Valuations elevated, but earnings growth provides comfort: Anish Tawakley

India is poised to perform well, even in the face of a potential slowdown in the US economy, thanks to robust domestic demand fuelled by construction and homebuilding activities, according to ANISH TAWAKLEY, deputy chief investment officer, equity, ICICI Prudential Mutual Fund. In an email exchange with Abhishek Kumar, Tawakley expresses confidence in domestic cyclicals driving future performance. Edited excerpts:

Most analysts are factoring in a slowdown in the US, even if it manages to make a soft landing. In that case, is there a risk of spillover to the Indian economy?
 

I would make two points. First, we believe the US economy is likely to remain strong. Second, even if the US economy were to weaken, domestic demand should sustain the Indian economy.

We have consistently held the view that concerns about the US slowdown were overdone, and this perspective has played out.

The Federal Reserve has successfully managed a soft landing; inflation has moderated, and the employment situation remains healthy.

Looking ahead, we also believe the US economy can avoid a recession. Specifically, there are signs that homebuilding activity in the US is picking up, and if this trend continues, a recession is unlikely.

In India, we expect construction and homebuilding activity to remain robust. This should create a virtuous cycle, generating both jobs and demand for other sectors as well.

Given the high starting point for Indian equities from a valuation perspective, is there scope for further upside? What could be the positive triggers?
 

Market valuation needs to be seen in the context of the earnings outlook. If examined purely from a price-to-earnings or price-to-book context, the largecap multiples appear slightly expensive relative to history. However, the crucial factor here is that the earnings outlook today is better than historical trends.

So, if someone remains invested for three years, then returns — driven by earnings growth — can be reasonable even if there is a marginal compression in multiples. The same cannot be said about the smallcap and midcap space, where valuations appear stretched, and the risk/reward ratio is unattractive.

What are your key takeaways from the Interim Budget from an equity market perspective? Will it lead to any change in your fund management strategy?
 

From an economic and market standpoint, fiscal policy should be countercyclical.

As private spending picks up, government spending should moderate. The Budget does a good job when seen in this context.

ICICI Prudential Mutual Fund had a significantly higher allocation to automotive sector stocks vis-à-vis other fund houses at the end of December. What are you bullish on in the sector?
 

Automotive is one of the sectors that experiences strong demand in an economic recovery; as incomes rise, automobile demand picks up. Within the automotive sector, we would expect both passenger vehicles and two-wheelers to see good demand growth. Further, we anticipate the lower ends of the market to also gather momentum as recovery broadens out.

From a business cycle point of view, which other sectors are in the growth or recovery phase? Is any sector moving out of the growth phase?
 

Our sector preferences reflect our view of the economy. Given that we expect a cyclical upswing in the economy, we have a preference for domestic cyclical sectors — sectors that are expected to see a significant swing in a recovery. These include industrial and capital goods, cement, automotive, insurance, and asset management companies.

Normally, at this stage, we would have been positive on banks, but that is not the case this time because the competitive intensity in that sector is very high. Also, we have some concerns about the unsecured credit segments.

We are relatively cautious about fast-moving consumer goods and information technology.

What is your recommendation to investors from an asset allocation point of view?
 

Largecaps offer a reasonable margin of safety compared to smallcaps and midcaps. Investors who wish to add equity should focus on offerings such as largecap funds, flexicap funds, business cycle funds, or hybrid-category funds.

One can also consider hybrid strategies for lump sum investment, given their ability to invest across multiple asset classes.