Large-caps will continue to lead rally: Avendus Capital's Andrew Holland

Valuations appear high in some sectors as a small number of stocks dominated the index last year, said CEO Holland

Asia, led by India and China, could be the growth engines of the world in the next four-five years, says Andrew Holland, chief executive officer, Avendus Capital Public Markets Alternate Strategies. In an interview with Ashley Coutinho, he says the biggest risk facing the global economy right now is the uncertainty surrounding the efficacy of vaccines and the time it will take to distribute and inoculate everyone globally. Edited excerpts:

Indian equities are at all-time highs. Is the rally divorced from ground reality?

Valuations appear high in some sectors as a small number of stocks dominated the index last year. Stocks in the FMCG (fast-moving consumer goods), IT (information technology), and pharma space, for example, are trading at high PE (price to earnings) multiples after last year’s steep run-up.

But it’s not something I am overly worried about. Because we may finally see a broader rally as the economy recovers and investors gravitate towards sectors such as banking, industrials, energy, and consumer discretionary. That’s where you are going to get bigger upgrades in earnings and returns.

Investors, however, will need to temper their expectations of returns. If you assume an earnings growth rate of 25 per cent in FY22 and 20 per cent the year after, then we could look at 15-20 per cent returns from equities over the next fiscal year.

Shall we see a strong rally in mid- and small-cap stocks this year?

Large-caps will continue to lead the rally until we see evidence of the economy recovering. They are also the ones grabbing market share, something that is expected to continue for the next six months. So, I would rather stick to the large-caps at this point. Besides, any rally in the mid -and small-cap space will be very stock-specific.

What is your view on corporate earnings?

Lower employee expenditure and lower raw material costs have helped boost margins in the last two quarters. I don’t expect this to continue because higher commodity prices, advertising spends, and employee costs will likely eat into margins.

What do you expect from the Budget?

The government may focus on infrastructure in the Budget in a bid to help kick-start the economy and lower unemployment. That is good for commodity firms.

Investors worldwide are pricing in a return to normalcy. Are there good reasons to be optimistic?

The number of virus cases globally is higher than what it was last year. But we may not see the kind of earnings or GDP downgrades we saw last year because there are expectations that vaccines may help bring the pandemic under control. The best-case scenario is that the US, the UK, and the rest of Europe will come out of the pandemic by April, and the world will probably grow at 4-5 per cent this year. The end of the pandemic may unleash a wave of spending, be it on such things as holidays, luxury goods, or services. If you look at the lockdown scenario last year, everyone tried to get back to normal as quickly as possible, which is probably why virus cases are so high at the moment.

What are the risks facing the global economy now?

The biggest risk is the uncertainty surrounding the efficacy of vaccines and the time it will take to distribute and inoculate everyone globally. Second, the global economy will also be affected if Joe Biden as US president takes a harder stance on China or if China starts to tighten again and clamps down on imports. Third, inflation rates could surge faster than anticipated if people go on a spending spree all at once. If that happens and central banks pay heed, then markets worldwide will start to worry about global tightening. Lastly, Angela Merkel, chancellor of Germany, who held Europe together, is expected to step down this year. That could have repercussions for Europe.

Analysts expect emerging markets to do better. What is your take on this?

Asia, led by China and India, could be the growth engines of the world in the next four-five years. China grew at about 6 per cent last calendar year and may post 8 per cent growth this year. India is expected to show negative growth of 6-8 per cent this fiscal year and is anticipated to clock double-digit growth in FY22. One of the key growth drivers will be the spending power of millennials. The US has about 60 million millennials right now whereas in India and China the number is in the region of 320 million each. So spending power will be concentrated in these two countries. We could easily see flows of $10-15 billion from emerging markets coming to India this year.

What are your views on the greenback?

The dollar will remain weak because the US’s debt-to-GDP ratio is over 120 per cent. The Fed will need to keep interest rates low over the next six months at least. Also, investors will look beyond the US and Europe for growth and yields. And Asia is well-positioned in this scenario.