The only difference between now and 2013 is that this time small and midcap PEs are far higher and in January the CNX midcap trailing PE was at a 2200 bps premium to Nifty which is unsustainable ,Hiren Ved, Director & CIO, Alchemy Capital Management, tells ET Now.
Would you described the way midcap stocks have moved this year as a plunge, rout, or a decline?
But is this a good buying opportunity?
This is not the first time that we are seeing this happen. We have seen this happen in 2011 and 2013. We saw a little bit of that happening in 2016 as well. Every two-three years, you get this bout of selling. The small and midcaps were in the fourth or fifth year of rally and without doubt, there was a lot of froth in the system. There was too much money chasing small and midcap stocks. Plus there were certain questionable managements and business models that were getting 25, 30, 40 PEs and which was clearly unsustainable.
Typically, whenever the macro gets tough, a risk environment comes to the markets and the small and midcap stocks tend to correct very sharply. I tell all my clients that to some extent this is like a mini replay of the second half of 2013. Oil prices were high, rupee depreciated, there was some challenge on the current account and the fiscal deficit. Small and midcaps stocks got thrashed and there was political uncertainty because elections were supposed to be six-nine months down the line. We are pretty much in that kind of a situation. While our macro is not as bad as what it was in 2013 but some of those elements are present this time as well. The only difference is that this time the small and midcap PEs were far higher and in January the CNX midcap trailing PE was at a 2200 bps premium to Nifty which is unsustainable.
Historically by definition midcaps are called midcaps because they lag largecaps in terms of margins, grow th and also management bandwidth. Currently, midcap stocks are still trading at a premium to largecap stocks. Do you think the real bottom in mid and smallcap stocks will be made only when the price PE multiples crack below largecap stocks?
Every cycle is different. There are two ways that the gaps can get bridged and we are already seeing that the Nifty is up. If you look at the Nifty or Sensex, you might wonder why people are crying so much because there is hardly any correction that you can see. But the broader markets have corrected very sharply. The gap is still wide and one way the gap could be bridged is that the largecaps go up or do not fall and the mid and smallcaps continue to correct.
I could be wron, but I expect all this to settle down by October-November. You will see lower tops and lower bottoms in small and midcap stocks and finally by the time everybody throws in the towel, a few months down the line, that is when they will really bottom out.
Are your clients feeling the heat?
Clients are worried but not that much because luckily for us this time, year to date, we are either just very marginally negative and in one of our products we are actually positive.
What has saved you in this savage crunch? Which stock has been the anchor stock for you?
All are big bets and did reasonably well. We are just lucky that many of our midcap stocks are actually at or near 52-week highs instead of lows. Some of our stocks have also corrected but by and large, our bigger bets have done substantially better and have actually gone up in a falling market. We are sitting pretty this cycle.
You talked about a comparison between 2013 and 2018. The difference in that comparison is that whereas macro factors are same, A), midcaps are not very cheap–B) In hindsight 2013 turned out to be a great hunting ground for stock pickers like you which may not be the case for 2018.
You are absolutely right. We had the highest exposure to small and midcaps at the end of 2013 because we were getting a decent 25-30% profit growth. Now, you are far from that. But this time, the cycle is different. There may be several companies which have not gone anywhere in the last three-four years and that means that they were either flat or ignored.
But they were going through an internal restructuring in their business and therefore temporarily their profits were not growing. We now believe that is why over-ownership is not there. If they have not done anything for the last three-four years, that means people have not bought those stocks or got tired and sold off those stocks.
There are certain businesses like where there is an inflexion point. Over next two-three years, you will see profit growth there and these are not over owned. That is where the opportunity really is and we are looking at those kind of opportunities where stocks have not done well but have great balance sheets, no leverage, free cash flow and the business is turning.
A retail bank like HDFC, a retail dominated NBFC like Bajaj Finance or anything which has got to do with retail lending is trading at a huge PE multiple or higher price to book. On the flip side, corporate banks and even corporate NBFCs are trading at a multi-year low. Is the divergence too large now?
The divergence is huge but merely the fact that there is a divergence does not necessarily mean that the valuation for the retail banks are unjustified and that there is a blanket opportunity on the corporate side as well. You will have to take a very nuanced view. What I am seeing is that retail lenders like HDFC Bank or a Bajaj Finance are actually seeing opportunity on the corporate side.