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    BNP Paribas' Manishi Raychaudhuri on where to look for midcap compounders

    Synopsis

    I do not think any prudent investor should completely ignore valuations but at the same time, we are living in a period where high quality comes with relatively expensive valuations, says Manishi Raychaudhuri, Head of Equity Research, Asia-Pacific, BNP Paribas in an interview with ETNOW.

    Quality does not come cheap but avoid egregiously expensive stocks: Manishi Raychaudhuri, BNP Paribas
    How are you analysing the market right now? The economy is still sluggish, earnings recovery is patchy and the markets are at an all-time high. In fact, the broader market has also started moving. How are you analysing the equation?
    One of the reasons is that the Indian market and the Indian economy are two different animals. If one looks at the structure of the Indian market, particularly the largecap frontline stocks which make up the frontline indices like the Sensex or MSCI India or let us say Nifty50, quite a few of these are basically market share gainers or which are beneficiaries of additional penetration in the market.

    Let us say the insurance or private banking or the largecaps are gaining market share as a consequence of the moves towards formalisation that we are seen. This partly explains the disconnect between the economy and the way the market is performing. The frontline indices are proportionately weighted in front of these largecap stocks in various sectors, which are in the process of gaining market share from their smaller cap peers.

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    In the medium term, can the market remain polarised the way it has been? Can it continue to be led by just a handful of stocks? How do you see things panning out?
    If one notices the kind of stocks that the foreign investors have invested in over the past few months or even the last couple of years, those have largely been in the frontline largecap, organised sector companies. Going forward, at least in the near term, there may not be a significant departure from that trend.

    Even when one tries to identify stocks which are secular free cash flow generators or compounders, then the cost of equity one comes up with most of these names the large cap frontline stocks in most sectors so you know I think in the present environment when most investors are looking on some degree of capital gains along with the significant degree of safety there may not be a significant departure from this trend that we are seeing.

    In the auto space, stocks like Maruti, M&M have rebound very sharply from the lows. The numbers also show some amount of feeble recovery on a month on month basis. How are you analysing that particular sector? Is a firm bottom in place or can the weakness return?
    It is too early to call an end to the pain in the auto sector. There has been a degree of destocking as far as the OEMs are concerned and there is some degree of pre-buying that we have seen. At the same time, for consumer confidence to be rekindled and consumer interest in buying the new models to come up, we have to wait for the new emission norms to be implemented.

    We do not really have any exposure to the Indian auto sector yet in our model portfolios. We are keenly watching the Asian model portfolio space but it is too early to take a plunge.

    "We are avoiding the metals and mining space right now and at times like these, when China is slowing down not just because of the recent coronavirus scare but even organically. It is also prudent to avoid commodities where China accounts for about 50% to 60% of global consumption."

    — Manishi Raychaudhuri


    In some stocks like D-Mart, the floating stock is low but the structural strength of the business model remains very high and the company is very well run. But the valuations are sky high. Still fresh money continues to chase such names. How do you analyse what is happening in these names?
    I would not name any stock in particular but the key to investing and generating alpha is to identify growth stocks which are cash generative and excess return generating over the long term with an eye on valuations. I do not think any prudent investor should completely ignore valuations but at the same time, we are living in a period where high quality comes with relatively expensive valuations.

    If we are able to identify stocks which appear relatively expensive but are showing steady growth and offer good corporate governance and strong free cash flow generation and strong access return generation, then investors can continue to take a look at such stocks. One would avoid egregiously expensive stocks though.

    Slowdown fears this time are triggered out of China because of the Wuhan virus and the impact it can have in slowing down the rest of the world. In that backdrop, how do you analyse global sectors like metals and commodities? Do you see some more weakness setting in?
    We are avoiding the metals and mining space right now and at times like these, when China is slowing down not just because of the recent coronavirus scare but even organically. It is prudent to avoid commodities where China accounts for about 50% to 60% of global consumption. In a nutshell, we are avoiding the metals and minings sector right now and are unlikely to get interested any time soon.

    I need to understand your thoughts on the midcap end of the market. There are many names out there that have seen some recovery and the market men are excited once again that this year it could be the midcap end of the market which could give you best returns because valuations are attractive. What are your thoughts on the broader market?
    We are not really making any broad brush call on the midcaps. We are applying the same yardstick for selecting midcap stocks as we do for largecap front line stocks. We are looking for consistent growth opportunities in any midcap; the companies which are gaining market share within their respective space and within those companies, the ones which are secular excess return generators.

    I keep coming back to this point because we are very keen on identifying the compounders as we call them where the return on equity is consistently higher than the cost of equity. Those are the kind of stocks that we get interested in. Some of these stocks are available in the consumer discretionary space. There are some which are available in the financial space also. These are the two sectors that come to my mind but the bottom line is that while investing in small and midcaps, one has to be selective.



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    (What's moving Sensex and Nifty Track latest market news, stock tips and expert advice, on ETMarkets. Also, ETMarkets.com is now on Telegram. For fastest news alerts on financial markets, investment strategies and stocks alerts, subscribe to our Telegram feeds .)

    Download The Economic Times News App to get Daily Market Updates & Live Business News.

    Subscribe to The Economic Times Prime and read the Economic Times ePaper Online.and Sensex Today.

    Top Trending Stocks: SBI Share Price, Axis Bank Share Price, HDFC Bank Share Price, Infosys Share Price, Wipro Share Price, NTPC Share Price

    ...more
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