In this interview, CNBC-TV18 spoke with Rohit Sah, who has been covering the Indian market as part of an emerging-market basket since 1996: first at Oppenheimer and now at TCW International, where he is portfolio manager for the asset manager’s smallcap strategies.
Sah argued that out of all the BRICS countries, India alone looks set to join the select band of “Anglo-Saxon economies”. Read on to know what Sah meant by an “Anglo-Saxon” economy and why he thinks India is poised to become one.
Edited excerpts from the interview with CNBC-TV18’s Latha Venkatesh.
Q: Why are you so confident that of all countries, India will be an Anglo-Saxon economy?
A: Let us define what an Anglo-Saxon economy is. First of all, it is characterised by low-government spending, it generally has an open current account, secure property rights and stock market and capital markets which are geared towards growth. So, if you look at the successful economies in the last 100 years, they have been the US, United Kingdom, Australia, Canada and Hong Kong.
India today is not an Anglo-Saxon economy, in 1947 it was. However, today we have a long way to go before we get to being an Anglo-Saxon economy.
However, this election of 2014 has provided a political mandate to move away from the Fabian socialism that has been practiced unfortunately for the last 60 plus years in India.
So, I am hopeful; I think the political mandate is there. You have a prime minister who has demonstrated his ability to execute such an economy in the state of Gujarat. So, we can only hope for the best after that.
Q: What makes you so confident? Modi has accepted the Food Security Act, he is not talking of privatisation; he didn’t even privatise PSUs in his own home state. So, why should you be confident that we should be in this Anglo-Saxon category?
A: I think the political reality in India is that it is a very poor country and a very unequal society. So, any Prime Minister of India has to take that into account. Modi comes in with a very large political capital base but that is a finite capital base. For him to be able to execute on the economic reforms where there will be losers as well as winners, you have to carry the country along with you.
So, these are initial steps, which have not done away with redistribution policies. I would say they have streamlined it but that is the reality of India. Over time you will see these things improve.
What I am expecting is that after the Maharashtra elections are over, you have to see some solid reforms come through for this optimism to be maintained about India.
Q: A lot of investors have already begun talking of a pulling back India’s so called Modi premium especially after that decision was not taken on gas price increase. How long are you willing to wait for action from the new government?
A: Let us begin with the Modi premium and let us just define exactly what that is. First of all, the economy in the last few years has gone down so much that people across economic spectrum have expressed frustration.
I have had some of the richest people come to my office and tell me that they have never voted in their life but this time around they are going to go and register and vote.
When analysts come to my room and say that if this election is not a good election result, they are going to send their children out of the country, I have read about rickshaw drivers in the city of Benaras talking about the dollar-rupee rates. When you look at all these various voices coming across the spectrum, it is clear the reality has sunk in; you need economic reforms. This redistribution approach of the Fabian socialisms of the Congress party is dead.
To me the telling election was the Rajasthan election of December 2013 when the blatantly populist government of [Ashok] Gehlot was completely wiped out. I think all these are very good indicators that Modi comes with a very high political capital which he can afford to spend.
However, one question I am not sure about is whether is it a Modi premium or is it a BJP premium? Have people voted for Modi or have people voted for the BJP and that is an uncertainty right now.
If you move to the next step, you have to give him some time to get in, wait to see all the files that are there, get the bureaucracy in action. However, I do expect serious action after the Maharashtra elections. So, right now he is talking the talk; we have to walk the walk after the Maharashtra elections; a lot of political capital is still left so.
Q: You are the king of small and midcap stocks in your fund; year-to-date (YTD) the Nifty has delivered about 25 percent gains, midcap and smallcaps have been giving between 45 and 65 percent gains. So, are we in bubble terrain here?
A: Let me tell you what a very experienced fund manager colleague of mine told me. He said he was short Cisco back in the 1980’s and he said he lost his shirt on it. The reason he lost his shirt was because the market correctly looked forward and said this is a fantastic story, this is going to be a 10-year story and Cisco peaked out at a USD 0.5 trillion market cap. So, I would say the same thing about the Indian smallcap market.
The Indian smallcap and midcap market unlike the largecap market is primarily geared towards the domestic economy. The domestic economy is coming off a very low base, you have tremendous tailwinds right now in favor of it and you have a government which has shown willingness to reform in the past. So, valuation is not an issue.
If you want to be buying the Indian smallcaps, what you have to focus is not on valuation but you have to focus on the quality of the management, the quality of the business and the financial returns that you are getting from these businesses and after that the market will take care of itself.
Q: Your biggest overweight sector is I noticed financials. You have 29.8 percent of your funds there. Now Rural Electrification Corporation (REC) is the top holding in that list. Do you like the PSU banks?
A: Let me just give you an overview of the financial sector. In the last 12 years, the growth of India’s gross domestic product (GDP) in US dollar terms has been 12 percent. That is despite the fact that you had a Sonia Gandhi led government which didn’t know what they were doing or maybe they knew what they were doing but it wasn’t the right thing to do. Now, if you look forward I don’t see any reason why India can’t grow at 12 percent for the next 12 years with the right reforms. If you grow at 12 percent you double your economy in six years, in 12 years [growth is] quadrupled. So, you go from a USD 2 trillion economy today to an USD 8 trillion economy in 12 years time.
As we know that is one of the biggest accumulations of GDP in human history in that shorter time if that really does happen. The biggest beneficiary of this sort of GDP expansion have to be capital markets and financial deepening. So by default the financial sector has to be a big winner in the India that we hope to have in the next 12 years.
Now regarding public sector banks I am not optimistic. If I was the government what I would do is two things. First I would merge these banks as fast as I can. So, the PSU banks which are in the North with the South and sort of cut them down in size and importance that way. The second thing I would do is by default asset-stripping.
So for example, many of these PSU companies own a lot of property. What I would do is I would take these property holdings that the banks have and all their PSU companies have, put them in to a REIT, sell that REIT and you get some value out of these holdings that you have. However, in the long run these PSU banks are not the place to be.
Q: If not PSU banks what attracts you in the finance space in general is it private banks, is it non banks?
A: What I would do is I would think about the Indian economy growing from what it is today to becoming a global financial market and think about all the things that you need to get from here to there. So the first thing you need is very good rating agencies. So I would think about that sort spurt of the capital markets. I would definitely look at the private banks; both small, mid and large all of them. That is the easiest way to play the deepening of financial markets in India.
I would look at also the non-bank financial companies (NBFCs) but given governor Rajan’s pronouncement so far it seems to me you are better off buying the private sector banks rather than the non bank financial companies. Also there is companies which will benefit from financial inclusion. In the financial sector these are smaller companies, they would be some of the ones I would look at.