Paying a Fair Price

Ajit Dayal, Chairman, Quantum AMC, is not too concerned about the fiscal or trade deficit. While he cites the biggest concern of global investors being the pace of reforms, he is of the opinion that corruption and lack of transparency in the system are the biggest impediments to India's growth story.

According to a tweet by Tyler Cowen, professor at US-based George Mason University, “the current economic deterioration of India is the single most important under-reported story these days.” According to O’Neill, who you mentioned earlier, India has the risk of a BoP crisis and its inability to raise its share of global FDI is very disappointing. Your view?
I don’t know the precise quote so cannot really comment on that directly. Having said that, I think academics look at statistics and lose sight of the underlying quality. The transfer, at below-market prices, of national assets from oil and gas fields to iron ore mines to land grabs by a few led to a statistically solid 9 per cent rate of growth in GDP. But there was a transfer of wealth from the nation to a few. I would much rather prefer a 6.5 per cent rate of growth with less inequality and more fairness. So, if capex is declining now I am delighted. It means that corruption is slowing down. And industrialists and their politician partners are not able to buy the spades, trucks and tractors to stuff their pockets with the free gifts they got! Yes, we need policy making, we need movement. But let the movement be with fairness. Let the captains of industry pay a fair price for the raw materials they wish to work with.
I have a question for all these captains: How many of them wrote open letters to the Prime Minister when Bhave, the then Chairman of SEBI, was not given an extension? Everyone claims they wish to stop corruption. But when push comes to shove, and the enquiries come knocking on your door, the captains no longer support the cleansing. No statistic reflects this real problem.
NREGA is seen to be a failure by us city-folks and social-media types. I am sure there are leakages but can you deny that NREGA has led to an increase in the price of labour across the country? A man sitting in his village now gets Rs 100 a day for 180 days. Why should he move to Mumbai and be a target for extortion by a real estate contractor or a slum lord at anything less than Rs 300 per day? And be away from his family? And be a burden on the failed urban infrastructure?
I think the future of India is in creating hundreds of habitable smaller towns. Not in wasting limited resources to build a sea-link connecting two parts of Bombay. But of course, the sea link must have resulted in a nice photograph in the West to show how India is progressing as it marches towards an economic miracle. That Rs 1,600 crore to build the sea link should have been used to build irrigation canals or roads in villages or mandis. India has limited resources - and limited time -and we need to build out rural and small-town India first, in my opinion. We need policy to take the country in that direction. This may not sound good in a tweet and the photograph of a lit-up sea link may be more striking and impressive, but a small-town focus will sustain India.

What’s the biggest impediment to the India growth story?
Corruption and lack of transparency in the system. And I want to remind the captains of industry who write letters to the government every now and then that it takes two hands to clap. They can blame the government and the bureaucracy but how many Indian industrialists are willing to take a pledge that they will not bribe?
And it does not always happen to be private sector to government, often it is private sector to private sector too. How much of what we preach do we practice in terms of our businesses?
Another factor which I am concerned about is the lack of vision which has an impact on policy making. Do we want to build an India like the US which relies heavily on roads? Or do we want to build an India like Europe or Singapore which is very dependent on public transport. In some countries the ownership of cars is actually penalised. The price of petrol is some of these European countries is higher than that in India. That is because there are taxes on using petrol in Europe which makes car ownership and usage expensive. But of course, they have a reliable public transport system. I hope the government builds more tramways, road ways, improves the rail services and bus services instead of asking us to buy more cars. Again keep in mind that two-third of the oil we consume, we import. This makes the economy vulnerable to oil price shocks which are bound to happen.
I also view infrastructure as a concern, especially power.

You have seen many cycles - what’s different about this one?
This is nothing compared to what happened after the Lehman Brothers collapse. The rupee has become weaker and the stock market has fallen but we are nowhere near that crisis time of October 2008. Panic will be when the Sensex falls to 8,000 or 9,000. It may or may not happen - who knows? After Lehman Brothers declared bankruptcy in September 2008, the Indian stock market fell by 55 per cent in just five weeks. That was panic. We have not reached that stage yet.

Des this view reflect in your strategy?
Macro views are less relevant to our research and investment process as we build out an equity portfolio for our clients. We invest depending on the fundamentals of the company and current valuations. Whatever is happening or not happening in the market does not change this fact. If we like a stock run by good management in good businesses, we buy it. If it falls more, we buy more. We build our portfolios on one premise - that stock markets in the long run track earnings. India’s GDP will grow by 6.5 - 7 per cent per annum for the next decade.

That is the GDP growth rate you prefer going with?
Yes. I do not think we will achieve 8 or 9 or 10 per cent GDP growth unless the government builds infrastructure. When the government builds more roads, highways, power plants, bridges etc - that too in a more transparent manner -, then we will up our estimates on GDP.

Do you agree that the Indian stock market has factored in negatives and valuations have reversed to the mean?
If you look at the historical PE ratio of the Sensex, since in 2001 after the Tech bubble was deflated, the average PE of the past 11 years has been 17.2x. Right now we are at 15x historic earnings. So the Indian market has come back to the mean. But that does not prevent it from declining further. It could. In March 2003, when SARS was the global scare, the PE ratio of the Indian market collapsed to 9x historical earnings. Then it recovered all the way to 20x. Then we had the Lehman Brothers crisis and it went back 9.8x.

You keep saying the market could go lower....
What if all the foreigners sell and pull out their money from the Indian stock market? The supply of shares that the foreigners would sell will far outweigh the demand that the locals have. Exactly what happened after the Lehman Brothers crash. If FII’s sell $5 billion in any week, the market will collapse to 8,000. However, if they buy $5 billion in any week - just as they did in September 2010 - the market will surge.

Many are talking about single digit earnings for this fiscal and not too much of an upside to that for the next fiscal. Do you feel the same?
I do not share this view. I think they will all be disappointed. I think earnings will be a lot better than what people expect. A combination of earnings and money flows from FII’s could see this market surge to new peaks. Again I go back to the Lehman Brothers environment where after a few months of that bankruptcy, every sell-side brokerage, including the ADB, IMF and WB cut their GDP growth forecast dramatically, down from 8 per cent to 5 per cent and some even slightly lower. The Indian economy actually did much better and the worst quarter was over 6 per cent. I think the same thing will happen now. I think earnings of companies and India’s GDP will grow a lot better than what people expect.
Captains of the industry are upset because there is no capex. Capex was large in India when companies got licences for iron ore, coal, oil, natural gas and spectrum. Since they were getting these resources cheap, naturally they would mine it, buy massive equipment, employ labour and all this would add to the GDP growth. But this GDP growth was with favours, to some extent, because the industrialists got the natural resource at an artificially low price. So they could harvest their extra profits. Now they are being asked to pay the market price - be it for any resource. So enthusiasm for capex is dampened. So thank God that India is getting more transparent and there is less theft happening from the treasury.

Do you see the ‘India growth story’ gaining momentum in rural India?
Talk to Nestle, Unilever, Marico, Bajaj Auto - all the companies selling to rural India and you will see that it is booming. Thanks to NREGA, Rs 100/day is being guaranteed to a household. So the incentive to leave and take up a construction job or any other job in a city declines, unless the monetary incentive is much more. This has resulted in an increase in wage power. When you give a poor person an extra Rs 100, they don’t save it they consume it. The propensity to consume for a poor person is much higher than that of a rich one.
Take a cement company. It would have been selling a million bags to a big infrastructure project if capex was on. But now that is stalled. Yet, they are selling thousands of bags to rural India because people now have money to build a house, fix their own house or even build a retail shop.
I recently read an article in the financial press which stated that middle-level companies are paying more advance tax.

What is your advice to investors today?
Stay away from all these macro calls and worry. Investment in equities will be rewarded. In 1980 the Sensex was 100. By 1990, it was around 500. In 10 years an investor would have made 5x the money invested. In 1991, the index was 550, 10 years later it was at 4,000. In this decade investors would have made 78x their money. From 2001 till date, the index has moved from 4,000 to 16,000 - still up 4x. Those who stayed on through the cycles would have made 18-20 per cent per annum compounded. Invest continuously for the long term in sensible mutual funds to build wealth. Investors must understand their needs, ability to take risks and hold a combination of bank fixed deposits, liquid funds, equity funds and gold.

BoP: Balance of Payments /FDI: Foreign Direct Investment /RBI: Reserve Bank of India /GDP: Gross Domestic Product /NREGA: Mahatma Gandhi National Rural Employment Guarantee Act /PE: Price Equity /FII: Foreign Institutional Investor /ADB: Asian Development Bank /IMF: International Monetary Fund /WB: World Bank /SARS: Severe Acute Respiratory Syndrome /NAV: Net Asset Value