Rural (Re)treat !!!

Demand pullback in rural side – a disguised opportunity…

For an economy that is growing fastest in the world ,  the buzz on the ground is palpably low and patchy . Earnings have been anemic with barely few exceptions . Action  on the ground is much at variance with heady growth that the headline numbers have been flashing . No surprise that  the GDP numbers based on the new methodology have met up with wide criticism .  As for the missing buzz  , the root  of the malaise is in the muted rural demand and in the choked capex cycle . Insufficient rains for consecutive years have ruined the rural rhythms . Much to its despair , promised  public spending ( Govt’s ) in rural infra and construction is yet to percolate down to have perceptible impact. Fuelled by credit and cash crunch , the rural slump has taken the sheen off  India’s growth story.

Every cloud has a silver lining . So is rural distress . Unlike the capex crunch where the stress is deep rooted ( on low utilization and on stretched corporate balance sheets  –  some estimates say that there is 30% surplus capacity globally in manufacturing   ), rural demand is lot more resilient esp. when the govt. has lined up accelerated spending plans . More so when monsoon muddle can’t get much worse from here . Market with its myopic view has been much less enthusiastic with the rural stories . In an otherwise expensive markets , valuations have turned attractive for much of the stocks that have rural demand as their mainstay . There is plenty of scope for “Treat after the Retreat” in this space.

Rural lending is central to much of what  non-banking finance firms do . They bring the reach and domain skills where the mainstream banks have neither the requisite expertise or presence . While ongoing rural stress has taken a toll on their short-term financials , they are the ones to benefit the most when the cycle turns . When the recovery gathers steam , turn is not only limited to demand prospects , but extends to collections recovery and write-backs (of previous NPAs) . Add to this the potential NIM upside ( Net Interest Margin) on falling interest rates . In rate-cut cycle , NIM expansion is the largest for NBFCs ( compared to banks) given their higher sensitivity to interest rate cuts . The reason being their high reliance on bank borrowings for funding and their relative inelasticity on the lending side ( rate cuts are rarely passed on in the lending side given their high risk profile of borrowers ). Stock specific opportunities are several  in this space , esp. from those that have high exposure to rural segment .  In a rare instance of undervaluation , even some of the well established and leading lenders in this space are available at a steep discount to their peak cycle valuations ( price-to-book) .

Rustic opportunities, of course ,  radiate far beyond the rural lenders . Rural crunch has resulted in down-trading in much of the categories in FMCG space and thus has led to pricing pressures and volume de-growth . Companies with brands that have high reliance on rural demand can emerge as potential investment opportunities as they are likely to benefit the most when the rural wage growth returns . So is the case with some of the other agro-based industries like agro-chemicals , agro-machineries etc . With Govt’s aggressive push in public spending esp. in road , construction and railways , retreating rural demand can render itself as a great opportunity for stock-specific investments in the Bharat Story  .

ArunaGiri . N