‘We See More Value in Large Caps than Mid­caps’

The Economic Times - - Money -

Do­mes­tic in­sti­tu­tional in­flows, which have pro­pelled the mar­ket to near life­time highs this year, are likely to get stronger go­ing ahead, said Navin Agar­wal, man­ag­ing direc­tor, Moti­lal Oswal Fi­nan­cial Ser­vices. In an in­ter­view to Sanam Mir­chan­dani ahead of the firm’s Eu­reka In­dia in­vestors’ con­fer­ence in Lon­don, Agar­wal said he sees more value in large caps than mid­caps. Edited ex­cerpts:

Foreign in­flows have been tepid even as the mar­ket is close to its life­time high. When do you think they will pick up? The mar­ket is trad­ing at about 22 times trail­ing earn­ings. If you as­sume a 20% earn­ings growth for the next year, which is what our team is mod­el­ling, then it is at 18 times for­ward mul­ti­ple, which is in line with the his­tor­i­cal av­er­ages. From a short-term per­spec­tive, the mar­kets are fairly val­ued. How­ever, foreign in­vestors are not in­vest­ing in the In­dian mar­kets for the short term. When­ever cor­po­rate earn­ings ac­tu­ally de­liver that 20% growth, you will see po­ten­tially more in­flows com­ing into the In­dian mar­ket. Till that time, I don’t see FII flows re­ally com­ing to In­dia in a strong way.

How long will DII sup­port con­tinue to hold the mar­ket? The cor­po­rate re­sults that have come out for the De­cem­ber quar­ter are still muted but they have turned out to be a lit­tle bet­ter than ex­pected. The re­sult­ing en­thu­si­asm has driven up the mar­kets back from 8,000 to near 9,000. Do­mes­tic flows into equities have been very strong. Left to FII flows, our mar­kets might have stag­nated at 8,000. With real rates of in­ter­est go­ing up, the pro­por­tion of sav­ings al­lo­cated to fi­nan­cial sav­ings has gone up to 40% in FY16 from 30% in FY12 and we ex­pect that it will be at 43-44% in FY17. Within that, we ex­pect equities as a pro­por­tion of fi­nan­cial sav­ings to rise to 15%. The com­bi­na­tion of th­ese will lead to con­tin­ued strong flows of re­tail sav­ings into equities.

In the last few years, mar­ket has started off with dou­ble-digit growth ex­pec­ta­tions and grad­u­ally low­ered them. Will FY18 also be the same? In the past two-three years, ev­ery time we started the year with 20% earn­ings growth ex­pec­ta­tions, there have been some un­ex­pected head­winds from com­mod­ity side, as­set qual­ity or in­vest­ment cy­cle. In FY17, the an­a­lysts may get used to pre­dict­ing a muted growth and the re­al­ity may be dif­fer­ent. The mar­ket rates of in­ter­est have come down. Also, the com­mod­ity com­pa­nies which had seen com­plete col­lapse in profit, are see­ing im­prove­ment in their prof­itabil­ity be­cause of some uptick in prices. All of th­ese will con- trib­ute to im­prove­ment in prof­its be­sides credit costs start­ing to come down. We are ex­pect­ing a net profit mar­gin of 9.5-9.6% for FY17 and go­ing up to 10.4% for FY18.


Have we seen the worst in terms of de­mon­eti­sa­tion im­pact on earn­ings? The de­mon­eti­sa­tion im­pact will not be fully elim­i­nated in the March quar­ter. You may see some small im­pact con­tin­u­ing into the fol­low­ing two quar­ters as well but the im­pact will be di­min­ish­ing by the pass­ing quar­ter. Com­bi­na­tion of de­mon­eti­sa­tion im­pact and GST in the sec­ond quar­ter of FY18 are size­able or mean­ing­ful changes which im­pact cor­po­rate earn­ings, eco­nomic growth, con­sumers, and busi­nesses. I see both of th­ese fac­tors pro­duc­ing long-term ben­e­fits de­spite the near term pain.

How are foreign in­vestors view­ing change in RBI’s pol­icy stance to neu­tral? Most in­vestors are no longer as­sum­ing any fall or cut in in­ter­est rates over the next 12 months. Our own economist is es­ti­mat­ing in­fla­tion at 5.8% by FY18 end. In fact, a cut or a rise (in in­ter­est rates) is the new de­bate and not the quan­tum of cut any­more. How­ever, mar­ket rates have fallen a lot. If you look at the year as a whole, there will be ben­e­fit in this full year com­pared to the pre­vi­ous year.

How are in­vestors read­ing the global head­winds like pro­tec­tion­ism? Ris­ing pro­tec­tion­ism is a new dy­namic that in­vestors will have to rec­on­cile to in the com­ing years. This could have im­pact both on the growth rates as well as prof­itabil­ity of the com­pa­nies which have been big ben­e­fi­cia­ries of glob­al­i­sa­tion. How much of the rhetoric finds way into pol­icy mak­ing re­mains to be soon. We are all in a wait and watch mode. We still like a few com­pa­nies which are very well po­si­tioned in those re­spec­tive sec­tors but we feel that we will have to bud­get for slower growth rates and con­strained prof­itabil­ity.

IT stocks have fallen sharply. Would you be a buyer in this space? Th­ese com­pa­nies are im­prov­ing their payout ra­tios via div­i­dends as well as buy­backs which will in turn im­prove the resid­ual re­turn on eq­uity. In­dian tech­nol­ogy com­pa­nies will be able to ride the wave of digi­ti­sa­tion as well. The re­cent un­der­per­for­mance of the sec­tor has im­proved the risk re­ward and present dou­ble-digit money-mak­ing op­por­tu­nity.

Where do you see more val­ue­large caps or mid­caps? We def­i­nitely see more value in large caps com­pared to mid­caps. The val­u­a­tion dif­fer­en­tial between large caps and mid­caps has im­proved the risk re­ward for large caps.

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