Not only India, but global markets as a whole are wading into a deep and vicious bear market. Given the kind of fall seen in Indian shares in the last few sessions, one should be prepared for something more serious in next few months, cautions Shankar Sharma of First Global.
“It is going to be a global bear market and not just an emerging bear market because things like Cyprus are no less worse than a Lehman. This bear market is like a wiper snake which causes a very painful death. I don’t think this is a slow death; this is going to be a very prolonged, but extremely painful. It is not going to be easy drifting down kind of bear market,” he said in an interview to CNBC-TV18.
India’s macro economic scenario is unlikely to improve soon and corporate earnings are seen weak this next year. Continuing his bearish tone, he said, the Sensex is likely to crash from the current 18,500 levels all the way down to 15,000-16,000 this year.
Sectorally, Sharma is bearish on the banking stocks and expects autos to see a tough time for the next few months. Meanwhile, bear market defensives like IT, consumer and pharma are relatively safer bets.
While most market experts complain about lack of retail participation impacting the Indian equity market, Sharma feels local investors have made a wise decision by staying away from the market.
“They have not bought into the bullish statements that brokers like us keep churning out periodically. They have bought real estate, they put it into bank deposits, they have bought gold and if the markets are like this I am sure the currency also will take a hit. Overall asset allocation wise the locals have done pretty okay. We really cannot find fault with that,” he elaborated.
Below is the edited transcript of Shankar Sharma’s interview with CNBC-TV18
Q: Does it look like something more ominous than just a routine correction? Could we even be at the early stages of a very bearish kind of patch for the market?
A: Around Budget time, I had held a view that we are at the cusp of a major bear market. Events subsequently have not made me revisit my view at all. From the beginning of the year from early January itself we have cautioned all our clients repeatedly that this year is going to be very different from last year. Last year we were table thumping bulls right from the month of January 2012. But in January this year we reversed our view completely, it has been a complete u-turn.
So far the script is playing out probably even a little worse than what we might have expected. When you have the beginnings of a large bear market, go back to 2008 January, it started out being really ugly and then the whole refrain started to come out that the worst is over, it is a healthy correction and rubbish like that. It never quite happens that way.
When there are significant cuts of the kind of we have witnessed now or in January 2008, one should almost as a rule of thumb take it as something portending even more ominous next few months.
Q: Your views in January were sounding very cautious but not outright bearish. What you are saying right now is that maybe the trend has accentuated on the way down and certain facts have come to the fore which makes you even more convinced that we are entering a bear market. What are these facts or signals that we are picking up?
A: For one, we look very closely, at our hearts we are really tape watchers and when you watch the tape of how India or the emerging market pack has been behaving versus the US that was telling you adequately that there is something wrong in this whole emerging market growth story theme.
Just go back to 2007 it is almost a mirror opposite of what happened in 2007. The US markets peaked in the month of September end or October first week 2007, but emerging markets kept rallying on continually till December, early January for India and as late as April for China and Brazil. That is the kind of twilight zone in which people say okay, the US has got a subprime problem, emerging markets have got great growth still behind them. India was growing at 9 percent or 9.5 percent; China was 13 percent back then.
There was something called a decoupling trade. One must have heard many experts talk about how EMs will decouple. As we now know nothing decouples. Everything is correlated. Everything falls. Some might fall before. Some might fall later. This time it is exactly the opposite. EMs started to correct in January. US market has still not corrected. People are now saying the reverse decoupling theory that the US will carry on, the EMs are anyway a bunch of scam-ridden economies, so who should care too much about them. It never unfortunately works out that way.
The US will also fall. The EMs have already started falling. So when you put that together in the backdrop of very poor economic data from almost all the Brazil, Russia, India and China (BRIC) pack and smaller countries like Philippines, Thailand etc. have had great runs, but that always happens in a pool of 15 markets. You will have the smaller markets doing well, the larger markets underperforming as the case has been of EMs.
Put all that together and also the fact that Europe has not gone away. Japan which was a somnolent market had a vertical rally. Vertical rallies always end badly, so I have no doubt in my mind that Japan will also end very, very badly, because nothing has really changed fundamentally except depreciating Yen. US seems to be holding its head above water. I do not see that sustaining for too long. All of that started from the middle of January. India started to crack from January 24 and the EMs also around that time. Since then it has been an absolute one way street for the markets.
In the pre-Budget show I had said that if at all India has any chance and I am not a big believer in Budgets changing the course of markets, but if there is any chance that we have this is the only chance that we have which is that Mr. Chidambaram gives us something to sort of live on for the next six or eight months time. Unfortunately we did not get any of that.
We got a rude shock in the form of the Tax Residency Certificate (TRC) being no longer just a necessary and sufficient condition. It was changed very certainly to being necessary, but not a sufficient condition for Foreign Institutional Investor (FII) flows.
Despite the headlines in the Budget speech being that we want to attract global flows, we want to be perceived to be an attractive destination through stable taxation policies. Here in the subtext you give investors something which completely removes the Supreme Court ruling on this matter of many years back that the TRC is enough proof for your residency in Mauritius. You completely remove that.
All those things are coming in already a very terrible macro situation. I do not understand why bureaucrats or ministers do not see it from the eyes of a foreign investor. Pranab Mukherjee made the same mistake in a different form. Mr. Chidambaram has done exactly the same mistake in a different from. All that put together I do not see where the big earnings upsides in the markets are. I do not see where the big macro upsides in the numbers are.
If you look at anecdotally IIM Ahmedabad, IIM Calcutta are unable to get their placements done at all or easily. That is telling you something. These are marquee institutions and they churn out maybe about 300-400 MBAs a year which talking a USD 2 trillion you should be able to absorb them in like a minute. They are having trouble placing people.
That is telling you something that there is a lot that is wrong on the ground now. It does not take a rocket scientist to figure out therefore if the markets are at highs or near highs where that market is going to go. Is it going to takeout highs conclusively or is it going to fall short again in a third attempt after 2008 to get past the highs. Put it altogether that is the line of though that we have had.
Q: Does the breadth of the market worry you as well because twenty stocks have held the index up but midcaps have already had a bear market of their own? Do you now see this largecaps also following what has been going on, the bloodshed in the broader market?
A: Absolutely. We watch that very-very carefully and that was apparent in the first fortnight of January itself which is one of the key indicators we looked at and alerted clients on. Those kind of markets end badly. It is just that the index is still not telling you how bad the situation has been because the banks have held up, Tata Motors was still okay, Reliance was fairly stable at Rs 820 to Rs 850 so those are the stocks that are making you look good. Now the largecaps that are beginning to give way, midcaps have already lost all that they could lose. The largecaps still have a long way to go down.
Q: Fundamentals have been rotten for quite a while in India- the only thing is that we were getting few billion dollars every month and that might have cushioned some of the fall till an extent. But given India’s recent underperformance do you think we are vulnerable to some of the money coming off now?
A: I would think so. You are absolutely right. We have been cushioned because of exchange traded fund (ETF) money flows. We talk to the country fund manager they don’t seem to be getting any money, but the ETFs do keep pouring in large quantities every month. That is a momentum driven sort of strategy that is followed through the ETF route and that can reverse very quickly in theory. In practice, I doubt if they can sell more than a billion dollars and not have a limit, down day, two days in a row. India is a very nice market.
Our policy makers have made it such a beautifully shallow market that here a punching error by a broker can send the market limit down for Rs 600 crore of trade. That is like USD 100-125 million. If one is talking a billion dollar out of god knows USD 30 billion last year and cumulatively USD 150 billion, this market won’t open for 25 days. I can guarantee you that.
Look at the cash market volumes. Cumulatively between Bombay Stock exchange (BSE) and National stock exchange (NSE) is like Rs 10,000 crore maybe Rs 12,000 crore, something of that sort. That is USD 2 billion a day. How can this market take a billion dollar of selling? All you need is, single billion dollar this market will be limit down – every stock will be down 20 to 40 percent and then the FIIs will be forced to rethink that - what is the point trying to sell because by the time one finish it will be down 90 percent so why shoot yourself in the foot. Let is just stay put and keep buying more or not buy more but at least not sell. We have made a very nice market where one can only buy, but one can never sell and it suits us as a country and we should never try to change it.
Q: What is your sense of how vicious this bear market as you are defining it could turn out to be because sometimes bear markets are not very deep affairs? The market loses 20-25 percent, it last for 12 months and then you see a modest uptrend again – this variety do you think is going to be a vicious one?
A: If one should choose between varieties of snakes and you have the Anaconda and the Python which are relatively benign. They can crush you but very slowly, or you will have a wiper who will make you die a very painful death. This is more the wiper. I don’t think this is a slow death; this is going to be a very prolonged, but very painful. It is not going to be a easy drifting down kind of bear market.
I have a very bad feeling about this one because I don’t see the macro numbers improving. There is room on the downside for macro numbers to disappoint even from the 4.5-5 percent that we have been printing lately. I don’t see any pick up in earnings next year.
Just a simple anecdotal point - banks are contributing like 30-35 percent of the earnings growth of the Nifty for next year and 60 percent in FY13. So, 35 percent in FY14, 60 percent in FY13. I don’t think banks are going to be able to deliver those numbers at all. One cannot have a macro situation being so vicious to any kind of lending, be it retail lending or corporate lending and still expect banks to keep growing earnings 20-25 percent. That is absolutely absurd thinking. I have no doubt that banks will disappoint. I have no doubt that the earnings number of 10-15 percent growth that we are penciling in for FY14 will not come through.
All one needs is disappointment from the big four banks and one will be talking about like a low 5 percent, 6 percent kind of earnings growth. If one also factors in the auto company which has been the other reasonable driver of earnings growth looking at the way Bajaj Auto is doing, I have doubts whether they will be able to add value. I don’t think Tata Motors can incrementally add value to the earnings growth if one is looking at a decline. Where is this earnings growth going to come from? Definitely not from Tata Steel for god sake.
Q: The refrain from the bullish camp is that this is the trough. It is the worst quarter. It looks terrible, but it will start improving next quarter onwards. You would not subscribe to that view, would you?
A: We all had jobs to protect, so if we start talking the way I am talking, then this industry will shutdown which anyway is headed there. People speak more out of their personal biases regarding their personal lifestyles than speaking neutrally. Fortunately, I do not owe my lifestyle to the market anymore. So, it is okay, I can afford to be neutral. My sense is that it is not going to go away easily. I will be happy to be proven wrong, but I doubt I will be.
Q: The other dichotomy that we have been talking about for many months now is how retail or local investors have stayed away completely despite the 2012 upmove, while FIIs have continued to put in money. On hindsight, do you think retail will be vindicated?
A: Absolutely, without any doubt. It has been one of my theories that if India has to truly become a very rich economy, the only way it can become so is if it prevents local investors from investing in our stock markets and makes it very easy for foreigners to invest in our stock markets.
If you were to make that happen through policy, one will have the makings of a mega windfall for the Indian economy without even realising that our policymakers have done that. Through the sales load abolition by Mr. Bhave a few years back, he managed to prevent large scale sales to local investors. Also liberalisation of FIIs, where even individuals can come in and invest, can help funding our Current Account Deficit (CAD) to be funded.
It has created a situation in which almost all stock ownership goes to foreigners and that is sold by the locals. At the end, in the stock market, everybody has to lose or the majority loses. So, if the majority are foreigners, they will eventually lose and there is no doubt about it. That is the normal statistics of the market. So, if there are disproportionate owners, markets will crash sooner or later. They will drop USD 50 billion in India. India will be richer by USD 50 billion and that is the way India is going to get USD 50 billion of windfall.
That is the only model in which I see this entire policy framework making sense. Local investors have done a great job. They have not bought into the bullish statements that brokers like us keep churning out periodically. They have stayed away. They have bought real estate, put funds into bank deposits. They have bought gold and if the market is like this, I am sure the currency will also take a hit. So, even though the dollar price of gold looks under pressure, the rupee price of gold may be actually fairly stable to compensate because of the rupee depreciation. So, overall asset allocation-wise, the locals have done pretty okay. We really cannot find fault with that.
Q: How do you position for a market like this? The key sectors which have held out have been IT and private banking and smaller sectors like pharmaceuticals and even consumer. Do you think those will crack as well?
A: We are extremely bearish, without exception to private or public sector banks. Both have different reasons, but broadly they fall in the same category. Both are over-owned sector. We do not like sectors which are over-owned in general.
In case of banking, the earnings expectations are irrational. Going into a very slowing economy, you cannot expect banks to stand out and make a lot of money while other sectors are hurting or the consumer is hurting. It is almost like the tech boom of 2000 wherein we expected all tech companies to keep posting record earnings while their end customers, be it the telecom companies and the banking and financial companies in the US or even locally Tata Motors, Gujarat Ambuja Cement were all hurting like crazy.
However, we still expected Infosys and Wipro to keep growling out the numbers, but they are service providers to these companies just as banks are service providers to manufacturing and the other areas of economy. So, you cannot expect those areas to be hurting while their service provider keeps making hay. It is the same irrationality. The most interesting thing is, now nearly a third of the Nifty is comprised of by the banks.
This is easily reminiscent of 2000 wherein about 50 percent of the market was accounted for by four stocks which were the big four ITs alongwith Zee which was the fifth one in the Technology, Media and Telecommunications (TMT) pack. So, we have again manipulated the index in a manner that now there is a disproportionate weighting of financials in the index and the same was true in 2000. Each time any sector becomes a disproportionate weight, it becomes over-owned. That is the way the story always ends. This has been there for the last 100 years and will be there next 100 years as well. I have not made these rules. Those are the rules of index manipulation.
Q: Where are we going with the levels? From the 18500 kind of Sensex levels do you see 15000-16000 this year?
A: That would definitely be on the cards. We are back to the bear market defensives - the ITs, the consumers and the pharmas. Those are broadly the areas where one will atleast save some money. One will definitely not save everything. You will still have to drop money. In a bear market, you always drop money here and there. But otherwise, on the traditional economies such as metals, manufacturing part, capital goods, banking, infra has been obviously a favourite short for the last five years for us.
We only changed our view last year when we thought that the market had corrected a lot and we would play a rally. We played that rally in Larsen and Toubro (L&T) and Jaiprakash Associates, but nothing fundamentally changed in our view and we think it is still a trash business.
I can only see trash businesses around. There are not that many good businesses that I can buy right now. So, again the whole wheel shifts back to the defensives and in defensives there are 15-20 stocks where you can stuff your money into and hope that they do not fall too much.
Q: Earlier, you were bullish on autos, but they seemed to be going through a really rough patch. Is there anything that you would buy there or just stay completely out?
A: Tata Motors has been a favourite for the last three years because we were the first to spot the turnaround in Jaguar Land Rover (JLR) even when the numbers were at still a billion dollar loss. We have changed our view in the last month, just a shade before we really started to see big downward movements. There were lot of bullish reports coming out from foreign brokers which is always a good sign to short a stock including the market which was consensus negative in January 2012 and very consensus positive in January 2013. So, if you do nothing else, but follow that, you would be making a reasonable amount of money. Autos again have run a long, long way. They have been the single best performing sector since January 2008. It is time to sort of bid them a moderate farewell, though not forever but I just think that they are really in rough weather just now for the next few months.
Q: You are clear that this will be a global equity bear market. It is not that few markets in the emerging space will be singled out for extra punishments while other markets like the US continue to outperform?
A: No, this is going to be global. It is a hybrid between 2008 and 2011. I do not think it is going to be purely 2008, because I do not think we are going to see a Lehman happen again. Things like Cyprus are no less worse than a Lehman and it is very, very ominous what a Cyprus represents. It is also pretty horrifying if you think about the implications of another country going bust and making the senior bondholders and the depositors pay almost everything away. So, we are already beginning to see what could cause this 2008 or 2011 repeat.
It always starts out small with an innocuous market. Subprime started where people said it is just 0.5 percent of the national mortgage market, it is nothing. Iceland happened a few months down the road and you it is Cyprus happening. If one goes back to the Asian crisis, the first one was Thailand which was again a tiny little economy at that point in time. People said it is nothing, it is okay and then, the contagion spread. So, this time again my gut feel is that Cyprus is not isolated. It will lead to other countries also doing a rethink and there are many, many countries in Europe still which have outsized banking sectors relative to their economies. That is the big problem. Malta is another one such problem. In Malta you have the banking sector being seven to eight times its national GDP. So, one can see why it is going to be a global bear market and not just an emerging bear market.