Companies that produce commodities will enjoy strong profitability, while lending financials should not see very significant earnings downgrades, at least in FY23. Overall, Nifty earnings will be up by 1-2 percent, R Venkataraman, chairman of IIFL Securities, said in an interview to Moneycontrol.
In the next 12 months, there are chances of 10 percent returns, but not more, said Venkataraman, who has almost three decades of experience in the financial services sector. If the war gradually gives way to détente, then commodities may retrace and there may only be a modest lasting cost increase. Edited excerpts:
How big is the risk of inflation right now, considering that oil is trading above $ 100 a barrel?
An RBI (Reserve Bank of India) study says that for every $ 10 rise in the price of crude, CPI (consumer price index) in India rises by 50 bps. This is assuming prices are fully passed on at the pump level. India is attempting to buy discounted crude from Russia. Crude may not last at $ 100 through the year.
Finally, pump prices may not be raised to reflect the full increase in crude price. For these reasons, the total impact on CPI should not exceed 60-70 bps.
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Is there a drastic change in consumer sentiment, especially after price increases by companies to offset the impact of commodity inflation?
At present, consumer sentiment has some support from the economy entering full reopening mode after the Omicron wave washing out. That should partly offset the impact of price increases outstripping wage increases.
But overall, the environment is not conducive for taking price hikes to the full extent of cost increases. Some high-frequency indicators like passenger vehicle sales and petrol consumption are not registering strength, as per February data.
With commodity prices rising and inflation a big headwind, what will be the impact on corporate earnings and will it last for two or more quarters?
Our assessment is that commodity consuming companies will be unable to fully pass on cost increases without hurting volumes. Paints, tyres, consumer electricals, cement are some sectors where the earnings downgrade can be significant.
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Commodity producing companies will enjoy strong profitability. Lending financials should not see very significant earnings downgrades, at least in FY23. Overall, Nifty earnings will be up by 1-2 percent, considering the large weight of commodities in the Nifty.
Considering these risks, where do you see the market by the end of FY23? Is there any possibility of 10-15 percent gains?
We feel that the market levels will be a function of whether sanctions by the US and western countries on Russia will last and will have an impact. If, gradually, the war gives way to a détente, then commodities may retrace and we may face only a modest lasting cost hike.
Central bank tightening will continue during this time, led by the US Federal Reserve. Hence, in the next 12 months, we should have a chance of 10 percent returns, but not more.
Are you buying any stocks in the auto space, given the several headwinds they are facing right now?
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At present, auto stocks face a triple whammy – there could be a hit to discretionary consumption as the GDP growth takes a hit from high imports. Secondly, input cost inflation cannot be passed on easily. Thirdly, the concentration of inert gases in Ukraine poses a risk to chip production.
Some stocks like Ashok Leyland and Motherson Sumi Systems reflect this. But other stocks like Maruti and tyre stocks don’t seem to be pricing in risk. Hero MotoCorp is under a cloud at present. Two-wheelers have been struggling for growth for some time.
Bharat Forge, however, may do better as it has a defence business plus has exposure to US class 8 truck volumes, which can continue to show strength for another two years.
There was a strong run-up in telecom in March as the full effect of tariff hikes could reflect in Q4 earnings. Is it too late to enter the telecom space?
Bharti Airtel has risen to some extent, but offers good long-term value as it is consolidating its market position, improving cashflows and ROCE (return on capital employed), and generating new revenue streams. We rate Bharti as one of our top picks.
Will the RBI hint at rate hikes, given inflation concerns, or will it focus on growth? Do you expect any rate hikes in FY23?
This is a case involving entente and détente. There are still transient elements as explained above in the inflation construct. The RBI may continue to normalise liquidity and on the policy rate front, play the wait-and-watch game for a while longer.
If, as mentioned earlier, a détente could happen between Russia and Ukraine – that scenario has a decent probability – then we should also see supply response on key commodities to high prices.
Further, once China reaches its entente with Omicron, which we expect by July, supply lines and shipping tightness should ease. These factors could help inflation cool off. The RBI should ideally wait.
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