Deepak Jasani, Head of Retail Research at HDFC Securities, says the withdrawal of monetary stimulus and raising of interest rates globally will impact flows into equity markets. “Rising inflation could create another set of concerns.”
Deepak, who has a broad-based domain expertise of more than sixteen years in capital markets, further says while the macro situation shows signs of improvement and continued reforms thrust could result in faster growth over the medium term, temporarily the markets may be fairly valued.
“However a large fall is unlikely before the Union Budget due on February 01, 2022.”
Edited excerpts:
Most of key corporate earnings already announced, so what is your broad view on the earnings season?
Broadly manufacturing companies have faced cost pressures and their margins have dipped. FMCG and cement companies are some examples. In most companies the growth in EBITDA (earnings before interest, tax, depreciation and amortisation) and PAT has been slower than that of the topline. In some companies even the topline growth was impacted due to supply chain disruption (e.g. automobiles). Service companies have fared better as demand has remained strong; but some of them have been affected by higher wage costs and / or fuel costs. Reopening sectors have shown the first signs of a strong revival.
Select companies from Capital Goods, Chemicals, Auto Ancilliaries, Textiles, BFSI, Auto Ancilliaries, Metals, IT Services, Realty reported good numbers.
What are the key pockets where you can find value now and why?
PSU as an asset class, Metal and mining stocks (for SIP accumulation over the next few months), select Auto Ancilliaries and engineering companies still offer value due to improvement in their balance sheets, orderbook and execution growth and value unlocking expected in them.
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Do you think the bull run in India has just started and has a long way to go?
Our markets have kept rising on hopes of faster return to normalcy and India emerging stronger and as a more attractive destination post a series of reforms that did not show any slowdown despite the pandemic. The flood of new investors post the Covid pandemic has also helped deepen the markets and diversify the source of funds.
After rising so sharply, the markets are due for a reality check. Going by the initial Q2 results, corporate profitability has come under some pressure due to commodity price inflation and supply chain issues. At the same time, the valuations are high going by historical standards. While the macro situation shows signs of improvement and continued reforms thrust could result in faster growth over the medium term, temporarily the markets may be fairly valued and in the results season we could see rotational profit taking while the indices may not go anywhere in a hurry.
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Based on historical valuation parameters Indian markets have reached the high end of the band of valuations. However one will have to consider the monetary stimulus and the low interest rates prevailing in the world till about a few weeks back. Also the alternative sources of investment did not yield attractive returns. Work from home resulted in a big flock of millennials starting to trade in equities. Rising allocation out of financial savings to equities in India also led to this kind of rise in indices. This shows the potential of even higher allocation by Indians to equities as an asset class and its impact on valuations in future.
Having said that there are excesses in some pockets of the markets.
Hence depending on the flows from FPIs some more correction can happen in our markets in the near term, though this could throw up opportunities to add in select stocks.
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The risk factors facing the equity markets now include commodity price inflation, supply chain issues, reversal of monetary stimulus, increase in the interest rates across the globe, large continued reversal of FPI flows, possible damage to the asset quality of lenders, slow job creation due to the shift from unorganised to organized. Some of these are already visible lately.
The flood of IPOs is expected to be seen in the coming future. Should one focus on all those IPOs including fintech, startups etc, though they are making losses? What are the key factors one should consider before subscribing every IPO?
IPOs have lined up basis the response to the earlier IPOs and the listing gains in most of the earlier IPOs. The appetite of investors has increased even for companies that have not made any profit so far or are not likely to make any profit in the near term. The valuation parameters have undergone big changes over the past few quarters partly aided by the valuations given to IPOs in the US.
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Going forward, as long as IPOs offer listing premium and enough upside for leveraged applications, IPOs will keep coming up, before or after the LIC IPO. Internet enabled businesses that are leaders already and can show linear growth in top and bottom line will remain in favour. Investors should be aware that this kind of valuations to the internet enabled businesses could come in for realty check as and when money becomes expensive and these companies don’t deliver in terms of topline and/or bottomline growth in the next few quarters.
What does the current market cap to GDP ratio and PAT to GDP ratio indicate? Do you think the private capex to pick up pace in coming months?
Currently the market cap to GDP ratio for India is 135 percent, the highest since September 2007. Over time, many new companies have got listed, many others have expanded their equity capital by way of Rights, Preferential issues etc. This has led to increase in equity portion. Valuations have also risen lately to reflect heightened interest of investors – both foreign and local in equities in an era when the fixed income option is not attractive and Gold and Real estate have disappointed in terms of returns over the past few years.
The PAT to GDP ratio for FY21 for listed companies is about 3 percent versus 1.8 percent in FY20, 3.1 percent in FY15 and 6.3 percent in FY08. This reflects the pressure on corporate profitability due to a lot of sectors that were in vogue in late 2000s falling out of favour and asset qualities of borrowers coming under pressure.
Private capex is on the verge of another large spending after a gap of several years. Ratio of Cashflow from operations to capex for India Inc. has reached a 2-decade high of 2.2x, similar to the commencement of the previous capex cycle in FY02-04.
Resilient global commodity prices and improving capacity utilisation is likely to drive investment demand. In addition low interest rates, ample liquidity in the banking system, primary market ready capital markets and schemes like PLI (production linked incentive) will also help. Household capex on housing has already turned in a convincing manner.
Do you think the central banks’ action (including Federal Reserve) and inflation worries can cause consolidation in the Indian equity markets in the rest of FY22?
The withdrawal of monetary stimulus and raising of interest rates globally will impact flows into equity markets globally. Rising inflation could create another set of concerns. While the macro situation shows signs of improvement and continued reforms thrust could result in faster growth over the medium term, temporarily the markets may be fairly valued and may consolidate/correct for the near term. However, a large fall is unlikely before the Union Budget due on February 1, 2022.
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