Veteran Investor Jyotivardhan Jaipuria On Overvaluation In Indian Markets

The Indian stock market has been witnessing continuous all-time highs. Recently, the Sensex benchmark breached 75,000 points. There’s been a remarkable synergy between economic growth and corporate earnings and robust earnings growth, especially post-Covid, has been a driving force behind the market’s upward trajectory.

While there are worries about the overvaluation of stocks, the Indian markets have really done well in the last few years. 

“The last few years have been like a dream run,” veteran investor Jyotivardhan Jaipuria, founder and MD of Valentis Advisors told The Core. A notable influx of new investors, particularly post-Covid, has contributed to the market’s resilience. 

Many of these investors have not yet witnessed significant market downturns, shaping their investment experiences, Jaipuria pointed out. “We’ve seen a huge set of investors who came in for the first time after Covid. And they’ve probably seen the markets go one way, it’s done well for them, but they’ve not really seen a big downturn in the market yet, in their short investing history,” he said. 

Jaipuria also explained that Indians have over-invested in fixed deposits and under-invested in equity. “So on a very secular basis, we will probably see deposits as a percentage of household savings go down and equity as a percentage of [savings] go up.” However, in absolute terms of savings, savings will keep going up, he added. 

For The Core Report: Weekend Edition, financial journalist Govindraj Ethiraj spoke to Jaipuria about his investment strategy and more.  

Edited excerpts: 

Recently the stock markets hit an all-time high, and they’ve been hitting all-time highs for a while. I’ll use the Sensex as a lynchpin or a pinpoint, which is 75,000. Which is a peak in many in more ways than one. My first question is, when you look at the Indian stock market, what do you see? 

There are three things which we see. One is the markets have done well, and the last few years have been like a dream run. And markets have done well, partly because the economy’s done well and because earnings have done even better. If you see earnings growth, they’ve been phenomenal. So in some sense, you know, earnings have accounted for a lot of the growth we’ve seen post-Covid. And that’s always something which I like. 

Second, we’ve seen very low volatility in the market. It was anybody who bought any dip in the market, they did very well. Third, we’ve seen a huge set of investors who come in for the first time after Covid. And they’ve probably seen the markets go one way, it’s done well for them, but they’re not really seen a big downturn in the market yet, ever in their short investing history, I would say. 

Now, if you were to go one layer deeper than that, how do things change? In terms of types of stocks, the size of stocks, and, of course, who’s buying and who’s holding. 

What’s happened in these times is the small caps have done better than the large caps, and that is a very easy one. And second is we’ve seen a lot of stocks. I would say markets in general go through cycles, right? So from 2008 to 2020, it was, I want high quality, high ROE, low debt—I don’t mind paying any valuation for it. After 2020, you saw all the stocks start to underperform. You saw a different level of stock starting to pick up. 

Our broad theme was two things, and a lot of that has played out. One is we said: buy local, avoid global. And because our theme was that the Indian economy will do better than the global economy. Second is within the local, we said we prefer the investment theme to the consumption theme. And again, that’s something which has played out very well. A lot of people in consumption, whether it’s in the banking space, whether it’s in the infrastructure space or the capital goods space, they’ve all done very well relative to the consumer stocks.
In both cases, why did you decide on local as opposed to global? And are there examples of what you may have avoided, rather what you may have picked? And similarly, why did you avoid consumption and focus on investment at the time you did? 

For us it was that the stress is more in the global economy than in the Indian economy. The Indian economy managed to, you know, get over Covid-19 fairly well. We did a stimulus through the fiscal deficit at that time… but in hindsight, we managed to achieve a great thing because we ensured growth without having a big blow-up in inflation. Whereas if you see what a lot of the Western countries ended up doing – let’s take the US as an example. They had growth at that time when they did the fiscal stimulus, but they had inflation by their standards that were very, very high. We had an 18-month or 16-month spell, I think, where Indian inflation was lower than US inflation, which since our independence has never happened. So that was like we managed to do something very perfectly related to the world.

For us it was to be in India, that’s where the greater comfort is on growth and inflation and all the macro parameters. A couple of things which we avoided in some sense, we avoided all the global commodities. And that was partly also driven by China, that China is starting to peak off in terms of growth profile. And IT was again, something which we were very light on. That was what we did. 

Second is why we took investment and not consumption. We have some themes in Valentis, which we call the three U’s. We like to buy stuff which is undervalued, under-owned, and underperforming. And the whole investment team was fitting perfectly there because relatively, a lot of investment stocks had done nothing from 2008 to 2020. Second, they were very, very cheap. You know, if you just look at where they were positioned in terms of probably normalised earnings, they were very, very cheap. And thirdly, they were totally underground because everybody’s gone into this whole space which was to buy high quality at any price. The trigger for this was that the fiscal stimulus with the government did, they were increasing their capex. 

If you think of the government, capex as a percentage of GDP has doubled over the last five years. And so that was the trigger that the government is spending there. These are sectors which will probably benefit from the government stimulus. Nobody owns them. They’ve done very badly and they’re very, very cheap. So that became like the thesis for us, that this is where big alpha can be made. And so correspondingly, you start disowning some of this. For example, even within the banking space, we said, now move to the corporate banks rather than buying the retail banks…which did very well for the last 15-20 years. 

When do you enter, at what valuation and so on, which is also a matter of maybe short to medium-term as well as long-term strategy? Now, I use the example of the pinpoint of 75,000… but in general that the markets are a little stretched on valuations. So where do we stand today? 

Valuation-wise, very short term, the markets are not cheap, they are expensive. And so what valuation? If the valuations are expensive, does it mean the market has to fall? Not necessarily. What it means is if you enter these valuations, you probably make returns on the market which are maybe lesser than what the earnings growth is, because then the valuations catch up. Our view has been that at these valuations, there will be a time and price correction, hopefully, which makes valuation cheaper and so you get a better chance to buy. But you can’t count on it because markets can remain a little higher on valuation than what you think, for longer than you probably have the patience. So as has been, probably stagger out your buying. 

You buy something now, buy something later. At some point you may get markets correcting, at some point, you may not. Second, buy when there’s like some correction in the market, there’s a bit of fear. I would say in the last couple of days we’ve been putting some cash to work in our fund also. 

When you say putting cash to work, do you mean buying things that you did not buy earlier?

Normally we don’t sit on cash. We basically may have 3-4-5% cash. At the beginning of the year, we had close to probably 15% cash and at some point, it had become 18% also. So we reduced our cash levels from where it was by buying some stuff in the interim. 

You manage a series of portfolio management schemes. So I’m assuming many of your investors are with you for a longer term or a longer period. 

Yeah, hopefully, they are, because what we tell people is, if you’re not in this for three to five years, please don’t come to us, because we end up thinking three to five years. We don’t really think about three months and two months. Very often we buy stocks which do nothing for six, nine months because we buy at a very early stage. We buy companies which nobody knows today and which we think will be the blue chips five years later. 

So there is a long gestation period before they start to move up, but when they move up, you can get returns which are way higher than what some of the existing blue chips can give. 

You talked about earnings growth and how earnings growth is translating into stock price growth. And this obviously is a direct correlation, at least going by data. When you look ahead, how sure can one be about this transmission between earnings growth and, let’s say, the share price or the stock price of a company or a set of companies? And what gives you or gives anyone that confidence? 

There’s this saying, that the stock price is a slave of earnings. And so if you look at markets over the last 20 years, let’s say you take the Nifty for the last 20 years, it gives you roughly 12% return over the last 20 years, and earnings have grown at more or less a similar pace.

There have been world wars, there have been Lehman collapses, there has been Covid. But in the end, more or less, the market gave you a similar return. Going forward because the starting valuation is not reasonable, but maybe slightly higher than what you normally are, you’ll probably expect that we will make 90% of the earnings growth, just so that the valuations can compress over the next four or five years. And so once you get earnings growth coming, you probably will get returns, which are close to the earnings growth plus, minus, whatever the de-rating of the re-rating happens. 

From where we are today, you probably think it will be a bit of de-rating rather than re-rating. But there are times where markets have been really expensive for much longer than what one would envisage. If you start thinking about Japan in the nineties or something, it was expensive for a long, long time. 

Using 75,000 once again, now, obviously, as you go higher and you go closer to the peak, if there is such a thing as a peak, which of course is moving in this case, how do you know… I mean, wouldn’t the relative level of confidence change?

It does. There’s a term which we use in all our presentations and in our whole investment thesis, what is the margin of safety we have? What is the margin for error we have? So, you know, when things are very cheap, you have a lot of margin for error. When you think back to Covid time and after that, you had a lot of margin for error. Because it’s like even if things go wrong, we don’t lose money or we make only 10% money, they go right, we make 50% money. Now, when you are today at this stage, the way the valuations are, your margins for errors come down. 

So you need companies to deliver what we expect them to deliver to make your returns. If they don’t deliver, then your returns go down, but it also starts leading to a derating of the stock. We from our side are saying, okay, so now this is the scenario. What do we do? We’re trying to one, get to companies which have more visibility on earnings growth. Second, we are trying to get into stuff which trades much cheaper than what the market trades. Because the whole idea is, if there’s a collapse in the valuation, you don’t want to get hit by that. So this is the way we are trying to safeguard our portfolio. 

If you look at companies in IT services and you mentioned already that you’ve cooled off on them or let’s say consumer product companies, and then finally some companies in financial services and you also said that you were on some of them and off some of them. In many of these cases, clearly there is a growth problem and yet these are very fine companies with very fine management. So how do you now choose between what delivered for you a while ago and is not perhaps able to do that today. Second is how do you spot someone who is the equivalent of an HDFC bank or Unilever a decade ago or more. 

In general, there are companies where they’re in a super growth phase, then they get into a growth phase and then they start getting into a more mature phase where they still grow. If you think of India, its nominal GDP growth is going to be like 10 or 11%, whatever number you want to pick. So to that extent, most companies, even if they are getting in a bit more mature phase, they’ll probably still end up growing at, you know, 8-10% earnings or 9-11% earnings. 

That’s not enough stock markets. 

For us what we have to think is there is somebody which can go at x, can we find something else which goes at 2x? What is the downside? If these guys miss earnings, how much is the downside? So we try to work in as unemotional a way as possible that from our point of view, something’s done badly. 

It shows up on our screen because like I said, in the three Us, if something’s underperformed, it will always show up on our screen. Does it look compelling enough? If they look compelling enough, we get very interested. So frankly, like if you think about it, for the last few months, the IT stocks have been showing up on our screens that, okay, you know, it deserves a relook. We basically avoided it for the last 30 months, but now it deserves a relook just in terms of it’s becoming cheaper than what it used to be and it’s, you know, probably underperformed a lot. And over ownership has also come down. 

And probably there are two reasons why we are not buying it. One is still the fear on the US economy. And the economy may do well because of a few companies. But in general, if the profit margins come under pressure, the earnings slow down over there, then it has a direct correlation on our tech companies here because their order visibility goes down. And so that is the near term concern. The other probably longer term concern. And this is something we’ve grappled with a lot and been speaking to a lot of people, is what does AI do to these companies? Does AI mean that the number of jobs required just goes down very secularly? So suddenly you find these companies shrinking rather than growing. 

Now, if I were to ask you again on the consumption-to-investment equation, a country like India would, let’s say, demand that there be consumption stories. There is an aspirational set of people in tens if not hundreds of millions. And yet what you’re saying is that what is attractive to a market person today is really the investment side, which is of course driven mostly by the government and to some extent the private sector. So it seems like a contradiction of sorts. 

Yes and no. If you think about it, India needs a lot of infrastructure also. So we can have a lot of consumption demand… at the same time, we have a lot of investment demand because we can build more roads than, you know, we can imagine in the next five years or more power plants or more metros. So that way there’s a lot of consumption demand. From our point of view it is all linked to what is growing, what is the growth prospect and what are the valuations we are paying for it. 

India’s per capita income went from let’s say $250 to $500, and what Indians bought at that time is not the same thing they’ll buy when per capita income goes up from $2,500 to $5,000. Whenever we think of consumption, we keep thinking of the consumer staples. But my view is: that is a market which had low penetration at some point. It is now fully penetrated. So what Indians buy now is going to be totally different. 

If you see consumption in that broader light, there are lots of parts of consumption which are doing well. If you just think about the last three years, the way the market has rewarded hotels has done very well. So all this is linked to part of the broader consumption: that more and more percentage of my basket is not necessarily going to buy more soaps and shampoos and toothpaste, it is going to buy some other stuff. 

I was reading a survey that Bloomberg did very recently of fund managers. So one of the things is that India has perhaps a much higher growth transmission to corporate profits. And which is why people at least sitting outside seem to like it a lot.. apart from the multi decade growth story and so on. What does that exactly mean? 

I think about two things. One is, you know, we always used to hear this 15 years ago that India is a lousy macro but a great micro because, you know, we had the twin deficits and we always used to get into trouble once in five years. The good thing is now we have a good macro and a great micro also because one is, you know, the companies are relatively well run and all of them think of Return on Equity (RoE), and Return on Capital Employed (RoCEs) which maybe in some other parts of the world they don’t think of as much. 

Second is a lot of this is owned by the private sector. So you see that translating into, okay, you know, I got the sales, I got the profit. I want RoEs and RoCEs to go up even more. The third thing is, you know, we have a variety of sectors here. And our variety of sectors is probably higher than most of the emerging markets which you’ll see across the world. 

Right. And within consumption of financial services, you’re saying that in consumption you’re looking at whatever, as everyone says now, the premiumised end of it or the premiumising end of it. And in financial services instead of retail, you’re saying you’re now looking more at the corporate side of it, which is also a story about 20 years ago. 

Yeah, so see, it was a very simple thesis two, three years ago and to some extent it got played out now. It’s not as simple as it was two years ago. But all the corporate banks took a big hit on the non performing loans because of that whole cleanup exercise which happened. So for a few years their earnings kept getting depressed because of that hit. But once that hit got over and the books were clean, then suddenly your earnings shot up through the roof because they had done very well. 

At the same time, they were all trading at a very low price to book relative to any of the retail banks—the difference was people were trading at one and a half times and the other side was trading at three and a half times. So it was a very easy story at that time that this valuation gap will get bridged. The earnings for the corporate banks will probably grow faster than the earnings for the retail. It’s now no longer that easy a call that, okay, this is the way we have to play. 

And now what we are thinking of most in the banking space is the ability to garner deposits. Because I think the next round, the problem is going to be, can you get deposits? So that will continue to play out, but the people who have a better deposit franchise will start to do well. And we always weigh valuations very closely. So for us, we tend to buy banks which are lower priced to book at a certain RoE level than banks which are higher priced to book. 

Of course, banks are setting up more branches and getting more deposits. But can you in a very larger sense, I mean, keep getting more deposits at the time when everything else, including the markets, looks more attractive? 

If you think of India and Indian savings, I think we are over-invested in fixed deposits and under invested in equity. So on a very secular basis, we probably will see deposits as a percentage of household savings go down and equity as a percentage of houses go up. At the same time just remember that the savings are going up. So in just absolute terms of savings, savings will keep going up. So to that extent, there are deposits which one can take. And when we look at our investment framework, we have to think within that pool of deposits, whatever the money, and that may be going slowly, which is a bank which can garner the bigger share out of it. And, you know, each bank will follow a different philosophy. Some will have more branches, some will say, I’ll give a higher interest rate, some will say, I’ll give you better service levels. So very often what happens is some of the legacy banks tend to weaken on the service levels. The service levels start to go down. And that is where you start seeing with that old franchise also, you start seeing a shift because there’s some more banks, more aggressive, more hungry, and they start giving you much better service. 

Looking ahead, where do you feel you’ve gone wrong in the last, particularly, I’m talking about the post Covid phenomenon, or rather the post Covid period. 

We didn’t buy as much as we should have. So one simple thing was the defence theme, which we didn’t participate in as much as we should have. And second, there were a lot of orders which were flowing through but the implementation would take a long time. So we probably underestimated how much the market would be willing to pay upfront for that order book and the visible earnings stream being only coming three years later. So probably we didn’t do enough on defence. I’m looking back at sectors which did very well and where we didn’t participate in a big way. 

And something where you invested but you felt you went wrong. 

For me the mistake was not so much buying something we did badly, but not buying enough of something we did so well. So, you know, defence is one clear theme where we probably should have had a higher weight than what we had. 

And did you look at public sector undertakings (PSUs) as a single basket?

What happens for us is we think of PSUs within each sector rather than just think of PSUs across the board. So in a lot of sectors, when we did it, we said, okay, these things do look cheap because they are cheap relative to what all the other players are doing. But we didn’t think of it as one basket that you buy everything across PSUs because for us, most of the time we want earnings growth. We don’t want to bet on market rewriting/rerating something to drive the bulk of our return. So for us it’s always like earnings growth gives us our returns. After that we get a re-rating is great because that, you know, adds up to our return, but only the base returns we want from earnings flow. Within each segment, we looked at PSUs and we bought PSUs, but it was more because, okay, this bank looks very cheap relative to a lot of the other banks which are trading. And here the margin for safety is huge, so I will buy it. 

What do you see when you look at the markets today which are priced at their peaks at this point? And what would you tell people who want to get in now? 

One is don’t expect the same return we saw over the last three years. Second is be ready for more volatility than you saw in the last few years. Because, you know, the markets are at a stage where valuations are not in your favour. They are not very, very cheap. Third, don’t get perturbed by the short term correction, because we could get into a short term correction at some point. And the whole thing is don’t get perturbed by it. Just participate. And if you really want to worry do it in a staggered manner. But basically it’s still like, equity will still give you probably one of the best returns amongst most asset classes in the country.


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