PSUs should lead this leg of bull market: Sumeet Rohra

“In spite of contributing 28% of profitability, they have only 10% of the market cao and so effectively, there is a very high margin of safety in the public sector,” says Sumeet Rohra, Founder, Smartsun Capital PTE.

Why do you see a compelling case for PSU stocks? Some of the PSU pockets have done phenomenally well. Traditional ones like utility and defence PSUs have run up. Typically only PSU banks were favourites but now it seems other PSUs are also getting exciting.
I will share some broad data points with you which I think are quite relevant in today’s context. I am going by FY21 from Bloomberg. Effectively, the total profit of corporate India was about Rs 6,95,000 crore. The public sector as a universe has made a profit of about Rs 1,95,000-200,000 crore. That effectively tells us that about 28% of the profit of corporate India comes from the public sector. But in the overall perspective, the valuations are incredibly low. Today, public sector stocks in India have a market cap of about Rs 27 lakh crore which is broadly 10% of the market cap of the entire Indian equity market.

In spite of contributing 28% of profitability, they have only 10% of the market cao and so effectively, there is a very high margin of safety in the public sector. The ROE for the Nifty is at 15%, the ROE for the PSU stocks is also 15%. So, on one side, there are the PSU stocks which are trading at about seven-eight times earnings and on the other hand, we have got the universe of the Nifty and India which trades at about 22-25 times earnings.

In an environment like today, where interest rates are climbing globally, value stocks do well and today the public sector as a universe has got a yield of about 6- 8%. The kind of margin of safety, the kind of moat and the kind of economic efficiency they have shown in terms of growth over the last five years is absolutely stunning. I think maybe at some point of time, when public sector stocks catch up, they should offer good returns to investors.

If we bottle down all that thought into stock specific action, which are the companies which you think are doing good quality work? Which are your favourite PSU stocks?
If you see the BSE PSU index charts from 2007 onwards, broadly it made a high of about 10,700 and effectively it has done nothing for 14 years. But what is interesting now is that from March 20 onwards, the PSU index has given higher returns than the Nifty. That kind of tells me that in this leg of the bull market which was born post March 30, the PSU stocks can actually lead the market and that is effectively what is basically happening.

I believe that in this leg of the rally, the PSU stocks should outperform. Coming back to sectors, we have seen PSU banks doing very well. SBI, which was languishing all the while at Rs 150-200, today broadly went up to Rs 550. We have seen defence stocks doing very well. The likes of Hindustan Aeronautic, Bharat Dynamic have actually given very good returns in the last six months.

But one space which I think has potential for an upside is the oil and gas sector. On the S&P 500, today the best performing stocks are the oil and gas stocks. The S&P index is today broadly negative 5% but oil and gas has done really well. Coming to India, the oil and gas space in India has very good tailwinds going for it because globally GRMs have started picking up.

We have a chart which shows that GRMs are now at about $15 to $16.In the last cycle, during 2014 to 2017, when GRMs went up from $2 to $9, stocks like Hindustan Petroleum, Bharat Petroleum, MRPL, Chennai Petroleum, Reliance Industries all gave 3x-4x returns.

So, something tells me that this could be an interesting space because globally there is a very big under investment in refining. That means basically no new capacity is coming up and because of that, there is a fair amount of potential in this space. Also, data came out a few days ago showing India has sold about 4,30,000 electric vehicles and that is on a total sale of about 20 million and India has totally about 200 million vehicles on the road today.

So there is a fair amount of headroom of growth in the oil and gas space which we will see for the next decade or two. Frankly with stocks trading at five times, seven times, earnings with a 15% ROE with a 8% dividend yield, the oil and gas space can pick up after banks and defence.

Which would your favourite stock among the PSUs then?
Defence as a space is picking up well, especially as the Russia Ukraine war continues. Whole focus has got back on defence. The defence sector is at a very early stage and there is going to be a fair amount of growth.

A company like Hindustan Aeronautics should do about Rs 120 EPS for FY23. Even today it does not trade expensively. It is trading below the PE of Nifty. There are also companies like Bharat Dynamics which in the current year should have about Rs 3,500-4,000 crore of revenue, denoting 25-30% growth. So I think this space is definitely very interesting.

Defence stocks have had a very big runup. They have virtually doubled in the last four-five months. Are they going to do well in the long term? Definitely yes, but there could be some bouts of correction. But these are definitely strong buys.

What is your argument on value versus growth? Which will work in this kind of a market?
Broadly markets will hold 15,500-16,000 base because the earnings momentum is going to be very strong but as highlighted, pockets of safety in the public sector are very attractive, frankly in this environment, where rates are climbing, I would kind of prefer value. I really think that PSUs in India are just about to break out and once the PSU index crosses about 10,500-11,000, we would have got a 40-50% upside in PSUs. So, broadly the market remains range bound with an upward bias but PSUs should lead.