Dhimant Kothari, SVP and Fund Manager, Invesco Asset Management (India) Private Limited

16 Jun 2023 , 02:17 AM

How do you pick stocks in Invesco India PSU Equity Fund?

We are a process-driven fund house, and fund managers can buy only those stocks which are categorized by our proprietary stock categorization framework. The framework defines the ‘reason to buy’ and thus identifies more critical financial parameters that need to be monitored. Companies not categorized by this framework cannot be bought and this even applies to the Invesco India PSU Equity Fund.

Stock selection in the fund is largely driven by metrics related to the assessment of the competitive advantages of the business, its cash flow generation capability, capital allocation track record, return on equity and balance-sheet leverage, which come ahead of earnings growth, as growth at the cost of profitability or compromising the balance-sheet is sub-optimal in our view.

PSUs have had a strong run up in 2022, is this trend sustainable?

The uptick in PSU stocks, excluding commodity related stocks, was driven by earnings growth, which was strong at around 22-25% in FY23. The stock performance of commodity related stocks was weak, as their earnings fell in FY23 on account of a fall in commodity prices and inventory losses. Thus, earnings growth, as it usually is, has played a major role in last year’s stock price performance.

Incrementally, the earnings of PSUs excluding commodity related stocks will moderate in FY24e, it will still be healthy at 14-15%. Also, with commodity prices finding a bottom, earnings of commodity related stocks will recover from the weak FY23 in FY24e. Cumulatively, PSUs as a basket may have an  upside potential of around 13-15% in average earnings for FY24e and this will help the PSU stocks. (Source: Factset)

On an overall basis, the fund has significantly outperformed the BSE PSU index. What is the investment time horizon one should look at when they invest in this particular fund?

Short term performance can get vitiated by market volatility, sentiments, near term events, and cyclicality. An investor should ideally invest in any equity fund for a longer time horizon of at least 3 to 5 years for a better investment experience, and this is true for the Invesco PSU Equity Fund as well.

Public sector undertakings are largely present in core sectors of the economy like utilities, defense, lending, industrials, and commodities, and thus the macro-economic cycle plays a major role in the earnings cycles of these companies. Investors can align their investment decisions in this fund closely with the cycle the economy is in.

Who should ideally invest in Invesco PSU Equity Fund?

Investors looking to participate in the growth of public sector undertakings usually operating in core sectors of economy, invest in businesses that usually have unique propositions either because of access to resources or first mover advantage, and take advantage of policy reforms like increasing autonomy being provided to PSUs, monetize or modernize, etc. at relatively favorable valuations than the broader markets should invest in our Invesco PSU Equity Fund.

Nevertheless, this is a thematic fund and thus carries a relatively higher risk than any diversified equity fund. Also, public sector undertakings are relatively more susceptible to changes in government policies. So, thematic funds like Invesco India PSU Equity Fund should be added as satellites or top-up to the core portfolio of diversified funds.

What are your thoughts on Q4 earnings of PSU companies and your outlook for this financial year?

PSU banks witnessed an almost 2x jump in profits, driven by healthy 16% loan growth, margin expansion on the back of faster asset repricing than deposits, and a sharp fall in provisioning costs. While we feel net interest margin (NIM) has peaked in 4q-23, FY24e full year NIM will almost match FY23. PSU banks as a basket will manage to deliver earnings growth in line with or marginally higher than loan growth of around 14-15% in FY24e.

Defense companies had a mixed outcome, with lead-lag in order receipts and execution. However, overall orderbook growth remains healthy, which should drive decent earnings growth in FY24e.

Utilities had weak outcomes, especially gas utilities, which suffered on account of high gas prices. While drop in gas prices will augur well for gas utilities, capitalization of new capacities and improving plant load factors will benefit power utilities going ahead.

Commodity related companies saw decline in earnings in 4Q-23 on account of lower realisations, with commodity prices finding a bottom and absence of inventory losses, earnings of commodity related stocks will recover from the weak FY23 in FY24e. Oil prices around $70-80/bbl augur well for both upstream as well as oil marketing companies.

Cumulatively, PSUs as basket may have average earnings uptick of around 13-15% in FY24e.

Select sectors in the PSU theme that will continue to do well for the next 2 years.

We are constructive on PSU banks (~23% exposure), defense (~21% exposure), and utilities (~31% exposure) for the next couple of years and have constructed a balanced portfolio expressing our preferences accordingly.

While a pick-up in credit growth, reduction in credit costs, and a well-capitalized balance-sheet augur well for PSU banks, rising order books benefit defense companies. The need to increase and improve defense infrastructure and a higher focus on ‘Make in India’ offers a decent runway for growth for defense companies.

Likewise, rising plant load factor (PLF) will benefit power utilities offering healthy regulated returns, and lower gas prices augur well for gas utilities in terms of both demand as well as profitability.

In which PSU sectors do you see stretched valuations and why?

While many of the sub-sectors of PSU have seen a material re-rating in their P/E ratio, the same is driven by improvements in the earnings cycle and profitability. Thus, we do not have valuation concerns in any of the sub-segments or feel that any pocket has stretched valuations in the PSU sector.

However, if the macro-economy, which has seen some slowdown, weakens materially from hereon,  the earnings downgrades can be relatively sharper for PSUs.

What are the key downside risks for PSUs from here?

As mentioned, PSUs largely operate in core sectors of the economy and material weakness in the same can impact the earnings of these companies relatively more. Also, being owned by Government, these companies are more susceptible to changes in Government policies and can lead to downside in case of adverse changes.

Disclaimer – The views are expressed by Dhimant Kothari, Fund Manager at Invesco Asset Management (India) Private Limited. The write up is for informational purposes only and should not be construed as an investment advice or recommendation to any party or solicitation to buy, sell or hold any security or to adopt any investment strategy. It should not be construed as investment advice to any party. The views and opinions are rendered as of the date and may change without notice. The statements contained herein may include statements of future expectations and other forward looking statements that are based on the prevailing market conditions / various other factors and involve known and unknown risks and uncertainties that could cause actual results, performance or events to differ materially from those expressed or implied in such statements. The data used in this document is obtained by Invesco Asset Management (India) Private Limited (IAMI) from the sources that it considers reliable. While utmost care has been exercised while preparing this document, IAMI does not warrant the completeness or accuracy of the information and disclaims all liabilities, losses and damages arising out of the use of this information. The readers should exercise due caution and/or seek appropriate professional advice before making any decision or entering into any financial obligation based on information, statement or opinion which is expressed herein.

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