Now isn't time to take calls on asset allocation: Vetri Subramaniam

He is the new Group President and head of equities at UTI Asset Management

In his first interview after assuming office as Group President and head of equities, UTI Asset Management, Vetri Subramaniam spelt out some of his concerns on Indian equities. He tells Hamsini Karthik that while valuations aren’t frothy, it is certainly outside the comfort zone. Edited Excerpts:

With the Sensex at over 32,000 some are calling it signs of froth. How you read these signals?

Numbers shouldn’t matter as much as valuations should. From that perspective, India is certainly no more a cheap market. It is a market in which valuations have moved up quite a bit. From mid-2013 when India was reckoned as ‘fragile five’ and we had the currency crisis, the market has more than doubled. But the question is whether earnings have also doubled. We’ve seen single digit earnings growth in the past 3-4 years. While I don’t think valuations have reached a stage where you can call it absurd, it is slightly outside the comfort zone. There are several factors that could cause acceleration in earnings but the timing remains an unknown. If earnings growth doesn’t pick up it will cause a problem for the market as we have gone up too fast ahead of earnings. The other challenge is a lot of the positives going ahead are already priced in.

The popular counter argument, when questioned on earnings growth is that of liquidity. Domestic investors are doing their bit to ensure there is enough money supply into equities...

Liquidity is only telling you what is the appetite for a particular asset class is. It doesn’t tell you if the asset class is appropriately valued. But along with liquidity, there will be adequate supply also. Primary issuances apart from the initial public offerings, such as qualified institutional placements, have massively picked up. The large secondary deals by the government are being easily bought into. So this is sucking up some amount of liquidity. Raising money while this liquidity is available is also important for the growth cycle of the economy. But ultimately liquidity alone cannot drive the market. Earnings growth is equally important. The risk from earnings is omnipresent. For the last six years, we’ve been predicting 15 per cent earnings growth and that hasn’t happened till now.

In fact few foreign investors are already questioning the investment rational over India...

It’s not just them who’ll have to explain to their clients, but even for any one whose clients are investing in Indian equities. At this level of valuation, a big shift in asset allocation toward equity comes with the risks from valuations and the likelihood of lower forward returns. As for domestic investors, they are underinvested in Indian stocks. So to that extent they need to gradually ramp up their exposure. As long as they do so through SIPs, they would be able to withstand the drawdowns on the market.

Is that why you don’t fear a redemption pressure as seen in the past?

The quality of underlying flows has improved dramatically due to SIP flows. But, there is no such thing that redemption pressure will not occur again. Just that cause and timing of it is tough to call.

How much of GST disruption to earnings is priced in today?

There could be one or two-quarters of disruption; we don’t know that yet. So in some sectors, GST will cause earnings hit, we don’t know if it is one time or beyond that. Certain companies may attribute some one-offs to GST in FY18. The markets will treat some of these disruptions as transient. In the last three months, there is a clear downward trajectory happening to earnings forecast – about 1 – 2 per cent cut in the last three months. The only other issue is that this version of GST is different from the theoretical model we were talking about two years ago, which is one simple tax rate, no multiplicity of taxes and so on. So the benefits will be achieved over time as we move towards an ideal state.

Are you in favour of a rate cut now?

The question is, whether you cut interest rates are you likely to see a credit growth and capex recovery; the answer is unlikely or no. But if the question is whether we are at the correct interest rate based on what the inflation numbers are, the output data etc., then there is room for a rate cut. I don’t think we are at appropriate levels of interest rate given where inflation is.

Would you be a contrarian picking IT and pharma stocks now?

The two sectors have some of India’s best-managed companies which have demonstrated that they can compete with global companies. They have superior return ratios and are globally competitive. The IT sector is going through a structural change. They have transitioned through several such waves starting with body shopping and Y2k. Now we are seeing another phase of technology evolution. Some companies will survive and some new names may emerge. For pharma, US market has been an important driver in the last few years. But my belief is, going ahead, domestic business will become the bigger driver. Investment choices are evolving, due to new listings and a larger healthcare sector including services is an attractive area.