Daily Voice | Services to drive India at 7.5% growth rate in Q2, says Sahil Kapoor of DSP Investment

Market Outlook

Services are likely to be the growth engine for the Indian economy, thanks to a rebound in post-COVID India, outstripping agriculture and manufacturing.

The economy will grow by 7.5 percent in the second quarter this year, estimates Sahil Kapoor, Head of Products, and Market Strategist, at DSP Investment Managers. This will be led by a rebound in services and a holistic recovery in industrial dynamics, he says.

In an interaction with Moneycontrol, Kappor shares his views on the liquidity scenario in the country. The Monetary Policy Committee of the Reserve Bank of India will meet again in December to thrash up the fiscal policies.

“The RBI may choose to raise the reverse repo by a token 15bps to signal that extraordinary loose policy may not be needed at this time, and may also choose to wait for the Budget in February to signal its trajectory on rates,” says the seasoned financial management professional.

Excerpts from the interview:

We’re just ahead of the announcement of the second quarter GDP figures. What are your broad expectations?

We expect the GDP to grow by 7.5 percent in Q2FY22 largely led by a rebound in services. So far, agriculture and allied activities have grown steadily and a rebound in manufacturing has helped the GDP to recover.

A sharper recovery in contact services as the effects of the second wave of the pandemic waned should be visible in the second quarter data. Going ahead, we expect services to take the baton of recovery from agriculture, manufacturing and aided by a rebound in the industry as a whole.

The RBI monetary policy meeting is due next month. What are your broad expectations, given the liquidity flush we’re into?

Well, I think the RBI would like to bridge the broken corridor. It may choose to raise the reverse repo by a token 15bps to signal that extraordinary loose policy may not be needed at this time. In fact, the RBI is more likely to focus on reducing the liquidity surplus from the interbank market and bring it closer to Rs 3 trillion from Rs 8.5 trillion now.

It is also possible that the RBI would choose to wait for the Union Budget in February 2022 to signal its trajectory on rates. The policy could go either way, but it’s only a matter of time that the RBI begins to normalise the policy more aggressively.

Moving on to finance, do you think this is time to increase exposure to debt and go slow on equity, given the expected change in the central bank’s stance?

We have had some corrections in stock prices recently which has started to remove the froth built up in some pockets of the market. Debt allocation should ideally be part of your asset allocation strategy always.

For the last few months and for the next few months investors should use the hybrid funds like the dynamic asset allocation funds to invest incremental funds. This will allow them to sit on lower equity exposure as most of these funds are at the lower end of equity allocation.

At the same time, choose a fund which has lower duration on the debt component. This would allow you to benefit from market volatility and an increased allocation to equity when these funds increase allocation to equity in case of further correction.

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If you were to select two sectors to build a portfolio for healthy returns by the end of 2022, what would you have chosen?

Banking appears to be in a long consolidation phase. Credit growth has seen a shallow recovery and is now beginning to see an uptick. Remember that services form a large part of India’s GDP and a recovery in services should ideally set the stage for a recovery in credit growth as well. Most banks have seen their asset quality stabilising and liability side remains comfortably benign. From a price-performance perspective, banking has been in a yearlong consolidation and has been an underperformer. This is one sector to watch out for.

The other sector would be automobile. Discretionary demand is likely to make a comeback with supply side issues for OEMs (original equipment manufacturers) getting resolved. This is likely to benefit both OEMs and auto ancillary players.

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The IT story looks solid. But, don’t you think one should reduce exposure to IT, given a sharp fall in the number of positive surprises from the sector?

IT has been one of the best performers. Most IT companies in the second quarter beat the street’s expectations on margins and companies highlighted that demand environment looks extremely strong. In the short term, there could be some headwinds, but in the long term, the earnings growth will outpace revenue growth as seen in the FY09–16 tech upcycle.

However, the sector needs to be seen through the next two to three quarters of marginal headwinds. This is likely to keep the IT sector performance under pressure. Also, the reopen trade favour contact services and probably will be a dampener for IT in the short term.

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What are the biggest events, according to you, one should watch out for in the rest of FY22?

The way the markets react to the actual tapering will be key to watch out for. Most central banks continue to remain dovish but are now uncomfortable with extraordinary liquidity.

Even the RBI is likely to remove excess liquidity. The key to watch will be the pace and timing. Would the RBI see through the upcoming budget to move on short-term rates, more specifically the reverse repo, or it would start to normalise sooner – that’s the question.

Another important thing to watch is the reforms process. After scrapping of the farm laws and excise duty cuts announced earlier there are likely to be more announcements. As we head into the Assembly elections, there could be a lot of volatility induced by these events.

Have you changed your earnings estimates for FY22-23 after the September-quarter earnings season?

There has been some trimming of earnings estimate by about 3 percent or so. It is important to watch how margin pressure plays out in the next few quarters. Also, topline growth will be the key for many companies to continue to report strong earnings growth as cost-savings fade.

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