Mark Matthews, MD, Julius Baer, says: “China is not a good market to invest for the long term and if you put $100 into India 30 years ago, it would be about $1,800 today, which is remarkable considering what the rupee has done over that period of time. $100 in China would be about $150 today. So, it has been a destroyer of capital. However, there are opportunities that come along in every market, including China, and I think this is one, firstly, because their economy is bottoming out and it is not only cheap, it is abnormally cheap. I think China will be about 20% to 30% higher between now and 12 months from now. But beyond that, I would not hold it.”After how long have you come to India and what is the staggering change that you have felt?Mark Matthews: It has been around two years since I was last in India and it is great to be back. If I have one takeaway, I sense a major improvement in the attitude of people in general, but particularly young people. There is something abuzz. There is entrepreneurship which was there before, but I just feel it has accelerated and it is very heartwarming to see because in many other parts of the world, after this big wave of inflation, young people are finding it really hard to get by. Here in India, I am sure that is the case as well with many people, but I do sense an energy, a willingness to try new things and it is very refreshing because you do not see that in many other parts of the world.And that is being felt by the stock markets too, the energy?
Mark Matthews: Yes, it has. It has indeed. Yes.
Do you expect that to continue because while the youth is motivated and right now the economy is firing on all cylinders, there is always that argument that the Indian markets are expensive compared with the rest of the world. What is your take on that?
Mark Matthews: My take is that markets do not go up in a straight line. They could easily retrace as the small and midcaps have done recently. But what is behind it, first and foremost, is a capex cycle and in India, those do not just last two or three years, they last on average sort of around eight to ten years. We are just starting. We are about two to three years into it. And if that is there, then there is earnings growth in front of us and that will bring down valuations. And so, a simple answer to your question, I think it is still going up.
You have a vantage point because you look at different asset classes in a lot of different markets. Which is the best performing asset class that you think will do quite well in the next 12 to 18 months because this year we have started with gold touching record high levels, crude has started inching up. The US markets have come off a bit. Bitcoin has made a comeback. What could be the big outperformer this year at the asset class or a big portfolio level?Mark Matthews: China. It is not a good market to invest for the long term and if you put $100 into India 30 years ago, it would be about $1,800 today, which is remarkable considering what the rupee has done over that period of time. $100 in China would be about $150 today. So, it has been a destroyer of capital. I will just say that again because it is such an incredible statistic. $100 invested in China in 1993-94 would be $150 today. It is terrible.
However, there are opportunities that come along in every market, including China, and I think this is one. I would say, firstly, their economy is bottoming out. It has become patently obvious in the data series that the gradient is turning positive. Even if many of the data series are still showing negative numbers sequentially, they are becoming less negative. So, eventually, we are going to hit positive and the markets always move before that happens.
In fact, that brings me to my second point which is that there has been a technical breakout in the Chinese stock market. It was in a downward trend since last summer, and it has broken that.
The third thing is it is not only cheap, it is abnormally cheap. I could give you so many data points on that, but the one I will just leave you with is the Hong Kong landlords. If you go to Hong Kong, you see all those big buildings in Victoria Harbour. They own those. They are trading at a 60% discount to their net asset value, which is two standard deviations below the long-term average going back to 1988.
I have only seen two standard deviations below the long-term average three times in my career, which were Greece in 2012, Global Financial Crisis 2008, and Asian crisis 1998. Statistically, you only see that about 2% of the time. So, I think China will be about 20% to 30% higher between now and 12 months from now. But beyond that, I would not hold it because of the reasons why it is not a good performer, which is essentially the nature of the economy.
Are India and China equal weight in your portfolio or is there a higher allocation to China?
Mark Matthews: Oh, no, no. We have a much higher allocation to India because I am just talking about a trade. India for the long term is vastly superior over any emerging market.
And what sectors, then, are the ones that you are increasing your weights into?
Mark Matthews: Well, I would say the infrastructure space is a beneficiary of this capex cycle and the banks have been big laggards and have derated and now are good value. So, those would be two pockets that we think are worth adding to now.
What do you make about this disconnect that there is within largecaps and small and midcaps? I do not know how familiar you are with Indian small and midcaps because they are the ones which have given you way better returns, the broader markets, that is as opposed to what the Nifty companies have done and there is that disconnect in the market. Week after week it is the broader markets which are outperforming the Nifty.
Mark Matthews: Well, I know that recently the regulator has warned about this exuberance. You might remember Alan Greenspan used that term in 1996, irrational exuberance, just before the dot-com really took off. So, my opinion, and I do not mean to contradict anybody, including the regulator, is that it is the place to be, the small and midcaps, because they are the ultimate proxy for the capex recovery, that is where manufacturing is in India. You do not find it in the largecaps. But I would say they are the prime beneficiaries of the robust economic growth that will happen over the next few years and so their share prices are reflecting that for good reason.
So, manufacturing is clearly one theme that is coming back time and again. But what about public sector entities because for a large part people did not use to invest in it or it was largely a trading bet which was done for a very transient period of time. Have things changed fundamentally and would you like to take a bigger bet on public sector entities or government-owned entities as we call it?
Mark Matthews: Well, if there had not already been this big derating in the private banks, I might have said yes. But I think what is happening in India, has been happening for a long time, it will continue, there is just an organic transfer of wealth from the public to private sector, including in the banking system and so deposits will continue to migrate to the private sector banks.
I would rather own the private banks longer term because in India and any country in the world you tend to have higher returns on equity and better valuations or I should say higher dividend payouts and that kind of thing in the private sector than the public sector.
The upcoming Indian elections are a big risk factor to the equity bull run or do you think it is much in the price that it is going to be a continuity of the government and what needs to be seen is the policies that they come up with in the next budget when they come to power.
Mark Matthews: I know some people are concerned about this because the polls are suggesting around 360 seats in Lok Sabha for the BJP and of course that would be a big increment over the last election. I have no insight into that. But my sense is that the election will go their way and if it does not, then yes, there would probably be some derating in the market because what a lot of people are looking forward to is land and labour reforms and the ability to do that would be compromised if they have to form a coalition government. My sense is that would not happen.
You are very positive on India, so is the case with a lot of investors as well, but why are we seeing FII outflows time and again? On a YTD basis the last 12 months, FIIs are not coming back. Global money is not coming into India with that kind of ferocity. What explains that? Is it related to the dollar hedging?
Mark Matthews: I think this is something that goes back 15 years now. Around 2007, there was massive outperformance of the US over every other market in the world. I cannot think of any exceptions and that is because of the iPhone. The iPhone was introduced in 2007 and with it, of course, came all the other smartphones and the digitalisation of the world economy has benefited the US technology sector first and foremost.
If I just think of the old days when I would arrive in India, I would get an old ambassador cab and drive it into town and I read the Times when I got to my hotel room and now I get an Uber and I watch Netflix when I check in and so this has been the reason why emerging markets have been sidelined. I think as long as the technology sector in the US is doing well, unfortunately they will continue to be sidelined. I think technology in the US will do well because of artificial intelligence. It is the biggest beneficiary of this. We are on the cusp of a massive revolution in technology.
What happens to Indian IT in that context because that has been the conundrum, right, whether it will lead to perhaps more outsourcing happening to India or will it lead to perhaps job cuts because the USP of Indian IT was cheap labour to an extent?
Mark Matthews: I do not know, but I do think that generally India’s economy will be a massive beneficiary of artificial intelligence because of the highly mathematical nature of the population, educated and English-speaking. Stanford University did a study on artificial intelligence vibrancy and India came right after the US. They studied about 20 countries, largely looking at people’s LinkedIn accounts, but India was number two. So, the economy will benefit. I do not know about the big technology companies.
What is going to be the next iPhone moment? What do you think it is going to be? Many debate that it is going to be back to basics, it is going to be manufacturing, but I do not know what is your take.
Mark Matthews: It will be just the adoption of artificial intelligence in the economy and society, absolutely profound implications. Sundar Pichai, the CEO of Google, says that it will probably have a larger impact on humanity than fire or electricity, but I cannot say it is an iPhone moment. It is even bigger. It is like discovering fire. We do not know. We will only know in retrospect.
For example, when the internet was introduced, we were all wondering what the impact would be? I can say to you one impact is that now in America two out of three people are meeting their life partner online. They are no longer meeting their life partner through friends or family or at work, etc. They are sort of using their phone and I am not saying that is a good thing, but I am just saying that for artificial intelligence, you will have the same massive impact, but to identify the actual changes we cannot do that now.