Harsh Gupta Madhusudan NSE Gift City, says FIIs have been unable to topple the Indian market and as soon as the FII headwind becomes a tailwind, that is where the real equity party in India will begin. For that to happen, it is just a matter of a few months at most because it is directly a function of the FOMC’s rates, the federal funds rate.

In the last one week or so, the narrative on the Street which was making a lot of people nervous was that the BJP was going to get 270-280 seats maximum and low voter turnout was being seen as an indicator that probably the wave is missing. That seemed to be getting reversed now. What is your thought on the market’s way of analysing voting patterns?
Harsh Gupta Madhusudan: George Soros mentioned reflexivity. There are reasons which lead to some numbers in the markets, which lead to narratives ex post facto rationalisations. So, what happened was the external backdrop in terms of FII money has not been very positive of late because the Fed higher for a bit longer has turned out to be true. Along with that, DII money was acting as a counterweight. But once some profit booking happened, then suddenly this narrative took on a life of its own. And I think it was just a matter of forming a bottom, which we kind of seemed to have formed in the last two-three days, where a trailing Nifty-50 PE ratio of 21 seems to be the bottom for the market.

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In terms of voting turnouts, yes, it is around two-three percentage points lower than 2019 as we speak, but that could go against the opposition as well. So, it is difficult to extrapolate the election results just from the voting percentage. Even if the opinion polls before the election started turn out to be slightly on the optimistic side, it would seem within the realm of possibility that Mr Modi’s BJP gets a simple majority. Now, let us say it is 275 instead of 315 or 280 instead of 320, what really changes? So, I do not think it was so much a political risk as it was in the market with DIIs removing their hands while FII was already removing it and then an ex post facto rationalisation on the election chances led to a bit more panic.

If the ruling dispensation comes back with a strong majority, how would the market read that? If they come back with a relatively lower majority, but the captain remains the same, how would the market read it? Also the impact on the reform trajectory because the Street loves Mr Modi and the entire cabinet because of the outstanding work done in many areas.
Harsh Gupta Madhusudan: What really matters is a Lok Sabha majority and a Rajya Sabha majority. The BJP obviously was not close to Rajya Sabha majority. It has been slowly building up close to that in terms of the NDA or NDA plus because that obviously depends on state election results as well. So, as long as they get close to Rajya Sabha majority and maintain a Lok Sabha majority, I do not think the reform process or momentum changes much.

What the Street wants to know is if there is political stability and continuity on the policy side yes or no. So, beyond the first three-four days, where there might be some sentimental reaction to 300 versus 280 or 320 versus 280, I do not think it will matter beyond the first week at all. So, long as it is a simple majority with as you said the same captain in the ship.

What is the setup looking like? You were saying how the narrative at the start of the year was that a rate cut will start mid-year but that does not seem to be the case, perhaps it got pushed down. What about the dollar index? What about the impact of the way dollar index or yields go on flows because FII flows narrative is that they are going to China, but fact is they have been missing for a long time?
Harsh Gupta Madhusudan: What has happened is many of us including myself were a bit early on the call of the Fed cutting rates and therefore the dollar index falling. I had come to your show last year and mentioned by the end of last fiscal year we seem to be delayed on that by a few months primarily because of the US fiscal impulse and therefore the growth impulse. The plus side of that is the recession risk in the US seems to have been significantly reduced. Now, in the US, the Fed is simply looking for a reason in terms of data to cut rates. It has clearly said it will never raise it, the QT has been halved as we speak and what has happened is ex-shelter inflation, US CPI or PCE is already running around 2% for the last few months, almost quarters. The shelter is a lagged number because the biggest part of the US CPI is a rent which nobody pays. It is called owner equivalent rent between a quarter and a third of the index, that is measured in real time by something called NTR, new tenant rent by BLS, Bureau of Labor Statistics, that just turned around zero on a year or year basis in the first quarter of the calendar year. Now, actual reported rent in CPI trails that by around 10 to 12 months.

Right now, the real time rent is probably negative in this second quarter. So, now, it is just a matter of a few months and soon as that starts showing a bit in the data the FOMC in the US will start cutting rates and then the dollar index which is around 105 right now goes back towards 100 and below later. It is just a matter of the final push and panic just before that as well.

And then the FII flows will start towards the emerging markets?
Harsh Gupta Madhusudan: Exactly because as we have noticed, like FII holdings in NSE 500 is at an 11-year low in India and the DII has increased and they are almost merged, converged right now.

Actually, they are tipping over and becoming the larger holders.
Harsh Gupta Madhusudan: Yes, at the end of March it was around 16% DII and 17% FII. By now it might have been equal for all we know.

It is a very important point. I mean for the longest years, for 30-40 years, the largest holders of quality Indian companies after promoters have been FII. Now, at least our companies are coming back to our shareholding.
Harsh Gupta Madhusudan: Exactly. So, what has happened is that domestic institutional put so to speak has been there in the market. FIIs have been unable to topple the Indian market. So, what will happen is as soon as that FII headwind becomes a tailwind, that is where the real equity party in India so to speak will begin.

When do you expect that to happen?
Harsh Gupta Madhusudan: It is just a matter of a few months at most because it is directly a function of the FOMC’s rates, the federal funds rate.

So where exactly will the flows go?. They will clearly go to companies which have better quality visibility on the earnings front. How have you observed the earnings so far and do you get confidence in your own model portfolio which you must have made and tracked because you are in the process of setting up your own fund where there is 14% to 18% or 20% earnings visibility from here on next one or two years?
Harsh Gupta Madhusudan: Yes, so for example, from the FIIs, the flows are more likely to come in larger caps. It is simply liquidity constraints. In FY24 nominal GDP growth in India was in high single digits, 9-9.5%. We will get the exact numbers because the deflator or the GDP inflation so to speak was 1% or 2%. WPI was negative. CPI was on the higher side. So, given that revenue has actually held well. We can see that through real time proxies like GST collections and corporate income taxes as a proxy of the profitability of the corporate sector.

So, given that FY24 was very remarkable, I think FY25 will also continue to be in high teens because as the Indian economy continues to formalise, operating leverage will kick in because although capacity utilisation is not perfectly measured by RBI, it is likely to go up. And then on top of that financial leverage, let us not forget because the debt that India Inc is holding is also at a cyclical low. So, all the new money coming in is either going into equity with share prices going up or they can lever up or gear up because the debt is so low.

I know you cannot talk about stocks till you are setting up your fund. At least give us a direction on which are the areas you are most constructive in right and some themes to watch out for which are durable.
Harsh Gupta Madhusudan: From a durable point of view and not just a short-term tactical point of view, I really like all non-lending financials. So, asset management companies especially wealth management companies, in terms of anything that is the market infrastructure around this whole financialisation that is happening, on the same note I like any kind of premium and discretionary consumption, anything related to entertainment where there is less risk of technology obsolescence like say theme parks or cricket proxies also.

Anything that is monetising the average Indian’s increasing leisure time is a 10-15-year play and many of these stories are actually available at relatively reasonable, relatively undiscovered. So, more in the largest midcap segment froma personal portfolio point of view. I think the biggest theme remains financialisation; however, this cycle of financialisation will not necessarily be led by banks, by lenders.

Of course, banks and some NBFCs will do well but in the entire market infrastructure around exchanges and equities and wealth management and AMCs also for example, in the last one-and-a-half years, we saw a massive rally in HDFC AMC. Those are still extremely under penetrated categories in India.

They are the future Blackstones and BlackRock which are in making in India.
Harsh Gupta Madhusudan: Let us hope that some of them are already listed. I know there are some in the fintech sector in Bangalore which are not currently listed but some of them or many of these assets will go 100x from here. So, what happens is we look at a 40 PE or 35 PE and we look at 15 PE of course that is optically more expensive, but you have to look at the visibility of the growth curve and the predictability thereof.

So, the predictability is high and if there is a relative moat then those things can be bought from a five-seven-year point of view. Otherwise, cyclicals you can buy which are always capacity and demand-supply cycles. They may not be 5-10-year buys.

Hotels are a classic example. They are doing very well right now but in three-four years, we might suddenly see the supply overshooting, whereas there will be only one theme park in one city because of local monopoly. Similarly, there are plays in wine and in some parts of alcohol consumption which I think can be relatively safe from a market competition point of view.

I think these and also steel and cement, especially cement which is a very good proxy to the real estate cycle that India is in the very early stages of an up cycle because cement one must remember cannot be imported. It is manufacturing that is necessarily localised.

In fact, even from South India to North India and vice-versa, it may not be economical to transport to that extent given the price to volume ratio of cement. So, those kinds of items where there is less market competition and more localisation, more premiumisation and where you can play the beta sectors like real estate, discretionary consumption, financialisation, I think there are many very good names with reasonable valuations.

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