Stock Analysis, IPO, Mutual Funds, Bonds & More

​Markets may not see another meaningful correction in 2018: Gautam Sinha Roy

It is going to be a volatile year driven by global factors: Gautam Sinha Roy, Motilal Oswal AMC.

ET Now|
Updated: Mar 13, 2018, 07.33 PM IST
Gautam Sinha _ BCCL
There is a broader recovery in high frequency data than it was a year ago. In fact, there is cause to be more optimistic about demand resurgence but it is a very gradual improvement.
In an interview with ET NOW, Gautam Sinha Roy, Motilal Oswal Asset Management, said, "the real risk to the domestic markets is global selloff which could lead to material correction."

Have we bottomed out for 2018 or do you think the worst is yet to come?

I do not think it is the end of the storm in domestic market yet. But it is difficult to say whether we will see meaningful downside from here and I will come to the reasons now.

My basic premise is that it will be a volatile year driven by global factors. The bond yields are going up and the US Fed rate hikes have already been factored in. Globally, the monetary supply will start contracting from the developed world this year and that is an event that we have to really be careful about. This is because the entire PE rerating which happened over the last five years in global markets and equities was driven by very easy monetary policy and interest rates coming down. So if both of these things reverse then the opposite should happen and PEs should contract.

Now why I say that Indian markets might not correct hugely is because of two factors. The first reason being that next year is likely to be a year of earnings recovery. I know the story has been so often repeated that people are very exhausted with it. Even last quarter was bit of a disappointment but we are finally seeing light at the end of the tunnel and the next earnings growth should be at least in the mid teens if not higher.

The second reason is the strength of domestic flows, the financialisation of savings and that financialisation coming into equity markets through mutual funds. And this theme continues to be very strong.

The real risk to the domestic markets is global sell off which could lead to material correction. Even in a good case we will probably not make any returns on the market level this year.

Where do you think the earnings recovery would kick in because I do not think there is any large sector where high frequency data is indicating either capacity utilisation or demand resurgence?

You are right that the earnings recovery is not led by demand resurgence much; it is more led by beaten down earnings of PSU banks and corporate banks. Below the operating profit level where these banks were booking a lot of provisioning will come down or reverse in certain cases. Also if you look at the earnings in Q3, except of PSU banks, we have seen a decent growth.

Now talking about demand resurgence, we are seeing increased pockets of demand growth in the cement sector. The sector is finally seeing some good traction. The volume traction price has not yet come but we are seeing good volume traction in cement. We are seeing extremely strong volume traction in commercial vehicles (CVs). The earlier hypothesis was there was a pre-buying till December but we are seeing that happening even in January and February. We are seeing good consumption of petroleum products. The freight traffic import as well as railways freight traffic has grown. On the services side the numbers continue to look robust in financial services, retail banks and tourism.

There is a broader recovery in high frequency data than it was a year ago. In fact, there is cause to be more optimistic about demand resurgence but it is a very gradual improvement. It is not a V-shape recovery and probably that is why market participants are not really feeling it. This time the change is very gradual, moderated but sector after sector it is coming back. In the core sectors like steel and metals the demand resurgence in earnings is also driven by global commodity prices moving up. One of the key factors to watch out in the coming fiscal would be whether commodity prices continue to rally from here - be it crude or metal prices. It is also a big determinant of how earnings shape up from here and how the recovery story pans out because what we have seen is as steel prices have recovered the entire sector has recovered. There is huge competitive bidding for the NCLT cases in steel. In fact only the steel NPA, which is around Rs 2 lakh crore out of the total Rs 9 lakh crore of gross NPA, is going to get cleared out over the next few months.

According to some mutual fund houses, not as much market correction but definitely post the budget announcement of a 10% LTCG tax they have seen people turning a little cautious even towards the SIPs. Has that been your experience too?

No, not really. We have two businesses - the PMS business and the mutual fund business. The PMS structure is that the stocks are owned by investors and are subjected to LTCG tax if the fund manager chooses to book profits after a year. So the PMS side has seen reduced flows but net flows are robust. Mutual fund flows actually continue to be robust and may have increased month on month in February. Overall we are clipping at a same rate we were till January. We have not seen much impact on flows due to LTCG or market correction. This is a healthy sign but then the first fall is always bought into so we cannot be 100% sure. Given the size of SIP books, even if flows halve from here, it still is a very strong number.

And mind you there is a lot of money which has already flown into mutual funds but is sitting as cash, waiting for the right market level to get invested into equities.

So there is a lot of latent buying that is there which will happen if market corrects so if that is the liquidity positive thing that I was talking about, liquidity still continues to be very positive for the market.

Which pockets do you think have the combination of right valuations given the recent fall and also growth visibility?

Well, retail financials stand out in my mind. The market share shift from PSU and the so-called corporate banks to retail-oriented banks will only accelerate going forward. I have become much more bullish on this in the last one month. The last six odd months of correction in these names are likely to lend to the next leg of rally in this segment and would include some of the quality NBFCs. The valuations are slightly expensive but they are not so expensive that the growth will not be able to compensate for these high valuations.

The other sector is the OMC pack. If you look at the valuations of OMCs, it continues to be ridiculously cheap compared to the rest of the market. The OMCs are robust businesses, probably the best you can get in the entire PSU set. We have seen PSUs across the spectrum and are practically a monopoly on the marketing side but still they trade at single digit PEs. So, the outlier value is actually the OMCs in this market.

I think the other incremental area to look at would be IT given that growth was earlier falling and no one knew where the bottom was. But we are seeing strong and clear signs that the sector has bottomed out and now there is a gradual recovery. Valuations are also supportive there. They are cheaper than the broader market. And over a three-year period they might actually give as much earnings growth as the broader index does. So especially in a volatile market, largecap IT companies with global franchises are that businesses that should definitely come back in the radar of investors today.

OMCs, I understand, is a value buy why IT? IT sector is now trading at PE multiples which are capturing in a double digit growth but for FY19, I do not think we can be sure about the same level of growth. Also, three-six months ago IT stocks were cheap but that proposition may be missing now.

Yes, you are right, they are not particularly cheap today but the possibility of double-digit earnings growth in my mind remains strong. Although they have disappointed in the past but we have seen clear signs of optimism in management commentary.

And if you look at where the problem area has been in terms of growth for some of these frontline names, has been US banks. And the people who look after IT in these banks say they have a lot of latent demand in terms of IT capex which they have simply not done since Lehman times. This is because of the pressure on profitability and sometimes also because the IT budget was getting skewed towards digital. But there need to be a major system upgrades, overhauls in large US banks.

The second thing is the tax cuts that Trump is giving them will provide them the financial power to start investing in IT capex.

The other aspect of course is dollar-rupee exchange rates. If dollar strengthens in a volatile world then that has a direct impact on earnings of IT stocks. So, from a 360-degree perspective, in a volatile world where IT demand is coming back, this is a good sector. This may not be a multi-bagger opportunity but it is a good sector to be in incrementally.

Also Read

Tension but no shock on oil market: IEA

Twenty ways marketing will change in 2020

Gems & jewellery eyes new markets

Bacardi's bet on marketing through experiences

Back to basics with Influencer Marketing

Add Your Comments
Commenting feature is disabled in your country/region.

Other useful Links

Copyright © 2020 Bennett, Coleman & Co. Ltd. All rights reserved. For reprint rights: Times Syndication Service