’s economic growth story in the next few years and that bodes well for PSU companies.

What is your observation on ABSL PSU Equity Fund’s performance during market volatility?

Select sectors in the PSU theme that will continue to do well for the next 2 years. While Energy space continue to do well in near term but for next 2 years we believe Banking, Power, Metal, Defense spaces will do wonders.

Aditya Birla Sun Life PSU Equity fund has over 33% exposure in the energy sector. How do you see energy stocks' performance going forward?

We have combinations of higher dividend yield plus tactical play in our Energy portfolio. Upstream companies will continue to delivery healthy dividend yield (7-8%) coupled with growth. While our strategy of selecting OMCs as tactical Idea is doing well and generating 12-15% return. Given the weaker global demand, both Crude Oil/Natural gas prices are favorable for showing good earnings in ensuing quarters in OMCs and Natural gas space. Moreover, valuations are very cheap versus other sectors which gives comfort for holding longer. 

In which PSU sectors do you see stretched valuations and why?

In my view, although we have seen re-rating in PSU banking stocks but given the PSBs’ balance sheet is clean and earnings momentum to remain strong, we see reasonable upside in selecting PSU banking stocks as well. Similarly, constructive in power sector stocks because of cheap valuation + Higher dividend yield + earnings growth on future demand are the key thesis for our investments in this space. 

What are the key downside risks for PSUs from here?

We remain constructive on India’s economic growth story but any derail to growth or political instability (as election year new year) are a key risk for PSU companies as well (core to the economy).