Vijay Kumar Gaba

Tuesday, March 8, 2022

When pain becomes relief

इशरत-ए-क़तरा है दरिया में फ़ना हो जाना

दर्द का हद से गुज़रना है दवा हो जाना

— मिर्ज़ा ग़ालिब

(Aspiration of every drop of water is to get extinguished by immersing itself into the ocean. For a person who is hurt in love, extreme pain is the only relief.)

I interacted with a small but reasonably representative sample of investors in the past few days. The interactions were in person meetings, discussions over telephone and WhatsApp chats. We discussed a wide range of topics that are current in investors’ memory. The idea was to understand their current outlook on markets. From my discussions I have concluded that currently a majority of investors are ambivalent about their investment outlook and strategy. They are perplexed, greedy, fearful and relieved all at the same time.

The following are some random thoughts based on my latest interaction with a sample of investors.

Some random thoughts

It is customary to read and quote investment classics during market turbulences. However, in my view these classics are more relevant in the times that could be explained by rational thinking. For market situations where the investors’ psyche is overwhelmed by greed, fear, anger, disillusionment, delusion, etc., philosophy (of life not money) provides better answers. I find that the present market situation is one of those situations where investors’ may be better looking for guidance in philosophy books.

In this digital era of human civilization, the life of common people is significantly influenced by the media, especially social media. Our brains are increasingly becoming like RAM (Random Access Memory) of our computers. It is a playground of active dataset, which gets erased as soon as the new dataset becomes active. It works strictly on GIGO basis (Garbage in Garbage Out). If the feedback of my sample is any indication, the activity of investors in the markets is aptly represented by the messages they send/share on their social media timelines or chat boards.

The activity of a common man on social media is a good indicator of his current state of mind. I find an unusual rise in funny memes relating to the markets, portfolios and investors’ misery. Even seasoned investors and advisors are sharing jokes and memes about the serious drawdown in their portfolios; as if they are vindicating what legendary Mirza Ghalib said 200 years ago. Once the drawdown in the investment portfolio goes beyond the tolerance limit, it becomes a relief.

Many younger investors are perplexed; especially those who have started investing on their own in the past 2years, and experiencing their first major market correction. These youngsters who have been learning investment from the benevolent guides on social media and star investors frequently seen on electronic media, are already questioning what they have learned in the past couple of years. For example, consider the following inquisitions:

· I was told that the markets are decoupled from macroeconomics. But now all experts are warning about inflation, current account deficit, policy rates, USDINR, GDP growth etc.

· I was told that this decade belongs to India. The Indian economy is the fastest growing economy and the pace of growth will accelerate even further. The government of India is doing all the right things to ensure faster growth in the coming decade. But the experts who were telling this are worried about the ruling party losing election in one state and advising caution.

· I was told that Electric mobility, ESG standards, clean energy etc. are the power themes that will drive markets in this decade. However, two weeks of spike in fossil fuel prices has made these themes redundant, rather than strengthening belief in them.

· I was told “Zomato, one of the top 5 unicorns of India, is a platform company which has successfully solved for convenience by connecting restaurants with customers. By using technology and a fleet of delivery partners, Zomato has created a capital light compounding machine which creates an eco-system wherein the best of the restaurants will make more money (as Zomato brings more customers driven by quality reviews/ratings) while customers enjoy convenience along-with right-quality product and delivery partners enjoy part-time income. Platform companies have ruled wealth creation globally. We believe, Zomato, as a platform and being category leader, will continue to drive outperformance in the food services industry in India.” But the stock is down over 25% from my buying price and now experts are telling me to sell.

A deeper inquiry suggested that most of these investors were overweight on new economy stocks, which have been the worst affected in this correction. They are not sure whether they should sell their current holdings at prices 30-40% lower than the cost of acquisition, or just stay put.

Many seasoned investors who started the discussion with the question “what should be done?”, were found swinging between “greed” and “fear”. From their experience they know that these are temporary turbulences and eventually markets will be alright. Thus they are seeking opportunities in this fall. However, the persistently negative news flow is making them fearful. The fear of losing capital due to further sharp drawdown is overwhelming. These people are thinking about selling and buying in the same breath.

Some of the global institutional investors who were “structurally” bullish on Indian equities are suddenly discovering that many developed markets may be offering relatively much better valuations than India. Some domestic fund managers are the most ambivalent at this point in time. They cannot afford to give a “sell” call publicly but in private discussions they are scared since the new “skin in the game” rule has put their own money at stake.

Overall, it appears that the process of bottom forming has already started. The fear (and indifference) shall soon overwhelm the greed and capitulation would befall. Till then enjoy the memes:

Friday, March 4, 2022

Boring vs Bear market

A barrage of bad news has made the market mood rather despondent in the past one month. The enthusiasm created by the “path breaking” budget did not last even for a whole week. Issues like macroeconomics (growth, inflation, current account, yields, INR), geopolitics (Russia-Ukraine), politics (state elections) and persistent selling by foreign portfolio investors (FPIs) have dominated the market narrative in the past one month. The trends in corporate earnings also did not help the cause of market participants.

While from their respective all time high levels recorded between October 2021 and January 2022, the benchmark Nifty is down ~11%; the second most popular benchmark Nifty Bank is down ~16%, the Nifty Midcap 100 is down ~14% and the Nifty Smallcap 100 is down ~17%.

In strict technical terms, Indian markets are still some distance away from a bear market. However, if I may use the Weatherman’s phrase “Indices are in correction mode, but feels like bear market”.

The tendency of the benchmark Nifty in the past one month indicates that the markets are putting up a strong resistance against the persistent selling pressure. So far a precipitous fall has been avoided; and the trends are not showing that Nifty will give up its resistance anytime soon. However, the same cannot be said, with as much assurance, about the small cap stocks, where the probability of sharp earnings downgrades (basically normalization of irrational exuberance) is decent.

One clear sign that the markets may not be anywhere close to entering the bear territory is the outperformance of cyclicals like metals, energy, textile, sugar, automobile etc. over the defensive Pharma, IT services and FMCG. Even if we look stock specific, the underperformance of traditional safe havens like HDFC group, Asian paints, Piddilite, Hindustan Unilever, Colgate, MNC Pharma, etc. indicates enduring risk appetite of the investors.

It could be argued that these safe havens are bearing the brunt of heavy FPI selling, who over owned these companies. But this argument may not fully sustain, since most domestic funds also like and own these stocks. They have however preferred to add cyclicals in their portfolios, indicating a higher risk appetite.

Another argument could be about valuation. Most of these safe havens were trading at relatively higher valuation, when raw material inflation and erosion of pricing power impacted their margins. A de-rating was therefore considered in order. This is a valid point but cannot fully explain the market trend. Most metal, textile and sugar stocks are also trading close to their peak margin and peak valuations. IT Services stocks have been sold heavily precisely on this logic.

Obviously, the market participants in India are not in a risk off mood as yet. How long this trend will continue is tough to predict at this point in time as the situation is too fluid and the negative factors clearly outweigh the positive factors.

My personal view is that once the global news flow gets fully assimilated and volatility subsides in next 6 to 8weeks, we are more likely to witness a “boring” market rather than a “bear” market in India.

The indices may get confined in a narrow range and market breadth also narrow down materially. The market activity that got spread out to 1200-1300 stocks in the past couple of years may constrict to 200-250 stocks.

The compounders or the boring safe havens are offering a decent valuation now after the correction. These may again return to favour. A few good men in the broader markets may get separated from the crowd of rogue boys and get the attention of the investors. There may be no clear sectoral trend. The leaders from all sectors may get favoured.

The giant wheel (continuous upper circuits followed by lower circuits) and roller coaster (high volatility) that excites the traders may stop, until it starts operating again once the sentiments and finances of traders are repaired.

Thursday, March 3, 2022

Growth pangs

The National Statistical Office (NSO) recently released national income estimates for 3QFY22 and advance estimates for the entire year FY22. The key highlights of the GDP data are as follows:

3QFY22 – Overall deceleration in growth

· GDP grew 5.4% yoy, despite a favorable base (3QFY21 growth was 1%).

· Private consumption witnessed decent growth of 7% in 3QFY22. But the public consumption expenditure growth was poor at 3.4% (3QFY21 at 9.3%).

· Capital expenditure growth was weak at 2% (2QFY22 was 15%).

· Industrial growth weakened to 0.2% vs. 7% in 3QFY21, mainly due to weak growth in manufacturing and electricity generation.

· Agriculture and allied sectors growth was also weak at 2.6%

· Service sector also grew at a slower rate of 8.2%.

· Nominal GDP grew 15.7%, against a contraction of 6.2% YoY in 3QFY21, highlighting strong inflationary pressure.

· Domestic Savings may have declined further to 24.7% of GDP (26% in 3QFY21).

· Imports grew (32.6%) much faster than exports (20.9%) resulting in wider trade deficit.

· Construction has slipped into contraction.

· On a trailing 4 quarter basis, nominal GDP is now 16% higher than pre Covid level, while real GDP is higher just by 1%. This trend is reflected in strong tax collections and Corporate profit data, despite weak real growth numbers.

FY22- growth estimates downgraded

· FY22 GDP is estimated to grow 8.9% (FY21 growth was negative 6.6%). Growth estimates downgraded from earlier 9.2%.

· The latest estimates for FY22 imply that 4QFY22 growth may be even slower at 4.8%.

What experts are saying?

Kotak Institutional Equities

GDP growth in 3QFY22 softened even as momentum remained steady driven by manufacturing, construction and financial/real estate sectors. We maintain FY2023E real GDP growth estimate at 8.1% (FY2022: 8.9%)….Growth is likely to be shaped by (1) marginal revival in private investment cycle, (2) medium-term risks to consumption, (3) reversal in domestic and global monetary policies, (4) moderation in global demand, (5) relatively muted fiscal impulse, and (6) supply-chain issues expected to continue for 6-9 months.

Heading into FY2023, we expect the services sector to gain momentum with most economic activities returning to normal with trade, hotel, transport, etc. (contact-based services normalization), and financial and real estate sectors posting steady growth. Industrial sector growth will likely continue on a firm footing with construction (real estate and government capex) and manufacturing sector growth remaining steady.

Overall, we factor in pulls and push factors such as (1) marginal revival in private investment cycle, (2) medium-term risks to consumption, (3) reversal in domestic/global monetary policies, (4) moderation in global demand, (5) relatively muted fiscal impulse, and (6) supply-chain issues expected to continue for another 6-9 months. The lingering geopolitical risks and its impact on various raw materials and commodities remain key risks weighing on the growth prospects. If crude oil prices were to sustain around US$100/bbl, we could see 45-50 bps of downside risk to our base case GDP growth estimate.

Edelweiss Research

The large miss in Q3FY22 GDP numbers, along with a weaker start to Q4FY22 has forced our hand to lower FY22 GDP forecast by 60bp to 8.9%. If our forecasts are met, then it implies FY19-22 real GDP CAGR growth of 1.8% with agriculture growth outpacing industry and services. Further, risks to outlook have only risen

First, rise in oil prices along with Fed tightening is likely to weigh on global reflation and thus India’s exports - lynchpin of recovery so far. Second, India too is facing a negative terms of trade shock, which could further weigh on the already weak domestic demand. Third, if Fed tightening and elevated crude stays, India’s BoP situation could deteriorate, making policymaking challenging (see link). What is comforting though, is that balance sheets of the banking system and India Inc are in far better shape than has been the case in the past.

Motilal Oswal Financial Services (MOFSL)

Details of GDP suggest that real consumption expenditure growth decelerated to 6.5% YoY in 3QFY22….Within consumption, while private consumption weakened to 7% YoY, overnment consumption expenditure slowed down to only 3.4% YoY. Real GCF (or investments) too weakened to 8.3% YoY in 3QFY22. Within investments, GFCF grew a mere 2% YoY as compared to a growth of ~15% YoY in 2QFY22. Additionally, faster growth in imports v/s exports led to a negative contribution of 3.2pp from foreign trade

The CSO has revised its FY22 real GDP growth estimate to 8.9% YoY from 9.2% YoY earlier. This implies that it expects real GDP to grow at 4.8% YoY in 4QFY22, in line with our expectation. With real GDP growth expected at sub-5% YoY, our fear of a slower recovery in India’s economic growth is turning out to be true.

ICICI Bank

Q3FY22 growth is at 5.4% versus our estimate of 6%. With this, we now peg our GDP growth forecast for FY22 at 9.1% (earlier estimate of 9.2%) with a downward bias on the back of geo-political tensions. CSO estimate is 8.9% implying Q4 growth of 4.8%. The downside emanates from higher oil and commodity prices which will be a drag on output and competitiveness. Global demand for Indian exports may also be lower as demand falls in Europe. Over the medium-term, we remain constructive on India’s growth led by manufacturing sector—PLI led investments and gradual increase in capacity utilization. Start-up ecosystem should continue to be a growth driver as well. Real estate sector is witnessing an improvement and IT exports will continue to scale up. Higher vaccination coverage will support growth in contact intensive services. We expect growth at 8.2% in FY23.

Bandhan Bank

The GDP growth of 5.4% in Q3 FY22 was lower than our estimated 5.7%. Strong government spending was not adequate to compensate for softer prints in case of manufacturing, construction and agriculture. During Q4 FY22, the economy faces headwinds like rising commodity prices, nagging patches of weather aberrations during key winter crop months, Covid third wave, and most recently major geopolitical uncertainty. Against this backdrop, the challenge for policymakers intensifies manifold to strike the right balance between supporting growth recovery and tackling inflationary concerns while ensuring financial market stability.

Yes Bank

The main drag on the GDP came from the sharp decline of net exports. Import of goods and services came at INR 10.2 tn - highest in the series so far. With oil prices elevated in Q4 FY22 so far and global growth momentum waning, the outlook for net export looks challenging.

On the industry side, the manufacturing sector remained weak. With elevated commodity prices and supply chain disruption squeezing into profit margins, the sector is likely to see further moderation.

Overall, RBI’s dovish twist in this month’s policy is reflecting through the GDP numbers. As such, we expect the RBI’s MPC to opt for a longer pause in repo rate and stance unless growth surprises on the upside.

We expect FY23 GDP growth at 7.6%. In our view, downside risks to the government's 2nd AE of 8.9% in FY22 remains on the table.

Remarks

The economic growth in India has been facing serious challenges for the past 5years. With rise in inflationary pressures, stagflation has also become a challenge. Even though the economy is not facing stagflation in technical terms, a large part of the population is struggling with stagnant or declining incomes and rising cost of living. Household savings are declining and debt is rising. This is certainly not a great augury for capex led growth, as is being targeted by the policymakers.

The geopolitical concerns may also cloud exports and put pressure on current account balance, further accentuating the inflationary pressures as the INR weakens.

Overall not a comfortable position, but given the strong forex reserve position, comfortable fiscal balance (on the back of strong tax collections) the chances of a crisis like situation are remote. Hopefully, this shall passé with minimal damage to the basic structure of the economy.

Wednesday, March 2, 2022

Su karva nu? (What to do?)

As I indicated last week (see here) to me markets are not looking good, at least for now. And it is definitely not only due to the latest episode of Russia-Ukraine conflict. This conflict has only added to the caution. My primary problem is the lack of adequate growth drivers for the Indian economy.

There is a virtual stagflation in the domestic economy, constraining private consumption. The exports have helped in the past couple of years to some extent. However, the higher probability of slowing growth in the western countries due to tightening monetary policies and the spectre of a prolonged geopolitical conflict in Europe and probable reorganization of the global order (political realignment, trade blocks, currency preferences, energy mix etc.) clouds the exports’ growth in FY23.

Another key driver of growth in the past few years has been public expenditure. The government made decent cash payments to the poor and farmers to support private consumption. It also accelerated the expenditure on capacity building, to compensate for the slower private investment. From the FY23BE it is clear that the government’s capacity to support the growth is now limited by fiscal constraints.

What does this mean for the equity markets?

In my view, the following ten themes have been the primary drivers of the performance of Indian equities in past five years:

1. Larger well organized businesses gaining market share at the expense of smaller poorly organized businesses. Demonetization, GST and Covid-19 have aided this trend materially. This trend has been seen across sectors and geographies.

2. Import substitution and make for exports. Many sectors like chemicals, pharmaceutical (API), electronics, food processing etc. have built decent capacities to produce locally, the goods that were largely imported. Some global corporations have increased their domestic capacity to address the export markets from India. Many Indian manufacturers have also built material capacity to address the export markets. The government has aided this trend by providing fiscal and monetary incentives.

3. Implementation of Insolvency and Bankruptcy and some ancillary provisions, gave impetus to the resolution of bad assets and material improvement in the asset quality of the financial lenders.

4. Persistently negative real rates, stagflationary environment, business stress for smaller proprietary businesses and significant losses in some debt portfolios, motivated a large section of household investors to invest in equities for augmenting their incomes and even protecting the savings.

5. Increase in rural income due to cash payouts by the government, higher MSP for crops, better access to markets etc.

6. Increasing popularity of digital technology, driving efficiency for traditional businesses and facilitating numerous new businesses (Etailers, FinTech, B2B & B2C platforms, incubators, etc.) that command significantly higher valuation than their traditional counterparts.

7. Overcapacity in infrastructure like Roads & power, where traditionally India has remained deficient, resulting in higher productivity and better cost efficiencies for businesses.

8. Aspirational spending of the Indian middle class outpacing the essential spending, resulting in higher discretionary spending.

9. Climate change efforts prompting higher interest in clean energy and electric mobility.

10. Cut in corporate tax rates leading to higher PAT for numerous companies.

To decide what to next, an investor will have to make assess how the current and evolving economic, financial and geopolitical situation will:

· Impact these drivers of Indian equity markets?

· Impact the earnings forecasts for FY23 and FY24, which basically hinge upon the operation of these drivers?

The assessment will also have to factor whether the impacts as assessed above, will have an endurable impact or it will be just a passing reflection.

In my view, it will just be a passing reflection and these drivers of the Indian equity market shall endure in the medium term (3 to4 years). Therefore, I would mostly be ignoring the near term turbulence and stay put. I would:

· Follow a rather simple investment style to achieve my investment goals. It is highly likely that this path is boring, long and apparently less rewarding, but in my view this is the only way sustainable returns could be obtained over a longer period of time.

· Avoid taking contrarian views.

· Take a straight road, invest in businesses that are likely to do well (sustainable revenue growth and profitability), generate strong cash flows; have sustainable gearing; timely adapt to the emerging technology and market trends, and most important have consistently enhanced shareholder value. These businesses need not necessarily be in the “hot sectors” and these businesses may necessarily not be large enough to find place in benchmark indices.

Of course there is nothing proprietary about these thoughts. Many people have often repeated it. Nonetheless, I feel, like religious rituals and chants, these also need to be practiced and chanted regularly.

Friday, February 25, 2022

Kya lag raha hai?

“Kaya lag raha hai?” (How is it looking?) I am sure most of the financial market participants must be overwhelmed by this question in the past week. Obviously there is no accurate answer to this question in the present uncertain and volatile times. Regardless, every market participant is trying to answer this inquisition to the best of their ability and understanding of the situation. As the situation is still evolving and new complexities are getting added with each passing day, it is natural that the answers to this question will keep changing every day, and sometimes even within the same day.

If I have to answer this question as someone who is an independent observer of the markets, I would prefer to take a myopic view of the market rather than getting influenced by the hourly news flow. Also, I would mostly remain focused on the Indian markets, as my lenses do not show me the long distance view. For example, I am incapable of commenting on the likely effect of the Russia-Ukraine conflict on US and European economies and geopolitics.

In my view, presently the stars are stacked against the Indian economy and therefore markets. It will take a very strong political will, economic acumen and divine help for us to get out of this situation.

The perfect storm developing

India’s tax to GDP Ratio is the same as 2007 level, i.e., no improvement in the past 15years. However, the Interest Payments to GDP has grown by more than one third from 5% to 6.5% of GDP. As per FY23BE, the central government will be spending more than 20% of its budget only on interest payment. Obviously, the budget for development, social sector spending and subsidies is contracting. Given the elevated inflation and negative real yield on savings; higher indirect tax burden on middle and lower middle class, and lower social sector spending/cash payouts – the consumption has been hit. There is nothing to suggest that there could be any reversal in this situation anytime soon.

To make the matter worse, the government is faced by this global geopolitical crisis. Russia and Ukraine are not only large suppliers of oil & gas, but also edible oils. A substantial part of India’s edible oil import also comes from these two countries. A blockage in the supply chain (due to war or sanctions) could lead to material rise in edible oil inflation, further hurting the common man.

The market price of transportation fuel and cooking gas has not been revised since November, apparently to suit the political convenience. Natural Gas and Crude oil prices have risen substantially since. Strict sanctions on Russia may cause further sharp up moves in global energy prices. This is a Catch-22 type situation for India. If the government decides to fully pass on the crude prices to consumers, inflation may see a sharp spike and consumption demand may collapse further. On the other hand, if the government decides to take a hit on fiscal, the deficit, borrowings and interest burden will rise substantially over the budget estimates. This will happen when the non-tax receipts from disinvestment etc. may not materialize and revenue expense may rise due to dearness allowance etc. Obviously the primary premise of the budget, i.e, sharp rise in capital expenditure will collapse. The global agencies will put sovereign rating under review, making cost of borrowing even higher. Financial stress may rise, abruptly ending the asset quality improvement cycle for banks.

This all might keep FPIs motivated to continue dumping Indian equities and debt, pressuring the current account and INR.

Higher inflation, lower incomes, weaker INR and higher cost of capital - this all is plausible together for some time.

How would you make a case for investment under these circumstances?

I do not accord much significance to the aggravating Russia-Ukraine conflict. My understanding is that this conflict has been persisting at least since the disintegration of the former USSR. The hostilities had deepened in 2014 when Russia annexed Crimea, one of the key Ukrainian provinces. I believe either Ukrainian president Volodymyr Zelenskyy would resign and a Russia friendly president would be installed in Ukraine; or the local conflict would continue with Russia and NATO supporting the opposite factions with money and arms for years, as has been the case with Afghanistan. I also feel that any sanctions imposed on Russia would remain ineffective as has been the case in the past five decades. The over dependence of Europe on Russian energy, metals, wheat and minerals supply makes these sanctions unviable for Europe at least.

My premise is that the situation for the Indian economy was bothersome even before this geopolitical issue aggravated in past three weeks. This conflict has only added a couple of new dimensions to the problem.

So to answer the primary question – “Abhi toh achha nahin lag raha hai” (For now at least it is not looking good).

The follow up question could be kya karna hai? Or Su karva nu? Or What to do?

Will address this question next week.

Thursday, February 24, 2022

No black ink on hands

The stock market participants, who invested or traded in stocks in the 1980s and 1990s would remember how tedious it was to buy stocks and get the ownership transferred in their own name. “Bad delivery” and “lost dividends” were such a big nuisance. Then dematerialization of securities was implemented and things changed forever. Research has shown that investors of that era still consider “dematerialization” as the single most important reform in financial markets.

Many of the market participants who started to participate in markets after 2000 even might not be aware that people holding securities in dematerialized form are technically not the legal owners of such securities. They are only beneficial owners of securities– implying that they have the legal right to receive all benefits accruing in respect of those securities. This beneficial ownership is freely transferable, subject to regulatory lock-in and other legal restrictions. The legal ownership of the dematerialized securities remains with the depository institution (NSDL or CSDL) where these securities are held. The rights of beneficial owners are absolute. The securities you receive in your depository account are free from any dispute or deficiency.

Now imagine if we could hold land and properties in a dematerialized form the same manner as you hold securities in your depository account. You would not be required to pay lawyers to verify the titles before buying. You would not need to visit the registrar’s office and dirty your fingers with black ink, every time you want to buy, sell or otherwise transfer your property. No need for mutation of title in local authority’s records. No one can make duplicate title deeds and sell your property without your knowledge. No more expensive and protracted litigation (which drags for decades in numerous cases) to prove your rightful ownership. One day processing of loans against property, with any processing charge, would be possible.

The proposed land titling legislation aims to ultimately achieve these objectives. The new law proposes to replace the existing system of “presumptive ownership” to “conclusive ownership” of property titles. Under the proposed system, the government will grant a conclusive title to the owners, free from all inaccuracies and disputes. Any person who wishes to dispute the title granted by the government will have to settle the dispute with the government. In case the disputant successfully proves his rights the government will compensate him, without any recourse to the title holder.

Once conclusive titling is in place, investors who want to purchase land for business activities will be able to do so without bothering about any future dispute to their title. Presently, because land titles are based on transactions, people have to keep the entire chain of transaction records, and a dispute on any link in that chain results in a challenge to the ownership title.

Conclusive titling will also accelerate the process of land acquisition for development projects, alleviating the unnecessary delays caused due to ownership ambiguities. Evasion of stamp duty and money laundering using real estate will also be minimized as benami holding of properties will get mostly eliminated and irregular/unregistered transactions would become extinct.

The key features of the proposed legislation, to be implemented by each state and union territory separately would be as follows:

· A land titling authority (LTA) will be established in all states and union territories. The authority will appoint title registration officers (TRO) who will prepare a draft list of all properties (clearly demarcated and identified by a unique property ID) in the states and their title owners as per the current records.

· All title ownerships will be given sufficient time to file their claims, corrections, disputes and objections with the TRO.

· The authority will also appoint a Land Dispute Resolution Officer (LDRO). TRO will transfer all disputes received by it to the LDRO. The LDRO will settle all disputes, except the disputes that are sub-judice, and publish the final list or Record of Title (RoT). The entries in Record of Titles so notified shall be conclusive after expiry of three years from the date of such notification as and if modified by an order of the Land Dispute Resolution Officer or Land Titling Appellate Tribunal or the High Court or any other competent authority. Such entries shall be conclusive proof, as defined under Indian Evidence Act, 1872, of such Titles in respect of such Immovable Properties.

· A Land Titling Appellate Tribunal shall be constituted to hear appeals against the LDRO orders.

· A special bench of respective high courts will be established to deal with appeals against the orders passed by the Land Titling Appellate Tribunal.

· To make a transaction in the properties recorded in RoT, the title holders will have to make an application to TRO, who after satisfying himself about the genuineness of the transacting parties shall register the transaction.

· The LTA will notify a date after which all rights or interests relating to Immovable Property in any or all of the Notified Areas shall be executed only in the electronic format in the manner prescribed.

Why is the Land Titling Bill is not in headlines?

Wednesday, February 23, 2022

Why is the Land Titling Bill is not in headlines?

The Union Cabinet of the UPA government headed by Dr. Manmohan Singh had approved the draft of “The Land Titling Bill, 2010”. This was supposed to be a model law to be adopted by all states and union territories. The objective of the proposed legislation was, inter alia, to provide for a uniform law across the country “for the establishment, administration and management of a system of conclusive property titles with title guarantee and indemnification against losses due to inaccuracies in property titles, through registration of immovable properties”.

The Bill was prepared by the Rural Development Ministry’s ‘Department of Land Resources’ to bring uniformity across the country and replace the existing deeds system fraught with excessive litigation due to inaccuracies in property records.

It is a well-known fact that the present system for keeping records of property titles and transactions has numerous inadequacies. There are multiple, usually unconnected, agencies involved in the process. The multiplicity of agencies, their inherent inefficiency and varying processes of updation of property records, often lead to inaccuracies in the ultimate records, causing avoidable disputes and litigation.

The Bill was primarily based on the Australian System of 1858 (commonly known as ‘Torren System”), which has been adopted by multiple countries subsequently. Under the Torren System, the government is the keeper of all land and title records, and a land title certificate issued by the designated authority represents proof of full, indefeasible, and valid ownership.

Under the present system of ownership through deeds, all property titles are “presumed titles”. These titles are claimed by people through diverse legally recognizable instruments, which could be inaccurate, fraudulent, incomplete, or inconclusive, giving rise to disputes and litigation.

The Bill however was never presented for approval before the Parliament as most states did not respond favorably.

In November 2019, “the Committee to draft Model Act and rules for states and model regulation for union territories on conclusive land titling”, set up by the NITI Aayog submitted its report. Subsequently, in October 2020, the NITI Aayog circulated the draft of a model Act and rules on conclusive land titling to be adopted by all states and union territories. The proposed bill is apparently based on Maharashtra’s draft land titling Act. The Maharashtra draft is based on the recommendation of the task force that was set up in 2017 under chairmanship of noted agriculture economist T Haque, comprising experts from across the country.

Like 2010, most of the states have “failed” to respond to the draft legislation. However, unlike the case with the 2010 draft Bill, the central government this time has warned the states to reply promptly, otherwise their silence will be treated as affirmation. Obviously, the states do not like this approach of the central government much, and a constitutional crisis may be brewing underneath.

Surprisingly, this issue is mostly missing from the popular narrative. Inarguably, when implemented, this would be one of the most important reforms in post-independence India.

…more on this tomorrow

Tuesday, February 22, 2022

So far so good

The latest result season (3QFY22) has ended on a mixed note. While aggregate numbers look on expected lines, the internals however show a different picture. There is significant divergence in performance of various sectors. In fact, the number of companies that did not meet market expectations is higher than the number of companies beating the expectations. Raw material inflation hurt most of the manufacturing sectors. Lack of pricing power in view of poor demand thus resulted in margin compression for most of the manufacturing sector. Financial sector was the brightest spot with credit demand accelerating, and asset quality, recoveries & profit margins improving. IT Services and Real Estate were other sectors that witnessed better performance on better demand environment. Metals and mining had another great quarter as prices remained elevated, with non-ferrous performing better than the ferrous metals. Oil & Gas sector performance however was below expectation. Though the headline Nifty EPS did not see any noticeable change post results, in broader markets earnings downgrades outnumbered the upgrades.

The most notable features of 3QFY22 results were (i) continued deleveraging of corporate balance sheets; (ii) material decline in rural demand and (iii) significant disappointment by small cap stocks.

Some of the key highlights of 3QFY22 results could be noted as follows:

Nifty EPS

Nifty EPS for FY22E has been reduced by ~1% to INR735 (earlier: INR743) largely due to a big downgrade in TTMT earnings. FY23E EPS has been broadly unchanged at INR874 (earlier: INR872) as downgrades in Autos, Metals and Consumer sectors were offset by upgrades in O&G and BFSI sectors. (MOFSL)

NIFTY EEPS has seen only minor tweaks in the current quarter with 15.6% EPS CAGR over FY22-24 with FY22/23/24 EPS of Rs691, 807.5 and 924.4. Our estimates are higher by 1.6/0.8/0.3% for FY22/23/24. NIFTY is currently trading at 21.8x 1-year forward EPS which shows 6.3% premium to 10 year average of 20.6x. Past 3 dips show that NIFTY has bottomed out around 10 year average PE except in March 20, when it bottomed out at 23% discount to 10 year average. (Prabhudas Liladhar)

Margins Compression

3QFY22 net profits of the Nifty-50 Index increased 24% yoy versus our expectation of 20% increase and EBITDA of the Nifty-50 Index increased 17.5% yoy versus our expectation of 15.5% increase. All the consumption sectors saw further compression in gross and EBITDA margins due to continued high raw material prices and limited ability of companies to raise prices fully. (Kotak Securities)

EBITDA margins (excl financials & commodities) compressed significantly on YoY basis, by 236bps. Major compression was seen in Paints (753bps), Tyres (913bps), Utilities (712bps, mainly from the gas price increase), Pharma (535bps) and Cement (756bps). However, on a sequential basis, significant margin improvement was seen in Chemicals (194bps) and Paints (288bps).

Notable sectors below the 5-yr peak are Travel (by 11pps), Tyres (7ppt), Media (9ppt), Paints (5ppt), and Automobiles (5ppt). Notable companies below 5yr peak are Eicher, Godrej, Welspun, Mahanagar Gas, MRF and Torrent Pharma. As for the EBITDA margin above the 5-yr peak, some notable names are IRCTC, Cyient, TVS, Jubilant FoodWorks, and ACC. (IIFL Securities)

Upgrade vs Downgrade

The biggest downgrades happened in Cement and Tyres (7ppst each), Financial services (6ppt) and Business services (5ppt). Some notable companies with the biggest downgrades are MRF, Whirlpool, Dalmia Bharat, JK Cement, Lupin and Dixon. The highest upgrades were seen in Paints, Real Estate, Telecom and Discretionary − all in the 2-3% range. Some notable companies with the highest upgrades are Blue Dart, Canara Bank, SRF, and Titan. (IIFL Securities)

Deleveraging

Aggregate interest/Ebitda is broadly stable, at 10% levels, led by both, improved Ebitda and cash flows, down from 24% in the Mar-2020 quarter. Significant deleveraging during the pandemic, coupled with low interest rates, has helped in reducing the interest burden on companies. On an aggregate level, interest costs are down by 8% on a 2Y CAGR basis. Going forward, though, interest rates may rise again on the back of acceleration in credit. The current corporate bond yields have cut the gap to their prepandemic levels to some extent and central banks across the globe too are looking at rate hikes, to initiate normalisation. (IIFL Securities)

Rural Demand

Recent commentaries by several corporates indicate to slowdown in rural demand. The slowdown has been observed in select FMCG categories, 2 Wheelers, cement and post Diwali durables demand has also been tepid. Rural slowdown has many reasons- Rural slowdown has been triggered by 1) higher increase in the cost of Agri inputs than the outputs potentially impacting farm incomes which are roughly 30% of rural income 2) Poor spatial distribution of monsoons 3) Lower remittances from urban workers to their families as labor is yet to fully migrate to cities for work 4) High Inflation in essential commodities like fuel, edible oil, tea and other daily essentials due to global disruption in supply chains. However we believe bumper wheat harvest and rising job/work opportunities led by Infra development, housing, artisans, carpenters, painters, truck drivers, factory workers etc. will boost income and demand. However given high inflation the earliest a rural seems likely is from the middle of 1Q23, with 4Q demand being also under pressure. (Prabhudas Liladhar)

Key sector trends

Private Banks, NBFC, Logistics, Retail and Utilities reported higher-than-estimated PAT growth, while Autos, Cement, Consumer Durables, Healthcare and Metals reported PAT below our estimates in 3QFY22.

Technology – 3QFY22 was a good quarter for Indian IT Services as companies under our coverage reported an overall QoQ topline growth of 4.6% (in USD), despite seasonality due to furloughs. The demand remains strong in the medium term.

Private Banks and NBFCs – asset quality trends improved. Most of the banks posted a decline in their NPL ratios, led by controlled slippages as well as healthy recovery and upgrades. NBFCs saw sharp improvements in disbursements and collection efficiencies.

Consumer – discretionary companies (Paints, QSR, Titan, Liquor, etc.) delivered strong double-digit topline growth while staples’ performance was muted as rural showed visible slowdown and margins were hurt by RM prices.

Cement – the sector was adversely impacted by weak volumes owing to unseasonal rains while high energy costs took a severe toll on margins and profitability.

Healthcare – after 12 quarters of growth, 3QFY22 marked the first decline in profits as rise in raw material costs due to supply disruption in China and continued price erosion ins US depressed profitability. (MOFSL)

Conclusion

Overall 3QFY22 earnings were encouraging, given the context of inflationary pressures, tightening liquidity, supply chain bottlenecks, adverse weather conditions; fiscal constraints impacting cash payouts in rural areas and fresh Covid breakout.

The management commentary post earnings have been mostly optimistic; though some companies have raised concerns over consumer demand. So far most analysts appear to be sticking with their FY23 earnings estimates. The geopolitical concerns, energy prices and impact of interest rate hikes on global commodity inflation are some of the key variables to be watched in the next 3-4 months. Most important among these would be easing of global inflation without hurting the growth materially.

Friday, February 18, 2022

Some random thoughts

This world is like a prism. You see different pictures, colours and hues depending upon from which angle and under what light you are viewing the world. Therefore, while all views and colours are equally valid, your "truth" is always what you see from the point you are standing at a given point in time and under the current light.

In the past few months, inflation has become one of the driving narratives of monetary policy world over. From Brazil to Britain, and Australia to the Eurozone, the central bankers have expressed concerns over rising prices. Over 30 central banks have actually raised policy rates in the past 12months to control inflation. The US Fed is also widely expected to embark on a path to accelerated rate hike from next month onward.

Insofar as the monetary policy impact on inflation is concerned, in my view, in the latest episode, inflation (rate of increase in the prices) is not the only problem. It is the current price level that is hurting people severely. Hikes in rates will only curtail demand. This may not necessarily bring down the prices. The effort needs to either increase the income of common people or materially augment the supply of essential goods to bring down the prices from the current levels.

I have spoken to a number of people from various sections of society in the past one month to understand how inflation affects their lives. Not surprisingly, all of them had different perceptions about inflation. Obviously, they all view the issue from their own angle and under the light of their own circumstances. If I could extrapolate the feedback of these people—

(a) For almost half the population, primarily living in rural areas, ideally food inflation ought not be a matter of concern. A farmer should gain maximum from the food inflation. Given that over 60% of the population is engaged in the farming and related activities, theoretically consistently high food inflation should result in transfer of wealth from non-farm sector to the farm sector. But this has not been the case in any of the high food inflation episodes in the past seven decades. The gap between rural and non-rural income and wealth has been consistently widening.

The reasons could be un-remunerative prices for the crop and higher than food inflation in healthcare, agri input, energy and transportation.

(b) Urban, semi-urban households suffer from a variety of inflation. Prominent amongst these are education, health, energy, transportation, communication, rental, protein, fruit and vegetable. The political rhetoric and central banker's focus exclude many of these critical elements in their fight against inflation. Lack of good public healthcare, education and transport services, energy efficiency, affordable housing, and better employment opportunities closer to home is hurting this class the most.

The expense on food for a typical Indian middle class family is about 30-40% of their income. A typical middle class household saves 20% of his income. If food inflation is 10%, a 3-4% rise in nominal income would be needed to offset that. Besides, they would need sufficient rise in nominal income and asset prices and interest rates to offset the erosion in real value of their savings. This perhaps has not happened in the past many decades, implying that the nominal rise in asset prices and interest rates have not been consistent with the general rise in price levels. The wealth is thus consistently getting transferred from savers to borrowers.

(c) Debt laden infra and realty developers are more concerned with inflated cost of capital and wage inflation. Energy and transportation costs also bothers them. This section needs better execution standards, simpler administrative procedures, automation, good corporate governance structure, stricter compliance norms and a vibrant retail debt market to alleviate the problems they face. Vegetable and edible oil prices do not bother them much.

One could argue that transfer of wealth from farmers and the urban middle classes to traders & indebted industrialists is a function of risk they take. But if we consider the history of NPA cycles, and exploits by moneylenders this argument gets weaker. Large borrowers have been consistently transferring the risk to public sector banks, and hence the common public, through frequent defaults. The money lenders in the informal sector have been fairly successful in exploiting the household and farmer borrowers, not allowing any benefit of inflation to them.

Actually, maintaining the negative real rates for households (household inflation minus term deposit rate) for a long period is the biggest scam perpetrated on the poor people of this country. The inflation tax, as I call it, paid by poor and middle class savers for cheaper financing of “crony socialism” and unscrupulous businessmen, has after all caused serious damage to the basic fundamentals of the Indian economy.

For a common man like me on the street, who is blissfully ignorant of the principles of economics and public finances, inflation is nothing but an enigma. The rising prices do hit him hard, but that also lead to a rise in his nominal income and hence social stature. Higher nominal interest rate on his savings, higher notional value of his house & jewellery; and higher rental for the spare room on the top floor does provide him some psychological comfort.

For a common man, inflation might be more of an income inequality issue. For many decades, inflation has been a medium of wealth transfer from common man to the rich. The current raging debate over rise in prices of food therefore has to be seen from this angle also.

Thursday, February 17, 2022

Faith vs Logic

I firmly believe that faith is a better decision making tool than logic. Faith lets you unconditionally accept or reject things. It makes it easier to believe or doubt the things you are thinking about - making the decision making easier and faster. Logic, on the other hand, agitates the minds as it questions the beliefs and raises doubts. It often leads to protraction (and often prevention) of the decision making. It is of course subjective opinion and could be challenged by logical thinkers. Regardless, my experience in life is that whether the decisions are right or wrong is only known in hindsight. There is little empirical evidence available to me, to prove beyond doubt that the impulsive decisions are less or more effective than the decisions taken after applying deep logical thinking. So, I usually take the easier route to the decision making that saves me from thinking and

The context for mentioning this is a little complex. It is widely expected and accepted that the Federal Reserve of the US will soon embark on the path to accelerated rate hikes. For the record, the Fed policy rate remained at 0 to 0.25% from 2009 to 2016. It was gradually hiked to 2.5% between 2016 and 2019 and then sharply cut back to near zero during 2019-20. The analysts are scrambling to adjust their valuation models to accommodate a 2% to 2.25% hike in Fed policy rates in the next 12-15 months. The portfolio managers and investors are also struggling to reorient their investment strategy to be in sync with the new monetary policy regime.

As per the latest survey of global fund managers done by the investment strategy team of Bank of America Securities, a majority of the fund managers believe that central bank tightening remains the top risk for the global markets in 2022. Also, the “underweight on tech sector” is highest since 2006, even though the “long technology” is the most overcrowded trade. The fund managers are underweight assets that are vulnerable to interest rate hikes such as emerging markets, tech and bonds.

Fund managers also believe that inflation and asset bubbles are the other two top risks for markets in 2022.

I believe that analysts and fund managers are experts in the field of finance and usually have a strong understanding of economics, especially the impact of monetary & fiscal policies on businesses. They must therefore have strong reasons for their strategy and positioning, supported by logical reasoning and analysis. They must be using complex and elaborate algorithms and analysis tools for decision making, especially since their decisions involve the investors’ money held in trust by them.

However, from where I stand, they appear to be suffering from indecision, lack of conviction and agitated thought process.

With the benefit of hindsight we know that the previous two Fed rate hikes have not been immediately negative for emerging markets. For example, during 2004-2008 Fed rate hikes (1% to over 5%) Sensex gained more than 200% (from 6000 to 20000). During 2016-2019 Fed hikes (from 0% to 2.5%) Sensex gained over 75% (from 24000 to 42000). Even the US equities had also gained materially during those periods. The market corrections happen much later and not necessarily due to rate hikes. Global market freeze post Lehman and lockdown due to Covid actually caused market corrections.

In particular, I would like to highlight the “bearish tech” stance due to Fed rate hikes.

I have strong faith in the digital transition of global trade and commerce. The significant rise in the digital intervention in common men’s life is inevitable. Technological evolution shall continue to impact every aspect of life and business for many years to come. The share of technology in all aspects of life – education, health, entertainment, relationships, trade, manufacturing, services, construction, management etc., shall continue to rise for the next many years. I therefore believe that technology is a good business to invest in for the next one decade at least.

I also believe it is highly inappropriate to classify online retailers and fintech companies, which are large consumers of IT services as technology companies. By this logic, Infosys must be classified as a real estate sector company and Indian Railways as a steel sector company.

I find that most of the global technology companies have net cash surplus on their balance sheets. Higher interest rates would normally mean higher treasury for these companies and higher dividends for shareholders.

Moreover, higher cost of capital should normally encourage most businesses to invest more in technology to enhance productivity; implying higher business growth for IT services companies.

An investor which paints Infosys with the same brush & color as IT services consumers PayTM & Zomato; or highly indebted mobile phone manufacturers, because his algorithm classifies all these companies under technology sector may end up making incorrect decisions. But, someone who has faith in the prospects of technology services may not face any dilemma in decision making.

Wednesday, February 16, 2022

Time for tortoise to chest the tape

In yesterday’s post I had highlighted that the previous two market cycles had not ended well for the broader markets (see here). By the time the cycle had ended, a large majority of stocks (smallcap and midcap) had given up much more than what they had gained on their way up. Only a couple of hundred stocks ended the cycle with some gains.

This is however not to take away anything from the fact that many stocks like Havells, Escorts, Page Industries, PI Industries, IndiaMart, APL Apollo, L&T Tech, SRF etc. changed their orbit and moved sustainably higher in the previous two market cycles. Also, many stocks either moved to the lower orbit or just vanished as the market cycles were coming to end. JP Associates, ADAG Group stocks, Suzlon, Jet Airways, DHFL, IL&FS, are some of the examples. This is the story of every market cycle and there is nothing unusual about this. This story will inevitably be repeated in the current market cycle also. By the time cows come home, some companies would have transcended to the higher orbits; many would have been relegated to the lower planes; and some would have made an ignominious exit from the markets.

The issue to examine at this point in time however is where do we stand on the current market cycle - Has the cycle peaked and the indices have commenced their descent? Is the market taking a pause and a lot of climb is still left? Have indices already completed their journey downhill and are close to their base camps?

It is of course beyond my sphere of competence to portend where the markets are heading in next few months. Thus I would know the answer to the above only in hindsight.

However, as I hinted in yesterday’s post (see here), the empirical evidence indicates that the current market cycle may be far from over. Therefore, we have either just started the descent and have a long way to go down; or it is just a pause in the climb.

If someone forces me to take a bet, I would bet on the “pause”, for the following five simple reasons:

1. The Indian corporate sector is embarking on a major earnings growth cycle, led by financials, after more than a decade. The valuations are nowhere in the vicinity of the “red line”.

2. The global central banks have already embarked on a major monetary tightening cycle. There is no reason to believe that their united effort would be defeated by inflationary forces. All central banks acting in unison shall be able to defeat inflation in next 6-9 months, as the logistic constraints due to Covid-19 have already started to ease materially. Lower inflation (or deflation) and smooth supply chains shall help both the consumption and manufacturing in India.

3. Higher policy rates and tighter liquidity shall impact the growth more in advanced economies as compared to the emerging markets. This shall reverse the direction of global investment flows towards emerging markets, as has been the case in the past tightening cycles.

4. The inflated (bubble like) valuation like new age businesses are a very small proportion of the Indian public market. A vertical crash in these valuations may not have a crippling impact on Indian markets.

5. In the past 5 years, Indian corporates have deleveraged their balance sheets materially. Most of the “large” bad accounts have been identified and the restructuring process is either completed or is ongoing. The probability of a major shock to the financial system stands significantly reduced.

In other words, for the markets to collapse from here we would need major disappointment in earnings; collective failure of central banks in reigning inflation; a global recession and collapse of some major enterprises. To me these events are less probable.

So how do I see the market moving in FY23?

I believe once the markets assimilate the impact of Fed lifting rates and geopolitical noise subsides in the next couple of months, we are more likely to witness a “bore” market rather than a “bear” market. The exhilarating “hope” trade (new age businesses, macro improvement, China+1, EV, PLI etc.) shall pave the way for the “patient” value trade that shall benefit from controlled inflation, positive flows and sustainable rise in earnings trajectory.

There is nothing to suggest that the existing stock of domestic money in the stock market may fly out in the next couple of years; even if the fresh flows slow down. As the breadth narrows down, the AUM of mutual funds and portfolios of investors may get more concentrated in top 150-250 stocks keeping the benchmark indices high, even though the broader market indices struggle at lower levels. In the past we have seen this kind of market during 1995-96; 2001-03; 2010-12, and 2018-19.

To sum up, FY23 may be the time when the tortoise may chest the tape while the hare lags behind.