'Difficult to argue for material upside in the market from current levels'

Any delay or disappointment on earnings recovery in FY22 can mean downside risk to the market, according to Badshah

It has mostly been a one-way street for the markets from their March 2020 low. TAHER BADSHAH, chief investment officer (equities), Invesco Mutual Fund that has nearly Rs 24,000 crore worth of assets under management (AUM) tells Puneet Wadhwa that the sharp rally across sectors does reflect the enthusiasm around reopening of the economy and resultant restoration of demand. Edited excerpts:

Is it safe to assume that the markets are out of the woods now?

After not only a strong recovery off the March 2020 lows but even the more recent rally of nearly 15 per cent in the frontline indices over the past six weeks, we think the market is now evenly poised. It adequately reflects the upside from return to economic normalcy, as also the fact that the duration of the pandemic is likely to be fairly prolonged given rising rate of infections, and would thus unquestionably lead to some form of permanent loss in economic output in the foreseeable future. Hence, it is difficult to argue for material upside in the market from current levels.

Notwithstanding the strong recovery of the markets, we would still attach a very low probability of equity markets globally as well as in India re-testing the lows seen during March 2020. That’s because there is evidence of control over the pandemic across many parts of the world due to lockdown and social distancing initiatives over the last three – five months. Strong fiscal and monetary stabilisation measures have been initiated by various governments across the world since March lows and varied efforts at treatment and cure of the virus at multiple medical institutions around the world are currently in progress. That apart, economies globally are attempting to emerge from a lockdown. It would take significantly bad news, economically and otherwise, for markets to revisit recent panic bottoms.

Are the markets underestimating the pain in the economy?

India should see support out of better rural prospects and a strong agricultural economy besides rapid moderation in interest rates in recent times. However, weak urban demand given more intense and extended lockdowns will likely mean the overall economy should see more of a U-shaped recovery over the next four – six quarters. While markets are not attributing much to FY21 earnings, any delay or disappointment on earnings recovery in FY22 can mean downside risk to the market.

A host of closed ended schemes took a beating due to exposure to mid-and small-caps. Your views on this market segment?

Mid-and small-caps in the past did tend to play catch-up after a bout of significant underperformance to the rest of the market, and this time has turned out no different. The first round of recovery after any large economic crisis belongs to the best quality companies, be it in the large cap or the mid/small-cap segments. Stronger evidence of a ‘back to growth’ economic cycle can broaden the market and can even result in material outperformance of stocks in the mid/small cap space.  

What has been your investment strategy since March 2020 lows?

We currently have a balanced representation across a wide swathe of sectors of the economic spectrum across our portfolio strategies. Our positioning at an aggregate level is neither too defensive nor very aggressive. We are presently overweight consumption, telecom, healthcare and industrials whereas consumer staples, oil & gas, banking & financials and technology are neutral to underweight.

Consumption and financials will likely see the sharpest recovery in the near-term due to their under-performance. Should one see a more sustainable market rally into 2021 and beyond, it will once again be centred on financials, but broaden out to include even industrial and infrastructure sectors. Telecom and technology services will become a larger part of the ecosystem and should command a higher share of the market than today over the medium-term.

So, is it a good time to buy financials then?

While the extremely tight conditions around loan repayments (moratoriums) and liquidity for NBFCs have eased in the recent weeks with the restart of economic activity, environment for loan growth is likely to remain fairly subdued for some quarters given a more defensive consumer and muted economic activity. Our current preference is for NBFCs that have a larger share of secured versus unsecured lending, strong capital adequacy and reasonable valuations. Overall, we have a higher exposure to private banks versus NBFCs within the BFSI space.

Is there any evidence of a pent-up demand getting released over the next few quarters as the economy limps back to normalcy?

Economic activity in the month of June appears to have begun to normalize. As per some estimates, economic activity has scaled back to nearly 75 per cent of pre-Covid-19 levels even as the second half of June was found to be weaker than the first half, given commencement of the monsoon season and re-imposition of lockdowns in certain regions. Sharp recoveries in auto sales, electricity consumption, railway freight traffic, volume of e-way bills etc. all partly reflect pent-up demand but are yet a fair distance away from full normalcy. Moreover, while supply-side activity has ramped up quickly across industries, demand-side strength will only become visible with the performance of corporates during the first half of financial year 2020-21 (H1FY21). It may be fair, however, to say that the sharp market rally across sectors in the recent past does reflect the enthusiasm around reopening of the economy and resultant restoration of demand.