Ashoka India Equity Investment (AIE) released the following update:
“Over the past few weeks, Indian equity indices have seen a sharp correction due to a confluence of factors such as the Central Bank taking control of affairs at Yes Bank, and most significantly, the continuing spread of covid-19 globally.
The Indian markets have corrected by about 20.1% in sterling terms YTD (up to 17 March 2020), while the company’s NAV is down by approximately 9.2% YTD, thereby significantly outperforming by 10.9% in 2020. The outperformance has been broad based across sectors driven by stock selection with top contributors from pharma, consumer staples, consumer discretionary and financials.”
Developments at Yes Bank
“India’s Central Bank, the Reserve Bank of India (RBI), recently took effective control of Yes Bank. A restructuring plan is underway to recapitalize the bank led by the largest state-owned Bank (SBI) and a consortium of private banks and financial institutions. There is a high likelihood of an erosion of the deposit base for Yes Bank. As a consequence, weaker tier 2 private sector banks could also find it challenging to retain their deposit base or raise new deposits.
If we were to look back at the IL&FS crisis in 2018, those NBFCs with a strong vintage and a track record of prudent balance sheet risk management, emerged even stronger out of the crisis with reducing competition, improving profitability and market share gains. Similarly, as a result of the Yes Bank event, we expect the larger well-run private sector banks to emerge as clear beneficiaries from a migration of the deposit base. Their liability franchise should strengthen further. The Company is invested in such well-capitalized, dominant private sector banks with strong track records of execution and governance, which stand to benefit from this development incrementally.”
Covid-19 and its potential impact
“The situation on Covid-19, both globally and in India, is evolving at a fast pace. We do not have any differentiated opinion to offer on how this pans out for India and the rest of the world. India has so far been fortunate to have relatively fewer cases of C19 (~147 confirmed cases) despite the large population and high population density. However, it is an evolving situation and the numbers can materially change in a short span of time as has happened in other countries.
As a second-order effect of the anticipated demand slowdown and the fall out between Russia and Saudi Arabia, oil prices have also fallen sharply. India is a net importer and imports more than 80% of its requirements. This correction in the oil price is a positive for the country’s fiscal and current account deficits as well as inflation. Most of the stocks which have been impacted are commodity stocks in the energy and metals sectors and we don’t have any exposure to commodity or energy companies.
While no business may remain completely immune depending on the extent of the spread of coronavirus, certain sectors might be relatively more impacted versus others. The first order of direct impact of the coronavirus is expected to be on travel and entertainment related industries such as airlines, hotels, restaurants and theatre chains. We do not have any exposure to these businesses. In general, cyclical sectors might suffer in the near term in case of a broader slowdown in the economy. Consumer staples, telecom, healthcare and other such non-cyclical, domestic-oriented businesses are expected to be relatively less impacted.”
Commentary on select sectors:
- “Financials: While all financials might be impacted in the event of a sharp slowdown in the economy, the portfolio holds companies with strong balance sheets which are likely to be relative beneficiaries of the deposit migration and consolidation that we have discussed above.
- IT Services: We expect near term adverse impact on the Indian IT Sector due to restricted travel, delays in deal closures, slower ramp-up of onsite projects and potential cuts or deferral in discretionary spending by end clients, especially by those from the more affected industries.
- Retail: Retailers might be impacted in the short term due to lower footfalls. The Company is invested in industry leading retail businesses with sturdy balance sheets and formidable consumer franchises.
- Pharmaceuticals and Chemicals: Indian pharmaceuticals and chemical companies are dependent on China to varying degrees for sourcing key raw materials. However, because of Chinese New Year, most companies held more than the normal stock of inventory and this softened the impact when production in China reduced in January and February. Things now seem to be improving in China and production and shipments have been restored to 80-85% of pre-crisis levels. Hence, we do not expect any significant impact on our portfolio companies due to supply chain disruption.
- Portfolio positioning
As bottom-up investors, we do not have any strong views on the market in the short-term. Our focus has always been on having a balanced portfolio construction approach. We believe the portfolio continues to remain well balanced and does not require any material re-positioning to neutralize the recent macro risks.
We also believe that in the current environment, once the dust settles the strong businesses will emerge stronger while the weaker businesses could suffer disproportionately. The portfolio remains invested in dominant businesses that have market leadership in the segments that they operate in.
Our investment philosophy is to seek compelling combinations of great businesses at attractive valuations. We are also well placed to invest in newer opportunities arising from the severe price dislocations in the market.”
Outlook
“While the situation on Covid-19 is evolving, it is heartening to see a large number of countries taking multiple steps to contain the spread of the coronavirus. Clinical trials on the first prospective vaccine have also begun. We have tremendous confidence in the human ingenuity to adapt, innovate and solve difficult problems collectively when pushed into a corner. While the likelihood of an economic slowdown has certainly increased, multiple measures taken by different countries on monetary easing and fiscal stimulus will counteract a part of the economic headwind.
India, due to its limited exposure to global trade and growth driven by domestic consumption and investment led growth, should be less adversely impacted. In a post-Covid-19 environment, Indian manufacturing could be a key beneficiary as the world looks to diversify parts of the supply chain from China.
With the recent steep correction in the Indian market, equity valuations are now below the long-term averages and investors with a long-term horizon stand to be rewarded.”
AIE: Update on Yes Bank and Covid-19 from Ashoka India Equity Investment