‘There is Money to be Made in Large Caps; Like Real Es­tate’

The Economic Times - - Money -

In­dian mar­kets have bounced back strongly from post-de­mon­eti­sa­tion lows, but they are merely play­ing catch-up af­ter un­der­per­form­ing EMs in the last two months of 2016. In an in­ter­view to Sanam Mir­chan­dani, ahead of a Ko­tak in­vestor con­fer­ence, San­jeev Prasad, co-head, Ko­tak In­sti­tu­tional Equities, says he be­lieves the US econ­omy is re­cov­er­ing well and the US Fed­eral Re­serve may hike rates twice this year, which could re­verse the re­cent out­per­for­mance trig­gered by a weaker dol­lar. Edited ex­cerpts:

In­dian mar­kets are near the life-time high. What would you at­tribute this to? In­dia has out­per­formed emerg­ing mar­kets by about 3% in the past month. That is ba­si­cally a catch-up as In­dia un­der­per­formed EMs in Novem­ber and De­cem­ber post de­mon­eti­sa­tion. In fact, over a three-month pe­riod, In­dia has still un­der­per­formed the MSCI EM in­dex and per­formed in line with the in­dex on a six-month ba­sis. Some at­tribute the re­cent gains to clar­ity on tax­a­tion on FIIs in In­dia but EMs are per­form­ing based on how the US dol­lar is be­hav­ing in the short term.

What is your take on the val­u­a­tions of the In­dian mar­ket? The yield-re­lated trade is largely over for In­dia. We have seen a large re-rat­ing of ‘growth’ stocks based on low global yields over the past seven-eight years ever since global cen­tral banks started with pol­icy ac­com­mo­da­tion. In the fu­ture, the mon­e­tary pol­icy of global cen­tral banks will be­come less ac­com­moda­tive. Most sec­tors are trad­ing at sig­nif­i­cantly higher mul­ti­ples com­pared to his­tor­i­cal lev­els. The broad mar­ket is trad­ing at 17 times FY18 earn­ings, which ap­pears quite fair. The per­for­mance of the mar­ket will largely de­pend on earn­ings growth now.

FIIs seem to be re­turn­ing as net buy­ers in In­dian equities. Will this sus­tain? It de­pends on where ul­ti­mately the US is headed in terms of eco­nomic growth. It looks like the US econ­omy is re­cov­er­ing rea­son­ably well and the US Fed will raise rates two times this year, if not thrice. In that case, US yields and dol­lar are headed higher. Thus, the whole trade on the back of a weaker dol­lar could re­verse and EMs in­clud­ing In­dia can­not rely on for­eign flows alone to drive the mar­kets. In such a sce­nario, each EM will per­form based on its in­di­vid­ual macro-eco­nomic fun­da­men­tals, eco­nomic and earn­ings growth.

Ex­perts have cut In­dia’s growth es­ti­mates post de­mon­eti­sa­tion. What’s your view? We ex­pect growth in the range of high 6%-low 7% for March 2018 (FY18) and around 6.5% for March 2017 (FY17). The im­pact of de­mon­eti­sa­tion will prob­a­bly linger for some time. We have to cou­ple this with the im­ple­men­ta­tion of the Goods and Ser­vices Tax, which will be im­ple­mented most likely in July 2017. The lat­ter will re­sult in a fair de­gree of dis­rup­tion in the in­for­mal econ­omy, which will af­fect over­all GDP num­bers. Any dis­rup­tion in the in­for­mal econ­omy be­cause of the long-term im­pact of de­mon­eti­sa­tion or be­cause of GST will have fairly long-last­ing con­se­quences on the over­all econ­omy.

The RBI has changed its pol­icy stance to neu- tral from ac­com­moda­tive... We were any­way com­ing to the end of the in­ter­est rate cut­ting cy­cle. More cuts are pos­si­ble but that would de­pend on in­fla­tion tra­jec­tory and what kind of pos­i­tive real in­ter­est rate frame­work the RBI is com­fort­able with. If in­fla­tion is above 4.5% by March 2018 then there isn’t much scope for rate cuts. If it is in the range of 4-4.5% and the RBI feels it is due to sus­tain­able fac­tors, then one can ex­pect an­other 25-50 bps cut.

How will the out­come of elec­tions in some states af­fect mar­ket di­rec­tion? These things be­come top­i­cal closer to state elec­tions but I would not at­tach a lot of sig­nif­i­cance to pol­i­tics. A bad out­come com­pared to mar­ket ex­pec­ta­tions will not de­rail the macro-eco­nomic fun­da­men­tals of In­dia or the eco­nomic poli­cies of the govern­ment. In the bud­get, peo­ple were ex­pect­ing pop- ulism but the govern­ment has more or less stuck to the path of fis­cal con­sol­i­da­tion and given what­ever con­ces­sions it could to ru­ral and infrastructure spend­ing within the con­straints of fis­cal pru­dence.

Is there more money to be made in large caps or mid caps? I think large caps. The few ar­eas where I see some amount of mis­pric­ing are cor­po­rate banks, maybe in the tele­com sec­tor if we start see­ing some amount of ra­tio­nal­ity in the sec­tor based on ei­ther faster-than-ex­pected in­dus­try con­sol­i­da­tion or ra­tio­nal pric­ing by Jio.

Which sec­tors are you bet­ting on this year? We are look­ing at some im­prove­ment in non­per­form­ing loans cy­cle, which should be pos­i­tive for cor­po­rate banks. Their val­u­a­tions are quite in­ex­pen­sive at 1-1.5 times FY18 ad­justed book. In Axis Bank and ICICI Bank, some NPLs are still there, but that may peak by end of March or June quar­ter. NPLs of large PSU banks have been sta­ble for the past twothree quar­ters. We like the real es­tate sec­tor and the mort­gage fi­nance com­pa­nies. We may start see­ing some re­cov­ery in real es­tate sec­tor over the next three-four quar­ters once de­mon­eti­sa­tion im­pact goes away.

IT and phar­ma­ceu­ti­cal stocks have cor­rected sharply. Do you see value there? In IT, there is value but the way for­ward de­pends on how US visa and bor­der ad­just­ment tax is­sues pan out. Pharma has been an un­der­per­former but stocks are still quite ex­pen­sive at about 20-22 times March 2018 ba­sis.

Ce­ment stocks have ral­lied, bet­ting on de­mand re­cov­ery. Do you see more up­side? I would be a seller of ce­ment stocks. The val­u­a­tions are out­landish at three to six times book for the large caps and about 2.5 times for the mid­caps. Ca­pac­ity util­i­sa­tion is still in the low 70% range. There are se­ri­ous chal­lenges on the de­mand side. Fi­nan­cials of ce­ment com­pa­nies have been dis­ap­point­ing in the last four years. Prof­its in some cases have halved from FY2012-13 lev­els.

Should one exit the metals space which has seen a big rally? I don’t see a lot of value in the metal names also given the fan­tas­tic run they have had. But from a valu­a­tion stand­point, they look more at­trac­tive than the ce­ment sec­tor.

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