Is the ESG theme over? Why are ITC, Coal India bouncing back? Aditya Narain answers

“The excessive market focus has led to most businesses improving their businesses from an ESG element. Overall, it is a big positive for equities in general. But what has also happened is that the extreme gap that had potentially happened at one point in time might have narrowed a little,” says Aditya Narain, Head of Research, Edelweiss Securities


Pre Covid, the ESG trade worked out like a charm but suddenly markets are saying alright ESG is important, companies are getting more conscious but we will not differentiate. ITC, , NTPC – all are bouncing back. The ugly ducklings have become the swans now. Why are markets closing their eyes towards ESG issues?
I think there are two elements to it; has the ESG trend unwound either in terms of how businesses are looking at it or in terms of how markets are looking at it? My simple answer is no, the shift or the trend or the focus that you saw on ESG on a continuum will continue. I do not think there will be any material change. So that is one element. So ESG will matter whether it is valuing up some businesses or relatively valuing down other businesses. That is one element.

The second is what happens in the interim when either the economic or market environments are a little dicey or unpredictable and which is what we are getting at this point in time or that there has been huge outperformance or underperformance because of ESG in some of these stocks. The latter issue is when there are these huge swings or maybe just an over extrapolation of the impact or the influence. Then one will tend to see some of these rebalances that are happening either on the upside or on the downside.

But as things settle, we will get back to the trend line in terms of ESG being important. Now again, there is going to be potentially a little bit of a swing away from possibly ESG becoming binary. If you are great on ESG you are up there, if you are not then forget it. That binary element will tend to disappear but the secular trend towards being a more important part of how the markets value you and a more important part of how you actually build and grow your business will continue.

Read also: Is there a blue-chip fatigue in the market?


The third point is that because of the excessive market focus on this, at points in time, most businesses are actually improving their businesses from an ESG element. That overall is a big positive for equities in general; more so for some companies and less so for others. But what has also happened is that the extreme gap that had potentially happened at one point in time might have narrowed a little. That is a long answer but bottom line, I do not think it is going away. Maybe it had got a little extreme but that trend will actually continue. Maybe we can talk about it as ESG fatigue in line with blue chip fatigue but it is much earlier in the cycle than in the blue chip cycle.

It is quite puzzling when I see funds who will not buy ITC but will buy USL; will not buy NTPC but buy Tata Power.
Again, maybe the binaries that existed at the market level and at individual fund levels will start switching to a spectrum and that is the difference. Maybe it had become too binary for the whole ESG element but will it be a spectrum or not, that we will buy that – someone’s in red, someone’s in green – but the bulk will be somewhere in the middle and that is how it will tend to happen. It will probably not remain in binaries.

The odd stock might fall into a binary but otherwise it will tend to be a spectrum. And to be fair to fund managers, they also have to follow a process. Now you get a slot, you give scores, you give exclusion lists and you do other things. But sometimes looking from the outside, it would appear that there is no method in picking a stock or excluding a stock. I do believe the binary element of it in and out will change to how much and how much of an emphasis do we lay on ESG and other parameters in our investment decision.

I would be very supportive of fund managers even though the outside might call them out in terms of what should be in a portfolio or outside of it.

The other thing that is playing out the at home stocks of the United States.Overnight Netflix lost 2 lakh subscribers, stock crashed 26%. How are you folks looking at the unlock theme and the at home stocks?
I think that is quite honestly an extreme response. I would say two things. I think we have seen this with other global stocks, even Zoom has come back to its pre-Covid levels. To some extent, at this point in time, it just ended up being a lump of earnings for a two-year period and then it is business as usual.

I suspect for India there will be similar elements and there will be a lot of excitement around the unwind and then some tapering off. But in India’s case, given where you are in the developmental cycle and the unlock trades being more basics like home décor and the movie space, I would tend to believe that we will end up having elements of this unlock trade.

People get very excited and then there is a moderation but structurally I think because there has been underlying consolidation that has happened with a lot of these businesses and growth rates for the leaders will actually pick up a little bit. So there will be elements of this unlock trade that will replicate itself or play itself out in some way with the Indian businesses in this space but I do not think it is going to be as dramatic as it has been with the case of Netflix or some of the others. As far as the leaders are concerned, growth levels just might be at a more elevated level than it was in the pre-Covid period.

Reliance brands is going picking up stake in mega designers and I do not think they have left any of the top designers out. This is turning out to be a really interesting space.
To some extent you can also argue there could be an element of the unlock trade that is accelerating and potentially exaggerating things at this point in time. One has to be a little watchful. The difference between India and globally is that here we are getting a certain amount of consolidation. We are seeing it in real estate also where real estate demand looks very good and in the markets I follow.

But if you were to look at the aggregate, the growth is not that significant at the market growth level and it is concentrated both amongst developers and in geographies. These are segments that actually do very well but at the end of the day, will the entire market do as well? I am not so sure. To cut a long story short, these stocks are in a good place. These businesses are in a better place but there will be some elements of this unlock which you need to be a little watchful about also.