Let us talk about the elections and the market given the kind of correlation that we have seen for the last five consecutive Lok Sabha elections with the Nifty rallying between 3% and 21% just a month before the elcection, Now that there is more clarity in terms of the dates, what is your assessment?
Nilesh Shah: This time, the market has already discounted the continuity of the government. Market is also discounting more big bang reforms rather than incrementalism and which is why our markets are today trading at probably one of the highest valuations over the peer group. We today trade at much higher valuation than what we enjoyed over our peer group. Partly it is the function of our doing well and partly it is also a function of expectations that will continue to do better.

In this backdrop, we have also had a big shake off all through last week. The regulators stepsped to bring in more transparency into the system and that had repercussions on the overall market and especially in the small and midcaps. Do you sense there could be some more pain in the system before we have a shake off of the weaker hands, if you will?
Nilesh Shah: So, there are two parts of the market, one which is fundamentally driven, albeit optimistically priced. These are largecaps, larger midcaps, some of the smallcaps, essentially stocks where there is enough floating stock for the market to determine fair value. As I mentioned, this part of the market is expecting India to do well and hence it is optimistically priced.

There is a segment of the market where prices are way ahead of fundamentals, not because those companies are expected to do well, but because there is very limited floating stock. This floating stock is concentrated in the hands of few people and which is why limited buying is resulting into prices going higher. This builds momentum. There are crores of retail investors who believe what has gone up yesterday will also go up today.

They jump into the bandwagon only to get the experience that making money is not easy. In that part of the market, in the absence of fresh, gullible investors, we might see corrections going ahead. Eventually, there will definitely be a correction. But on the part of the market where prices are discovered through market functioning, through market mechanism, I see limited downside and eventually there will be upside.

Is it a good idea to take a very generalised market cap view on stocks because it is smallcap, it is expensive and because it is largecap, it is cheap?
Nilesh Shah: No. Broadly, each company will move based on their fundamentals. A smallcap company with good governance and better future growth prospects will definitely get valued at far more than a largecap company with limited growth prospects and very bad governance. But at the end of the day, on an average, it is fair to assume that smallcaps will have higher volatility in their earnings, there will be concerns on their corporate governance and hence, as a group, they should trade at a premium to largecaps. Now, every rule has an exception. There will be periods where smallcaps based on growth and governance can trade at premium to largecap. At the end of the day, the stock market is a function of how individual companies are built.The other question is, whether it is a hint from the regulator or perhaps an attempt by the government to ensure that there is no bubble in the market? Regulatory moves have been taken. Do you think the market should welcome them rather than starting the blame game?
Nilesh Shah: It is always difficult to see what is the right thing when we are in the midst of it. There will be people who were enjoying this false rally in low floating stock and when prices correct, they lose money, and they will blame the regulator, oh, you should not have intervened. But do remember that the cost of creating a bubble and cleaning the bubble is far higher than pricking the bubble at the beginning. On one side, we had regulators like Alan Greenspan, who said, I do not know where the bubble will be built and I will clean it up after the bubble has been busted by market forces. Now, we have seen what that has done to US markets. For a while the market presumed they had an Alan Greenspan put and hence there will be no downward correction. So, we have to really trust the judgment of regulators. They know what is the right thing and they are probably giving bitter medicine because they want our market and our economy to be healthy.

Smallcap stocks have corrected. Money always changes performance. Suddenly, what were looking like great returns, will start looking like average and better than average returns. What are the chances that after the recent rout in small and midcap stocks, the flows into small and midcap funds could stall? Few AMCs have already started reducing exposure to small and midcap stocks. Few AMCs, they are not taking fresh inflows into small and midcap stocks. Could we be in a liquidity vacuum for some of these stocks?
Nilesh Shah: Again, at a price there is always liquidity and as AMCs, we are trying to caution our investors and ensuring that they come with right expectations. From time immemorial, it has been seen that mutual funds’ returns and investors’ returns widely differ as investors continue to chase performance rather than stay invested.

Last year was one two ka three market, largecaps gave about 30% return, mid and smallcap about 60%, and microcap about 90%. Now normally, this is five-six years return rather than one year’s return but that is the nature of the beast. Market does not move linearly. Now, clearly, investors who are coming into small and midcap funds should not expect what happened last year will be repeated in the next one year or two years or three years.

It is likely that returns from here will moderate. They should also not expect a straight line like this. There will be ups and downs. As an asset management company, we are trying to caution our investors and bring them with the right mindset, be a long-term investor, be ready for volatility, moderate your expectation and then certainly small and midcap can also deliver returns.

You said one two ka three, the problem with one two ka three is that the next line is four two ka one. So, if you do not sell right now, what are the chances that you may actually not benefit from this surge in small and midcap stocks? I mean, is it important to take some chips off the table? Either you move to largecap stocks or some other instrument?
Nilesh Shah: Definitely, that is what smart money is already doing in those low floating stock counters and which is why we are seeing that in some companies, the promoters are selling and retail shareholders are increasing. Now, undoubtedly, we have advocated to our clients to follow the dharma of asset allocation. If you are leveraged into this market, please sell everything right now and reduce your leverage unless and until you are an exceptionally lucky or exceptionally skilled trader.

If you are overweight into equity, this is time to book profit. In fact, I am carrying one slide which I can show right now but this is what I have been communicating. If you were a brave person who bought during the Covid period, then you can hold on to your positions because you know how to manage risk. If you were that conservative person who sold during Covid period, then please book a lot of profit over here.

If you sold at 8,000-9,000 Nifty, there is no shame in booking profit at 21,000 or 22,000 Nifty. And if you hold on to your portfolio, then do not be overweight equity as an asset class or small and midcap as an asset class and your fresh investment, please do via SIP and STP into largecap or large and midcap fund.

When it comes to the foreign institutional investors, in light of the way our macros are placed, the fact that we have got the elections as coming up well, this capex boom, manufacturing renaissance, all of that, what is the outlook on the foreign institutional investors and pumping in and the liquidity situation back home?
Nilesh Shah: In some of the institutional equity conferences which were held in Jan-Feb, there were far more foreign investors participation than we have seen before. There was a time when we were pushed by our friendly sell-side analyst or salesperson, asking if we can fill this meeting because we are not getting enough audience. This time it is the reverse. The friendly salespersons and research analysts were saying, look, we are already overcrowded, we will arrange a meeting for you at a later date but can you vacate the slot because I have to accommodate some other investors?

So, one, there is undoubtedly huge-huge-huge interest in India. Second, like local investors, global investors are also worried about valuation. There is no denial that they all want to invest in India. They just want to know what price they should invest. And the dilemma is real. India trades at premium to almost all major peers. It trades at a higher premium than its own average premium over major peers and there are markets which are very cheap. Russia, obviously foreigners cannot go there, but it is at one-eighth valuation of India. China is at one-third valuation of India. Brazil is at one-half valuation of India.

Foreigners are in true dilemma, sasta kharide ya sundar kharide (buy cheap or buy quality?). The Indian market is expensive, but it has delivered returns year after year and there are better growth prospects. So, that is why in October-November foreigners sold, in the Christmas holiday period of December they bought more than what they sold in October and November. This dilemma is pushing FPIs to behave in a slightly random manner.

What to your mind in India is then sasta, sundar, tikau (cheap, good quality and sustainable)? That works in India, right?
Nilesh Shah: Absolutely. I just pray that foreigners recognise that sona, sona ke bhav pe milega aur pital, pital ke dam pe milega (gold price will always be higher than brass).

So,can I say India sona (gold) and China is pital (brass)?
Nilesh Shah: As of today, yes. But on a serious note….

I was not joking. I was very serious about that point. Why are you thinking it is a joke?
Nilesh Shah: Well, to your googlies, I am unable to decide, but I can play straight delivery.

No, going by your latest tweet on the Manhattan real estate commercial prices as well, and given how it stacks up with India’s or Mumbai’s Manhattan, that is BKC, seems to lag, the bubble is here.
Nilesh Shah: Well, it is also demand and supply. Undoubtedly, in a city like Mumbai, real estate is short in supply, especially of A-grade commercials and which is why we are seeing prices running higher than NYC properties.