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3 sectors where you can take advantage of correction to make money: Nilesh Shah, Envision Capital

Talking to ET Now, Nilesh Shah, Envision Capital , says the entire financial space, travel and hospitality and healthcare offer great medium to long-term opportunity. However, over the medium term, not enough return can be made by investing in commodity producers or commodity stocks

Edited excerpts:
When you see portfolios drop 15-20-30%, rationality does not exist, fear takes over.
Yes exactly that is how market movements are and that is how market cycles are. When market rises and stock price rises, one tends to get irrational and in the process end up owning poor quality stuff. I clearly believe that this is really a good time to buy into quality and build a good portfolio. It is very difficult to figure out how this market is going to play out over the next may be two or three months. But if you look at quality stocks, companies with strong managements, good balance sheets, value accretive business model and buy into these stocks with a two- to three-year horizon, you could actually end up making some really outsized returns especially when you buy into a panic situation like this. It is easy to really look at what has happened over the last one month but one needs to take a step back and look at what could potentially happen over the next two to three years. And that is what we kind of refer to being rational in our latest EnvisionConnect which we released yesterday.

That is the biggest truism – buy good companies with good management, buy them at the right price. Now I am not an expert like you and in this kind of market, let us take the liberty of talking ideas and stocks because indeed if you feel that the best of the bull market is yet to come, then how should one participate? It is very easy to come out and say okay buy good companies and hold them for two or three years now. But even an MBA student will tell us that.
We have clearly seen two or three pockets where there has been a reasonably good shave off and clearly now value is emerging. If you really look at the entire space of financials and that includes not only NBFCs but also private sector banks, life insurance companies, stock exchanges. If you really look at that entire space and if you really look at how their prices have behaved, a lot of these stocks have corrected more than 20% over the last one or two months since their highs in December or January and what we believe is that this is a segment which will witness one of the fastest growth rates over the next may be two to three years.

We clearly believe that a very strong growth coupled with basically the recent price correction clearly offers investors a very, very good entry opportunity so that is one space. I would probably say that in this space look at the tier II names, the second level of names because they will be able to grow faster, obviously of course what you need to buy into are quality franchise but clearly the tier II quality franchises will grow at a fastest pace across private sector banks, life insurance, exchanges, rating companies, these are the really one big segment to look out for.

The second big segment to really look out for is travel and hospitality. Here, again stock prices have corrected more than 20% from their highs in December-January and look out for companies again who are leaders and are doing a very-very good job.

The third big area in which I am not quite sure if there is any immediate opportunity but over say the next five years is healthcare. Companies which run hospital are going to be a very big opportunity. So, companies which are going to set up a chain of hospitals in tier II, tier III cities of India or in semi-urban places clearly if Modicare becomes a reality which has got proposed in this budget and if it becomes a reality, there is serious wealth creation to be made in that space over the next five years. So clearly these are some of the pockets where we see opportunity as well as a long-term growth potential.

Could you highlight the kind of return ratios you expect or hope to see for some of the hospital businesses because they have not quite made money for investors as of now. We know what is happening with Fortis Healthcare, Shalby Hospitals which is one of the recent listings and the new kids on the block, have managed their business fairly well in terms of keeping their debt levels in check. Owning some of the properties and balancing out the real estate aspect of the business. But other than that, how are you looking at the profitability ratios of these businesses to change in lieu of of course there being a policy support stepping in to make these businesses viable from an investment standpoint.
So what is really going to happen with the healthcare segment is that all the names that you kind of really referred to are kind of by and large tier I phenomenon and when you operate in some of the big cities of India, the real estate cost is a very huge hurdle to kind of profitability and growth. But I think what the Modicare proposal in the budget what it envisages is to ensure that you are going to be able to provide affordable healthcare on a very mass basis where basically we are talking about 10 crores families being reached out to and they being provided affordable healthcare, that means getting into tier II, tier III cities, the smaller towns, the semi-urban locations, the zila headquarters, the district headquarters that is the kind of place where real estate cost is a lot more affordable, lot more reasonable so that is one. The setup costs are going to be lowered.

The second big advantage which some of these companies could have is the advent of REITs. Once some of the real estate investment trusts come in, they would basically have access to capital at an affordable or reasonable rate, so that is the second thing.

The third is that we talk about technology more from from a digital transformation perspective and a consumer perspective. But technology is playing a very big role in healthcare and technology is going to be a huge enabler to kind of reach out to millions of people and millions of households and I think that will make it faster for some of these companies to really scale up. These three opportunities will help healthcare companies to kind of grow at a much faster pace and grow in a more capital efficient manner. What we have seen over the last five or ten years in the healthcare sector and over the next five to ten years, you are going to see something even bigger, even more profitable and more capital efficient. There is clearly a big opportunity there.

You were also saying that 2018 could be a comeback year for Indian IT. You are saying could be, it is not something that you have a conclusive sense on just as yet or do you believe that things are moving in that direction, it is just a matter of time for the tide to change and we have already seen that with the Q3 numbers and the environment changing in the US?
Yes, clearly IT remains a very attractive segment, especially the tier-2 names. We believe that a) we have seen growth rates bottom out for the Indian IT sector and so they have been growing in single digits. They could probably get into high single digit and then into mid-teens in terms of their growth rates which I think is going to be fantastic. b) we are clearly seeing again margins bottom out for them, the currency has really been unfriendly in a way for the IT companies and we actually believe that again the worst is over for IT companies in terms of their margins. c) Last year, a lot of IT companies have put to work their excess cash in doing buybacks and that in a way increases the ROE for these companies. Going forward, what we could see is better revenue growth, better margins and healthier ROEs.

Clearly that in a way is a good signal, of course some of these stocks have run up quite a bit over the last two to three months but if there is again a correction and suitable entry opportunity, IT is a fantastic sector to be in and it is fantastic sector to bet on.

We always get into sectors and we try to go closer to what your ideas are and what you are buying and selling but I guess the broader question I want to talk about is you have said in your newsletter that one should not worry about the bond yields spike. That is a broader question. What is happening in the bond market and could that have an impact on the equity market?
What we are referring to is basically bond yields back home and the bond yields back home have probably spiked by maybe 75 bps over the last six to nine months. We clearly believe that if you look at the bond yields in India over the last maybe 10 years, they have broadly moved in a range and at approximately around the 7.5% they are at the top end of this range.

We clearly believe that there is really no strong case for bond yields in India to spike up beyond this range that we have seen for many-many years.

We clearly believe that the worst is over in terms of the spike in bond yields, number one.

Number two, in India a 75 bps spike in bond yields really does not make investors change their asset allocation plans, clearly the opportunity in equities is much bigger and a 75 points swing does not really make matters worse or it does not make investors to kind of change their asset allocation plans and therefore we really do not see an impact of that on domestic equity flows.

Third, when we talk about bond yields globally, at least in the very near term, we really do not see and there is really already a concern that bond yields could spike above 3% and if they cross 3% that is going to be a doomsday scenario. That kind of a scenario still is very distant and it is only remotely possible because clearly everybody is betting on a spike in inflation.

We do not really think that inflation is set for a huge spike globally. People are betting on crude oil prices to remain elevated for a very long period of time and cross that hurdle of $70 but if you really look at it globally, there is really no strong fundamental case for crude oil prices to cross $70 and remain there in the $80-90 range. Again crude oil prices are hovering around that top end of the range. We believe that from this perspective, we do not see all of these factors having a material impact on equity markets in India.

Let us be clear here that this is a selloff or this is a technical adjustment which has happened because of global growth, it is not because of global growth scare it is because of an inflation scare. Now why should investors be worried about an inflation scare? Global growth is not fantastic and locally we are struggling for growth. So,growth coming back should be great news and right now markets are behaving as if growth coming back is bad news! If indeed growth is making a comeback, then is there money to be made in commodities?
Well purely from a very trading or a momentum point of view there could be some money which one can make in the very short term but if you really look at it– the end prices are spiking up. I do not think these stocks have gone anywhere over the last one or two quarters. At the peak of these commodity prices over the last maybe couple of years, these companies' profits are not growing by leaps and bounds. Their profits are growing in the broad band of 10-15%. They are all talking about cost pressures. We have to keep this aspect in mind that clearly there is a lot of noise about commodity prices spiking up but it is not translating into some really solid operational and financial performance of some of these underlying companies like the names you mentioned and these are all leaders.

I would wonder that tomorrow if some of these commodity prices were to be up by 5-10%, what would actually be the operational and financial performance of some of these commodity producers or commodity converters? There could be some money on the table from a short term trading point of view but over the medium term, I do not think there is really enough returns or enough wealth to be made by investing in some of these commodity producers or commodity stocks.

Of course, there could be some of those very lone exceptions to this but in general I do not think that is a great place to be in.

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