Operating Performance In Auto Sector Has Been Below Expected Volume Growth: Sachin Trivedi, Senior VP, UTI AMC

Sachin, what’s your take on the Auto Sector right now? Some have hypothesized that a paradigm shift is underway, and the industry will have to reimagine future possibilities to survive in its current form. What’s your take?

Auto sector Index has seen a sharp correction and has underperformed broader Index in the last two years. This is led by weaker demand, as ownership cost for the buyer kept increasing over this timeframe. Increase in price for the consumer has been due to multiple factors like change regulation on insurance, safety and emission. In the interim, it has also become tougher for some category of buyers to get desired funding as some of the financial institutions have tightened their lending norms. All the above factors led to a volume of degrowth in the sector. However, India remains under-penetrated market, where passenger vehicle penetration is less than 3 per cent and we have a long way to go. Our sense is that long term demand drivers remain intact and volume growth should trend back to averages some time in future. 

When we talk of change, in the auto industry, hardly anything stays the same. Due to the trend towards e-mobility, autonomous driving, better safety and emission standards, both the requirements and the framework conditions have changed significantly. This would mean, a new competition will emerge, companies’ need a newer skill set and they need to invest more. This will impact near term return ratios. However, companies (both OEM and Suppliers), which are efficient, reliable and one that can build supply chain as per the newer requirement will be successful. 

What sectors are you bullish on right now? Do you think banking stocks, particularly PSU ones, are a good bet at the moment?

We find private sector banks to be better placed. Profit growth for some of these banks is expected to improve on the back of normalisation of credit cost. Further, adequately capitalised private banks are well placed to participate in banking credit growth. We like select PSU banks, but many others are losing market share and these banks may still need capital. We also like Pharmaceutical space, which has underperformed broad markets in the last couple of years and they should start to improve as an outlook of India as well as export improves. As discussed, auto valuations post-correction looks attractive especially when we evaluate them on normalised earnings.

What’s your take on valuations? Is this a good time for investors to increase their tactical asset allocations to equities?

When we look at the valuation of the broader market, valuations are higher than long term averages. Nifty Index is trading at approx 18.5 folds one year forward earnings (Bloomberg estimates) which is approx 19 per cent premium to long term average. Further, a large part of this performance is driven by select stocks, which have delivered on earnings. Therefore, it has become a bottom upmarket.

While taking tactical calls on asset allocation one has to keep in mind that In longer run stock price respond to earnings performance. When we talk of a broader market, earnings performance in the last couple of years has been a mid-single-digit. However, based on consensus (Bloomberg) estimates, earnings performance is likely to be better than past and should be in double-digit. Therefore, even if valuations are higher than long term averages, future performance will depend on earnings delivery. 

SIP’s have received a lot of bad press of late. In fact, many are starting to doubt their actual efficacy, especially in range-bound markets that are undergoing time corrections. Is there a better deployment strategy for retail investors?

In the long run, Equity as an asset class has outperformed many other investment options. However, the fact is that underlying volatility inequity is also higher than some of the other options. Therefore, to achieve long-run goals, investors should stick to an asset allocation plan. Within this SIP in equity mutual funds is an easy way to adopt discipline in investing, reduce volatility associated with equities and get long-term capital returns. 

Do you think earnings will improve over the next few quarters, especially in light of the corporate tax cut? How do you see the next few quarters shaping up?

Earnings performance has been below par in the last couple of years. Especially it has been pulled down due to higher than normal provisioning in banking space. When we look at consensus earnings growth (Bloomberg) for the next 2 two years, a good amount of recovery is expected to take place assuming normalisation of provisioning in banking space. However, operating performance in a few other sectors (like Auto and Consumption) has been below expectation led by weaker than expected volume growth. With the recent announcement of a cut in the corporate tax rate, some support will come to the earnings. It is also possible some of the companies may choose to pass part of the benefit of this saving to the end consumer to garner more volume.  But in the long run lower tax rate would increase cash flows to the firm and therefore the value of the firm should go up.

Lastly, what kind of strategic asset allocation would you advise to a moderate risk taker at the moment?

Equity as an asset class is volatile in nature. The way to approach this market is to follow a good asset allocation strategy and not to trade on a short-term basis. Over the long term, equity as an asset class has given a better relative return. My suggestion to the investors is that they should firm up an asset allocation plan and rebalance the portfolio regularly. This discipline will help them to achieve their long term goals. Within equity allocation to mutual funds, a large part of investment should go towards diversified schemes and only 10 to 15 per cent of allocation should go to sector/thematic schemes.