In Conversation With ICICI Securities' Vinod Karki

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00:00All right, thanks for tuning into Talking Point.

00:15I'm your host, Neeraj Shah.

00:17Joining me today on the show is Vinod Karki, Senior VP Equity Research at ICICI Securities.

00:22Vinod, always great having you.

00:23Thanks so much for taking the time out and being with us.

00:25Vinod, before I get to the crux of what you've written in the note, it's a question that's

00:29been coming to my mind every single time people talk about dips in the markets.

00:37I would love to understand how you think about it, that whether this particular cycle since

00:44post-COVID is materially different than what's always happened in the past, in that there

00:52was a large dominance of global flows, which when turned, moved out, were not sticky and

01:00therefore brought the markets down quite a lot.

01:03In this case, FII ownership in Indian markets are probably at the lowest that they have

01:09been in some time.

01:11And the domestic flows of 9,000, 10,000 crores of net flows into SIPs make it a very sticky

01:19flow that comes into the markets every single time.

01:22So is this time really different?

01:27I need it.

01:28So I think, see, markets, if you see historically, they're never quite different.

01:37I mean, it's more or less the same story, but in a different package.

01:40So the clearest comparison can be made from an economic perspective where the demand is

01:49panning out in the economy.

01:51We had a similar patch between 2003 and 2008, where you name the companies, they were similar

01:57in the sense, you know, the capital goods, real estate, utilities, infra.

02:04Banks so far haven't been participating, which makes them value in this cycle.

02:11But eventually there is no investment cycle, so to say, if banks don't fund this investment

02:20cycle.

02:22So the point is, while the market has already, you know, kind of made up its mind that there's

02:28an investment boom coming, that's why all these sectors are rising.

02:32But somehow the assumption is that there will be no re-leveraging cycle, which from a macro

02:39perspective cannot happen.

02:41You cannot have a full-blown investment cycle without the re-leveraging cycle.

02:46So that's the thing.

02:49In terms of, so from an economic perspective, we have seen a similar story play out between

02:552003 and 2008, where the balance sheet driven companies were really outperforming.

03:03Now coming to the flows perspective, see what happens is, post-COVID, you saw interest rates

03:13go to zero and negative in certain countries, which really flared up the valuations.

03:22Since then we have seen a mega interest rate cycle, up cycle in the US, which I think is

03:30the key driver for these outflows and the fluctuation in the outflows.

03:35I think that cycle is more or less ending.

03:38So from that perspective, given that India macro story remains intact, and this pressure

03:47which was coming up on equity valuations because interest rates were, you know, rising very

03:54swiftly, that will ease.

03:57But having said that, the domestic flows have been so strong that it did not give an opportunity

04:02for the market to become cheaper, significantly cheaper, even while this volatility in FBA

04:10flows was seen.

04:11So that's why I think you might get into some kind of situation where the market has run

04:19ahead of what the fundamentals suggest, so the market capital GDP is almost approaching

04:25150%.

04:26Vinod, sorry, which I agree, but the point being, these arguments about steep valuations

04:31have been there since 21500 levels, right?

04:35We are circa 25,000 currently.

04:37And that's precisely my question, are flows really driving the markets higher, or making

04:44sure that the markets don't see a significant dip?

04:47I was looking at your note, for example, right?

04:49And while we talk about how mid caps and small caps are filled with froth, and yes, a lot

04:55of those pockets are, but when I look at your own data, if you look at MFs and FBIs, which

05:00are the largest contributors, presumably, of flows, while MFs have put in money into

05:06mid caps and small caps, where FBIs have pulled out the money is largely from large caps,

05:11mid caps and small caps haven't seen that.

05:13So therefore, are flows determining the market mood higher?

05:16Yes, yes, so that's what I was saying, that there is, despite this huge volatility in

05:25interest rates, and the, I mean, we saw volatility in outflows from FBIs, but on balance, the

05:34market has not corrected to the extent it should have given such fluctuations in interest

05:44rates, as well as FBI flows in between we have seen.

05:47That's because whatever selling came from FBIs was more than soaked up by the domestic

05:53investors.

05:54So FBIs, because they don't see much issue, they've started jumping in.

05:57And what is happening with FBIs is a classic case of trying to undo some of their portfolio

06:04orientation, which is resulting in underperformance.

06:06So you have to remember that FBIs traditionally have been buyers of the, what you should say,

06:13the high quality companies in India, which we have seen that are underperforming.

06:20So if you look at their sectoral flows, also YTD, one thing is remarkable, that the largest

06:27outflow is coming only out of two banks, private sector banks, which we know are high quality

06:34assets, basically.

06:36And they have, within banks, they have actually bought into the lesser quality PSU banks have

06:42seen inflows during this year, and some other private banks, which are not that high quality

06:47also.

06:48So, and what are the next sectors which have sold?

06:53They have sold consumer staples, IT, and energy.

06:58And what have they bought during the first half of this year?

07:04They have been buying all the high beta stocks, basically.

07:08So be it real estate, PSU banks, and capital intensive sectors like telecom, utilities,

07:16those kinds of things.

07:17It doesn't give me a sense that FBIs are negative overall from a domestic economic perspective.

07:24They are buying smaller size companies, selling the darlings, which they used to have, the

07:32large cap quality companies, which they have been accumulating over several years and getting.

07:38And so they're more kind of recalibrating their portfolios towards riskier assets, which

07:44they are outperforming currently.

07:47OK, OK, point well noted.

07:50You know, the other interesting thing was just to see how mutual funds have bought so

07:55much of money into private banks, and yet that's the bucket that hasn't quite done well.

08:00And because of the factor that Vinod mentioned, which is that FBIs have been large sellers

08:05and predominantly amongst the two large banks.

08:09Now, Vinod, therefore, the question that I have is to your mind, what is the

08:16likely near term trajectory, considering that flows may turn a little on the global

08:24side, on the passive side, if the Fed rate cuts were to come in and by virtue of the

08:30fact that India's weightage in the EM basket is now a lot more than what it was, right?

08:35So therefore, do you sense that happening?

08:38I remember we were talking about the Fed rate cut led movements a year ago.

08:45It finally seems like it's around the corner.

08:49So I think if there is a 25-50 bips cut, I don't think that's a surprise because the

08:56bond yields are already below 4 percent, you know, to the bond market is already

09:02signaled more than that.

09:04So if it is if it is limited to 25-50 bips, it will be actually not a surprise at all.

09:11But the point is, if US avoids a recession and the interest rate ups, I mean, the

09:22interest rate rise that we are seeing starts to moderate and I don't see a cut, a

09:29massive cut in interest rates if the US economy continues to be robust.

09:33So the latest ISM data about services and jobs were for July were quite robust.

09:40So I have to remember that US is at the forefront of the AI renaissance, the

09:47investments in energy, and also you can't write off that country in terms of

09:52productivity gains.

09:53They are at the forefront of what's going to drive global productivity and the

09:57investments there in that.

09:59So a lot of value will be created, I think, in that economy.

10:03And the latest data doesn't suggest that even for the short term, we are seeing some

10:08kind of, I think the US recession goals are at this point, at least, speculative in my

10:14view. So you may end up with a scenario where there is no recession, but a slowdown

10:23in growth while the interest rate environment moderates, which I think will be a

10:31reasonably good environment for equities.

10:35You know, but the valuations, even in the US, US is the only country which is more

10:41expensive than India.

10:43I think valuations don't have any scope for further expansion.

10:47So I think there will be, I mean, a phase of where the stock prices don't go much, but

10:56they will go on the positive side, but not high returns.

11:01But nevertheless, some kind of positive returns.

11:03That's how I see currently the Indian and US markets.

11:08OK, OK.

11:09Vinod, I wanted to talk about consumer dribbles, industrials, because where FPIs and

11:15MFs all have invested.

11:16But we have a management of Mazagon Dock ready to talk to.

11:19So I just want to, if I can, before we wrap up, can I just ask you for a very quick view

11:24on some of these shipbuilding slash defense names?

11:27Because they've seen tremendous book to bill ratios, some concerns in the last couple of

11:32days when the stocks have come off.

11:34How do you as a strategist look at some of these names wherein they might be priced to

11:39perfection near term, but the order books are very, very healthy?

11:42How do you see them?

11:45So I go by this simple principle, you may be buying a great business with great

11:50potential, but if everything or more than what warrants is getting in the price, I don't

11:56think they're great investments.

11:58So you have to look if something is at, let's say, going at, let's say it can grow

12:04significantly at, you know, at a rate of around 15, 20 percent over a long period of

12:09time. But if the valuations are like 100 P and all.

12:15So I think that's the key to the order book and the growth may still be there.

12:21But if the valuations are something which is out of the realm of reality, I think then

12:30you have to, you have to go slow on those stocks without naming the stocks.

12:35Yeah, I don't want you to name stocks, of course, just wanted your view on how do you

12:39think about it? Okay, great.

12:41We'll try and talk about the business with Mazgon Doc, but Vinod Karki, take a moment to

12:46thank you. By the way, really good note, Vinod, and maybe the next time that we talk,

12:49I'll borrow some of the things that you've written in this note, because I think it'll be

12:52relevant. So maybe have you a lot earlier than what we usually keep the gap between two

12:56interviews, if you have the time, that is.

12:58But thank you so much for the time today.

13:00Thanks.

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