Feb 26, 2013 03:40 PM IST | Source: CNBC-TV18

Primary mkt to get FII flows; see lukewarm Budget: BofA ML

After a good run, Indian indices have pulled back a bit in the last few weeks, which indicates that the expectations going into the Budget are not very high, says Jyotivardhan Jaipuria, head of research, BofA Merrill Lynch.

After a good run, Indian indices have pulled back a bit in the last few weeks, which indicates that the expectations going into the Budget are not very high, says Jyotivardhan Jaipuria, head of research, BofA Merrill Lynch.

"The Finance Minister (FM) has already an indication that the fiscal deficit will be 5.3 percent for this year and 4.8 percent for next year. So, there will not be too much of a surprise or disappointment from the Budget per se," he tells CNBC-TV18.

Apart from the Budget, another key positive trigger for the market would be rate cut by the Reserve Bank of India in both March and May policies. "The recovery in earnings and GDP seems to be far away. People are buying India on the hope that things will turn because the rates are getting cut and reforms are happening," he explains.

One can expect the market to rise higher in the next few months based on hopes that earnings growth will improve and policy action will translate into GDP growth. However, during the fag end of the year, elections would take focus off the market and till that time if none of these expectations are met then returns will be subdued, he adds.

According to Jaipuria, last year, a large part of foreign funds came into the secondary market, but this year primary market will absorb large part of it.

Below is the verbatim transcript of his interview to CNBC-TV18

Q: How do you access the pre-Budget buildup in the market this time around?

A: We had a good run in the market and since then we have had a bit of pullback over the last few weeks. So, in some sense it is good that expectations, going into the Budget are not very high.

The FM in some sense has been very transparent. The key thing in the Budget that people always look forward to is the fiscal deficit ease in some sense. He already had indicated that it will be 5.3 percent for this year and 4.8 percent for next year.

So, in that sense, there will not be too much of a surprise or disappointment from the Budget per se.

Q: Through December and January Foreign Institutional Investors (FIIs) actually tanked up quite a bit on this market. If there is any disappointment from the Budget do you expect that to see a sharp market reaction?

A: Yes, it is not as much the Budget, but it is that India last year was one of the best performing markets. So, this year if you see people were well-positioned on India. People over the last quarter, last year had actually increased their weightage on India.

So, to that extent people did take a bit of profit from India over the last couple of weeks. I think Budget is probably one issue, but the other one is also the Reserve Bank of India (RBI) policy. So, if we get a rate cut in March and then another one in the next policy in May, then that will probably turn out to be positive for the market.

However, it is like the numbers which are coming in today of Gross domestic product (GDP), of earnings, they are not great. The recovery in earnings and GDP seems to be far away. So, people are actually buying the hope that things will turn because the rates are getting cut, because reforms are happening.

Q: It is earnings actually that has left a bitter taste in the mouth. Is it almost single digit performance this time around?

A: Yes, this quarter would be like a very poor quarter in terms of earnings. We started the quarter with our expectation that it will grow at 3-4 percent. That actually turned out to be even worse because earnings have been flat. So, the earnings growth for December quarter was zero.

My view is that FY14 will be better than FY13 partly because the base effects will catch up. In FY13 some of the global commodity stocks did very badly and they dragged down the aggregate earnings. So, FY14 will be a little better mostly because these global commodity stocks won't show that same steep decline in earnings, which they did in FY13.

Overall, it will be a year where, probably FY13 we should end the year at 5 percent earnings growth. I think FY14 will be more like 10 percent. The problem today is consensus, bottom up number for FY14 is around 16 percent. So, I think there is more downside to go, more downgrades to go from where the consensus is sitting at today.


Q: Do you expect significant downgrade to earnings estimates for FY14?

A: Yes if you think of last year. Last year earnings were downgraded by over 20 percent. I am hoping this year the downgrade is going to be much lower than what we have seen over the last one year. So, it will still be like a reasonable downgrade. As once it goes down to 10 percent earnings growth, it stops sounding very exciting because a 15 percent sounds much more exciting than 10 percent.

However, I am hope that somewhere we end up with a double digit or close to double digit growth for FY14. Of course for that the rates have to fall in place. We are hoping that there will be some rate cuts and one just have to keep fingers crossed that inflation does not really shoot up again.

Q: The markets have been fed on very strong FII flows but over the last two weeks or so flows have come off quite a bit. Any indications that you picked up at your conference about FIIs turning bit more cautious about India?

A: Yes, when we did our year ahead report, this was one of the things we had pointed out that foreigners are more overweight on India. That was now in December of last year and January of this year than they have been in a long time. So, to that extent that easy trade where people were underweight India and so they were just building their India portfolio is behind us.

In spite of that if one sees our year to date flows, they have been extremely strong. This is probably one of the best first two months we have had in terms of FII flows ever. However one also has to remember that there is a flow which is coming from the foreigners. If everything goes well and we continue to get those flows, the supply of paper is going to be much more than we had last year.

Unlike last year, where the flows came in and most in the secondary market, this year the primary market will absorb large part of it. People said India still looks one of the better places because it is not growing very strongly but neither is any other country in the world.

To that extent people said yes we like it, but markets had a great run. Market is not cheap in India. It is still one of the most expensive markets in the world and the recovery seems to be away. So, it is probably a market where it will be range bound, it is not going to run up much more from these levels. That was the general feedback we got from most people.

Q: What is your sense of how this year may actually shape up and do you still expect it to be stronger in the front half in terms of returns for the market?

A: Yes that has been our thesis that the returns will be more frontloaded this year. Last year most of it was back-loaded and there were two reasons for that. One is politics will take over some time late this calendar year. However also on the positive side lot of the reforms and rate cuts will be front loaded.
Thus, in the next few months, markets still can go up just hoping that a lot of these positive actions translate into GDP and earnings growth scenario, improving sometime later in the year. However, if one thinks that the fag end of the end, people will say now show me earnings and GDP growth and if those disappoint a bit, at the same time one have elections which probably takes the focus off the market. I think the returns may be more subdued later on.


Q: What about the global situation and do you think that is going to be a situation of worry for the market or reason for it to correct?

A: This year in global, it is still US. There is some fear that if politicians there don’t work together, we could get a slowdown in US. That will be much sharper than what everybody is building in at the moment. In fact our economists in the US think that US growth would be close to one percent.

The other risk will be the Federal Reserve, which is going to be true for lot of other markets. As at some point Fed may start to indicate that this easy money and the Quantitative Easing three (QE3) which is taken for granted is not like there forever.

So, once the market starts sensing that maybe at some point the Fed is going to withdraw the easy liquidity, we could see markets coming under bit of pressure.  For India, the two big risks are really current account deficit and inflation.

Basically the current account is something which is just not coming under control. We are at over four percent and our import cover has constantly come down over the last few years. That is something which is a worry because as long as the foreign flows keep coming, we are fine. However, one cannot always have the scenario where foreign flows will never slowdown. If there is two-three months slow down we could get into a problem.

Second is inflation and the reason for worrying is because most of us are building in some sort of rate cut cycle going on. If inflation picks up due to some external events or internal events, we have a monsoon failure, oil spikes up then we can have. A rate cut cycle just stopping very suddenly could disturb the market a lot.

Q: In the events of such a volatile phase globally how do you see India performing relative to other markets?

A: Probably, India will underperform the world. At some point we cannot really avoid that because we have participated when the things were going off. We were major outperformers last year.

After giving huge amount of flows we will probably have a stopping of the flows and then even the locals are not really putting in money. So, we will see underperformance from India. The extent would just depend on how much that risk off trade. We keep having this bounce, which are probably a month or something or whether is it more significant. 'Okay this is it, now and I am stopping my QE3', says Fed.

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