'We are a quarter or two away before growth comes back'

The Indian stock market is at a crossroads. Volatility remains high, valuations are adjusting and investors are looking for clarity. Daylynn Pinto, Senior Fund Manager (Equities) at Bandhan AMC, believes the market has become "slightly more attractive" but only on a stock-to-stock basis rather than a broad-based opportunity.

In this insightful conversation, Pinto shares his thoughts on the cyclical slowdown gripping the economy, the factors needed for a market recovery, the potential of China taking away a share of foreign capital and the challenges faced by the funds he manages.

With over Rs 20,931 crore in assets under management (AUM) across five schemes, including the Bandhan Sterling Value Fund (4-star rated) and the Bandhan ELSS Tax Saver Fund (3-star rated), Pinto provides a candid look into his investment strategy and how he's positioning for the future.

Here's the edited transcript.

Indian markets have remained volatile. Will this level of volatility persist or ease in the near term?

This is a common question that comes up every three to six months whenever I talk to someone. With geopolitics, tariff wars and the current domestic slowdown, I think we live in a volatile world. We all have to get accustomed to volatility. It is here to stay; the key is to maintain a rational, composed thought process during these volatile times and construct your portfolio in order to navigate through these times. Hopefully, there will be light at the end of the tunnel.

What key factors or catalysts could trigger a recovery in the Indian equity markets over the coming months?

There have been a couple of issues over the last six months. Indian markets have been a little more turbulent than we would like them to be, and I think part of this is due to global factors and partly due to local factors.

Following the US elections, the global level of uncertainty has escalated due to the policy announcements that we've heard from the US. This issue has definitely created some amount of uncertainty, not only in India but across the world. Simultaneously, on the Indian side, we unfortunately had a slowdown not only in our economy but also in the earnings of most of our companies. That's the first time that we have seen something of this nature over the last three to four years. The market was fairly euphoric and exuberant maybe six months ago, both on the earnings side and the extremely strong macro footing. I think, to some extent, the recent policy directions of the US and the slowdown in domestic growth and earnings have derailed what was otherwise a very secular bull story for Indian equity markets.

That said, I think going forward, from a recovery perspective, there are two or three things that investors are most concerned about.

I believe there needs to be some more clarity on US policy. I think that is something that we are all very closely watching out for.

The second concern is the Fed's ability to implement rate cuts this year. If the Fed manages to implement more than two rate cuts this year, it could significantly impact the capital flows of emerging markets, including India.

Another aspect is whether the Chinese recovery will strengthen as we go through this calendar year. This could have significant implications for asset allocators worldwide, particularly those in emerging markets. India has traditionally been a TINA (there is no alternative) investment destination. With China's comeback, there could also be some capital flow there.

However, the most crucial factor is our GDP growth and earnings story, which needs to regain momentum. We are going through a typical cyclical slowdown; we had a couple of excellent years of growth and are consolidating for the last two quarters. We should consolidate a little more before growth starts to make a comeback. A combination of all these factors is necessary for capital to significantly return to India.

Lastly, as a value investor, valuations are rarely discussed, but Indian valuations need to correct to attract more foreign capital.

Don't you think valuations have turned attractive after the correction of nearly 15 per cent?

Markets have become slightly more attractive, especially the Nifty. But purely on a stock-to-stock basis, there are some interesting opportunities, so it's a little more of a bottom-up sort of market today compared to top-down. The Nifty is not yet at its last 10-year average of about 18-odd times one year forward.

To your question, the answer is yes or no; I think there are bottom-up opportunities. But can the market correct a little more? It could, and it doesn't necessarily have to be a very steep price correction. It could also take the form of a time correction or a combination of the two. But as I mentioned earlier, the real focus will be whether growth comes back and the earnings upgrade cycle resumes. I think that we are still a quarter or two away, at least. Therefore, I believe the markets will persist in their downward trajectory, potentially consolidate further, and then find their footing to make the next significant move.

Bandhan ELSS Tax Saver Fund has underperformed the benchmark in the last one year, and even in the three-year period, it is in the third quartile. What is the reason for this performance, and how do you plan to improve it?

Over the past year and a half, I have actively worked to reduce my exposure to mid and small-cap stocks, a strategy that applies to all of my funds. That is something that we have done very actively over the last 18-odd months. If I recall correctly, maybe 18 months ago, our mid- and small-cap exposure would have been as high as 35-40 per cent in the fund. But today, we are under 25 per cent as far as mid- and small-cap exposures are concerned. So, there has been some impact, especially in the last 12 to 15 months. In the last year, the mid and small caps have underperformed the large caps, but if you take a two-year period, there is still a healthy outperformance of the small and mid caps over the large caps.

We've tried to reduce very high beta sectors in the portfolio and gravitated towards more secular themes where today's narrative may not be very exciting. But we do believe that over a two- or three-year period, capital will rotate into these sectors. So, it is slightly contrarian in that aspect. Our focus is on looking at three-year and five-year performance buckets and trying to see how we can keep rotating capital and change our portfolios every 12 to 18 months to keep the three-year and five-year goals in mind. This is because when you think about ELSS, the minimum holding period for investors is three years.

Unlike most other funds, where people can exit in six months or a year or two, ELSS money is a little more sticky and a little more long-term, which helps me take slightly longer-term calls.

Even the Bandhan Sterling Value Fund has slipped in the three-year and one-year periods. Is this due to the sharp rally seen in the last two or three years, leading to not getting value in the market?

This is another fund where we have reduced our exposure to small and mid-caps over the last 18 months. In two years, we went from 50 per cent to 30 per cent, and we've tried to reduce exposure to high beta sectors. We are planning for the next cycle, and when you're managing large amounts of money, I think it takes time to move in that direction. You can sell small and mid caps when the going is good. Typically, you cannot sell them when the market conditions are unfavourable and everyone else is eager to sell.

So, when the going was favourable in the last 12 months, we actually tried to reduce our exposure. We are hoping that over the next two to three years, we will be able to rotate back into this segment when valuations are much more attractive. As I said, we try to counter the market's thinking and hope to generate long-term alpha if we get the contrarian cycles right. The real goal is to generate longer-term alpha rather than worry about one or two-year returns.

Is there any segment in the market, in your opinion, that is currently seemingly deceptively undervalued?

I think the very common answer given today is that financials look very undervalued. Apart from that, I think there are more bottom-up opportunities where I believe valuations are getting attractive at a stock level. But from a top-down perspective, we still have some room to go, as valuations are not attractive at all in the small- and mid-cap segments. I think they have yet to reach a threshold level where one should really start to worry that they might miss out on a big rally.

Even on large caps in some select pockets, there is some value, but there are a lot of areas where valuations are not so attractive. So, going back to my comment, we are in a grinding phase. There is no real, absolute value on the table today across the spectrum, and therefore, one needs to be a little careful about allocating your capital or constructing a portfolio based on the risk-reward equation you are willing to work with.

Also read: 'Mid- and small-cap valuations will continue to correct'