Vijay Kumar Gaba

Friday, November 1, 2019

Keenly watching the Quality vs value debate

Presently, the collective wisdom in Indian stock market appears divided at least on two issues over the consideration of appropriate equity investment strategy.

The first point of division is over the sustainability of the stock markets at the present levels.

A smaller but influential segment, which primarily includes economists, development bankers and strategists, believes that the macro conditions in Indian economy may not improve materially from the current level at least till FY21. The political and fiscal constraints shall limit the government's ability to stimulate the economy through fiscal incentives and material increase in infrastructure investments. The private investment may not see any significant improvement in the absence of large scale new employment opportunities; occurrence of which looks improbable unless radical reforms in labor and land laws are executed earnestly and immediately. Regardless of the initiation of the resolution process for many large struggling businesses in the core sectors (power, roads, cement, steel, mining etc), the financial stress remains elevated and is percolating to other sectors and households. Under these circumstances expecting any material improvement in corporate earnings would be unreasonable. The recent performance of the Indian equities which is mostly based on PER re-rating may not be sustainable and a correction may set in 2020 itself.

The larger segment, comprising of asset managers, analysts, large investors, and intermediaries, believes that the measures already initiated by the government, e.g., GST, IBC, RERA, corporate tax rate restructuring, etc. shall result in marked improvement in the macro as well as micro environment. Initiatives to encourage foreign investment in manufacturing and the government's thrust on building massive infrastructure shall generate large number of employment and demand for private investment as well consumption. Lower interest rates shall ease the financial stress; and resolution of stressed cases shall bring many valuable idle assets back into the business. This group is quite optimistic about the opportunity being provided by the Sino-US trade conflict, assuming that India shall be able to attract many western conglomerates that may be looking to relocate from China to other friendly jurisdictions. The corporate earnings therefore should see a steady rise from the present levels and may grow upwards of 20% in FY21.

The second and more intensely debated point of disagreement is about the choice between the large cap stocks (quality) vs the mid cap (value & growth) stocks. The debating parties here are mostly analysts and fund managers. The market appears vertically divided on this issue. The number of people arguing from both the sides is almost equal.

The group favoring stocks with expensive valuations but higher visibility of earnings growth, sustainability, quality of balance sheet and product and technology leadership argues that the present strength of these companies shall automatically enable these companies to dominate the market in the future helping these to attain higher and faster growth trajectory. The apparently expensive current valuations are therefore totally justifiable and should not be a matter of concern for the investors.

The other group however finds a bubble in the large cap valuations, as most of these stocks have failed to deliver a growth commensurate with their valuations in past many years. In their view, the assumption of faster and higher growth trajectory therefore is mostly untenable and needs to be rejected. This group sees tremendous value and growth opportunities in the second tier companies which have delivered consistent results in challenging environment.

I am watching this debate keenly. However, so far I have not found any argument compelling enough to inspire a change in my investment strategy.

Thursday, October 31, 2019

Key takeaway from Diwali sales

This Diwali season was seen as critical from the economy as well as financial markets view points. Most businesses observers, analysts and policy makers were keenly watching the festival consumer demand to assess the future direction of the economy and markets. The policy makers were especially interested in assessing the impact of the various stimulating and corrective measures taken in past few months to boost demand.

It will take some time to know the real picture. However, what we know from the news snippets and anecdotal evidence collected from the market visits and speaking to the traders and shop keepers in past few days, the season has been a mixed one.

The following key trends may be noteworthy in this context.

1. The move from the unorganized to the organized retailing may be happening at much faster pace than earlier estimated. The experience is somewhat similar to the mobile telephoney - where almost everyone waited to see the growth till it actually happened. Even the telecom companies were surprised by the depth and width of the subscriber growth.

In retail trade also, defying the logistic challenges, the e-commerce companies have penetrated the hinterlands with great force. Amazon and Flipkart recorded a rise of 33% in Diwali sales this year. Amazon achieved 50% market share in merchandise, while Flipkart had 73% in appliances. Amazon reportedly delivered goods to 99.4% of India's pin codes of which 88% customers were from non metros. (see here)

Future group reported that "Frequent shoppers were outnumbered by those seen as more conservative and typically don’t splurge as much." (see here)

Most of the small unorganized retailers even in posh metro markets bemoaned a dull festive season.

From stock market view point this is perhaps good news. Though overall economic impact would be negative during the transitory phase as a large majority of marginal businessmen go out of business.

2. Gold sale was estimated to be lower by up to 40% from last year (see here). However, the anecdotal evidence indicates to a huge shift from the smaller jewelers to the large corporate jewelry brands. From the stock market view point therefore this could be a good news as the listed players like Titan, PC jewelers etc may report decent growth despite poor overall gold demand.

Lower preference for gold is a good news for economy (lower CAD) and markets (better growth for the large corporate jewelry retailers.

3. Auto dealers reported decent sales. Some car dealers indicated that inventory that has piled up has diminished considerably and discount numbers have also eased considerably in past 10 days or so. The Chairman of Mahindra group was reported as claiming double digit sales growth during Diwali. (see here)

4. Dry fruits and confectionary sales were reportedly muted as corporates scaled down gift values considerably. This may not have any negative implications for the stock markets as no major player is listed. However it may again be good news for economy (lower imports and hence lower CAD) and lower A&P spend of corporate and therefore better profitability (though only marginally).

From these organized retail and revival in auto demand could be derived as two investment themes to further work on.

Friday, October 18, 2019

Household consumption trends in India

In my discussion on household economics in past two days, I have discussed the changes in the composition of household savings, debt and avenues for deployments of savings. (See here and here) over past few years. In the concluding part, I would like to highlight some interesting trends in the household consumption in past 5-6years.

Household expenditure in India has grown at a rate of ~13% CAGR over 6years during FY12-FY18.

(i) The expenditure on health has recorded the highest growth of 17.5% during this period. The available data does not clarify if the rise is due to rise in affordability or rise in incidence of disease. However, the anecdotal evidence suggests that it is a mix of both; though the rise in incidence of disease may account for almost three fourth of the incremental expenditure on health.

(ii) Miscellaneous goods and services now account for one sixth of the total household expenditure, and have the highest share in consumption basket after food. Personal care expenditure accounts for almost 8% of this category.

(iii) Clothing and footwear account have the same share as education. Footwear is growing at the rate of 16% CAGR. Affordability is one major factor in this. But a more significant factor is the social reform. A lot of people from socially backward communities who were traditionally not allowed to use footwear are now using it.

(iv) Household are spending almost double the sum on communication as compared to recreation and culture. Spending on festivals etc seems to growing at much slower pace.

(v) Food and non-alcoholic beverages account for just one fourth of the total household expenditure. The inflation basket needs to take cognizance of this fact. In this category Meat is the fastest growing item, growing @16% CAGR. Seafood and Eggs are also growing over 13%. Milk, edible oils, Sugar are the slowest growing categories. Non Specified food items (Junk Food) is growing at 20% CAGR.

(vi) Alcohol, tobacco and narcotics account for 2% of the consumption basket. But the fastest growing element in this is narcotic which is growing @14% CAGR.

(vii) Expenditure on transport accounts (15%) for more than health, education and communication taken together. It is growing at a faster rate of ~14% CAGR vs overall expenditure growth of ~13%CAGR. The fastest growing element in this category is "cost of operation of personal vehicles", which is growing over 16% CAGR. Poor public transport and misplaced priorities of household could be responsible for this trend.

(viii) Housing (rent, water, electricity) and house maintenance (furnishing, appliances etc) account for one sixth of the household expenditure and growing in proportion to the overall expenditure. In this category, Furniture, carpets and home textile is the fastest growing segment. Electricity and Water expenses are growing 13-15% CAGR.

(ix) Education now accounts for ~7% of total household expenditure and this expense is growing ~15% CAGR. The consumer inflation basket may not be accounting for this category appropriately.

A deeper study is needed for this category. The high growth rate in this category may not necessarily mean higher affordability or improving skill conditions. The anecdotal evidence suggests that "private education & coaching", which essentially indicates to abject failure of public education system, may be a significant part of the expenditure on this item.

(x) The slowest growing consumption category for households is mineral water, soft drinks & juices.

Thursday, October 17, 2019

Indian household finances

Continuing from yesterday (see here).

As per the latest data available from CSO, the demonetization appears to have a material impact on the financial savings of the Indian household. The composition of financial savings deployment has changed substantially in the period following demonetization. The currency in hands of people has seen a sharp jump mainly at the expense of bank deposits.

Another interesting feature of the changes in household savings deployment is rise in private financial securities, e.g., shares & debentures of private companies and units of mutual funds. This component of household savings deployment has seen decent growth post FY16. This trend has in fact been much talked about in popular discourse.

Three key take away from this trend are -

(i) Most of the growth in this component may be coming from shift of bank deposits, confirming the trend that corporates are now increasingly seeking funds directly from public as against banks (see here);

(ii) Stagnant real wages in private sectors might be forcing people to look out for higher return on savings; and

(iii) Despite the recent rise in the proportion of private securities component in household savings, the ratio is still far below the highs seen during mid 1990s or even during years immediately preceding the global financial crisis.

The key highlights of the components of household savings could be noted as follows:

The currency component in household savings almost doubled to 25% of gross financial savings (GFS) in FY18, from 13% of GFS in FY16.

Prima facie it appears that not only the entire currency that was deposited in the banks during demonetization (FY17) has been withdrawn from the banks in subsequent year (FY18), but the households are keen to hold more currency in hand rather than deposit in the banks. This could be due to sharp rise in working capital requirement in the self owned cottage, micro and small scale enterprises.

The bank deposits surprisingly saw a deep contraction to ~28% of GFS in FY18, from 43% of GFS in pre demonetization period. This is rather counterintuitive.
The deployment in private securities (shares, debentures and mutual fund units) increased to 3.4% of GFS in FY18 from 1.9% of GFS in FY16. This rise came mainly from contraction in bank deposits from 43% in FY16 to 28.6% of GFS in FY18.
The financial security (pension funds and provident funds) savings have grown steadily from 10% of GFS in FY11 to ~20% of GFS in FY18.

However, insurance has not seen any sustained change in household savings deployment. Insurance payments accounted for 21% of GFS in FY11 and ~19% of GFS in FY18.

High real rates in the economy in past couple of years are fully reflected by the sharp increase in the small savings and other government securities like KVP etc.

This component has been steadily more than 4% of GFS during FY16-FY18. Incidentally this is the period when the government's reliance on small savings to fund fiscal deficit has risen the most.

See this space for trends in household consumption trends.