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    Look beyond IT and pharma as markets correct


    We expect the margin trajectory to be much better for FY22, FY23, given the cost cutting and offshoring angle we are seeing in IT and pharma, says Pratik Gupta.
    US Election
    One will have to be a little bit patient in IT and pharma but for longer term investment we still like these sectors though one has to choose the stocks carefully, says Pratik Gupta, CEO& Co-Head, Institutional Equities, Kotak Securities.

    Markets are on tenterhooks with the US elections next week and the uncertainty about outcomes. Adding further uncertainty is the rising caseloads of coronavirus and renewed lockdowns in Europe. How are you viewing the situation currently?
    The near term outlook is clouded by the risk of a virus resurgence in Europe and its effect on the global economy. A bigger event in our view is the US elections. There is the equivalent of a hung parliament over there with a lack of a clear verdict and that would delay policy making.

    In India, we have seen virus cases coming down but there is always a risk of a second wave and we could have another round of localised lockdowns which could disrupt supply chains and demand and so on. But the bigger picture is that if you sit back and look beyond the next few weeks or months, the overall global situation does not really change. Central banks around the world are printing money. The Fed for example has expanded its balance sheet to more than $7 trillion this year and is on track to expand it even further, irrespective of who comes into the US White House.

    The ECB yesterday announced that they will be doing another stimulus. They think the economy needs further easing measures and in the US, irrespective of which government comes in, there will be a fiscal stimulus package of roughly $2 trillion. Depending on Democrats or the Republicans, the number could change a little bit but by and large they are both aligned on one aspect, which is that the US economy needs more fiscal stimulus. In turn that should lead to a weaker US dollar which tends to result in more positive flows to emerging market assets and emerging market equities in particular. In that context, India should also benefit.

    So, if you ignore the short-term noise, the longer-term outlook is perhaps not as pessimistic as many are making it out to be. The key risk is the virus over here in India and hopefully we will continue the pace of recovery going forward.

    What is your sense on the flows? We saw a dip and a climb back. What do you see going forward?
    The global flows are impacted by risk appetite and sentiment and obviously the underlying flows into their own asset classes. In India a lot of the money comes in from EM funds of the FIIs. There are obviously some global funds which invest directly as well and then there is the Indian dedicated asset category. So far we are not seeing any big India dedicated inflows as yet, but a lot could change after the US elections. If there is a lot of liquidity and a lot of positive sentiment towards EMs, then some asset allocators based will try and find individual countries to invest in rather than invest in the overall EM basket. But in general, in our discussions with our global clients, we are hearing of strong enquiries about EM funds.

    This has happened more in the last few weeks and more so after Powell’s commentary last month wherein he effectively indicated that low interest rates will continue for much longer. So, if you have a reasonably stable political environment in the US and the fiscal stimulus package proceeds, the flows into the EMs would include India as well and that should pick up. Keep in mind that India has actually underperformed the emerging market index this year. That is another reason why despite somewhat weakish growth outlook, we are still reasonably attractive although we are no longer the hot favourites.

    Markets never react to the same event twice in the same fashion. Post this correction, is it going to be as straight line and one way up recovery as it was from the March lows?Would again IT and pharma emerge as leaders?
    It is very difficult to imagine that same kind of straight line curve up even in a very bullish global environment. In March, the Nifty plunged to 8,000 and now we have come back to almost 12,000 -- an almost 50% rally. It is highly unlikely that we will see that kind of a rally once again even in the very bullish global economic and monetary environment. But clearly, while IT and pharma have rallied and a bit of a consolidation is taking place which will continue going forward as well, valuations have become somewhat full.

    Also, there has been a fundamental change in their earnings growth outlook for the next couple of years. In IT, we have seen margins expand even though the current September quarter margins are unlikely to persist. But by and large, we expect the margin trajectory to be much better for FY22, FY23, given the cost cutting and offshoring angle we are seeing in IT and pharma.

    Likewise, the USFDA regime has become far more benign and the competitive intensity has come off. Companies are past the bulk of the peak of the capex cycle. We are seeing free cash flows improve and there are a lot of new products in the pipeline for a lot of the companies. The India pharma industry has a long way to go. One will have to be a little bit patient in IT and pharma but for longer term investment we still like these sectors though one has to choose the stocks carefully and keep valuations in mind.

    The sector rotation will happen but I do not think it will be a broad-based churn. Just one sector may move. There is banking for example. That is a sector we like but it is not a broad-based sector positive view. There will be a differentiation. Some of the larger private sector banks which have a very strong deposit franchise and whose underwriting risks are very good and management quality is very stable, should do quite well going forward, even in a somewhat weakish industry growth environment simply because of market share gains.

    As and when the economy recovers, the credit growth starts coming back, the banks which have raised capital and which have a solid balance sheet and which have already done with a bulk of the NPLs and provisioning, will come out looking quite good and may start surprising on NIMs and credit growth and operating profits and perhaps even on credit costs.

    But within banks also, you have to be careful. It is not going to be a broad-based across-the-board up move. It will be similar in NBFCs. While we prefer banks to NBFCs, there are a few NBFCs which are well capitalised and where the asset quality has not been so badly impacted. One can also look selectively at a few sectors where there are market share stories. So, it is not going to be just IT and pharma once again.
    (What's moving Sensex and Nifty Track latest market news, stock tips and expert advice on ETMarkets. Also, is now on Telegram. For fastest news alerts on financial markets, investment strategies and stocks alerts, subscribe to our Telegram feeds.)

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