Jun 04, 2012 01:59 PM IST | Source: CNBC-TV18

Why does Nomura say fundamentals positive for India now?

The brokerage feels that this may be a turnaround time for India as Prabhat Awasthi, Nomura Financial Advisory & Sec said in an interview to CNBC-TV18 that fundamental factors which have been against India might start to turn more positive with the foreign commodity prices.

Though Indian market is in a very bad shape, Nomura had raised the red flag in March itself. However, the brokerage feels that this may be a turnaround time for India.

In an interview to CNBC-TV18, Prabhat Awasthi, Nomura Financial Advisory & Sec said that fundamental factors which have been against India might start to turn more positive with the foreign commodity prices.

He explains that investors have already been underweight on India for a while now and hence do not see India-specific selling by foreign institutional investors (FIIs).

Overseas investors, for the second straight month, in May pulled out funds of Rs 347 crore from the equity markets. FIIs made gross purchase of equities worth Rs 42,443.30 crore and sold shares valued at Rs 42,790.70 crore, translating into a net outflow of Rs 347.40 crore, according to the data available with the market regulator Sebi.

"The global uncertainty of the kind that has happened was really not factored in into our numbers but fundamentally our view is that market should end the year with 12 months forward. Our view was 17000 which if you look in current context is about 7-8% upside. Now for equity investors you at least need about 13-14%. If the risk aversion is higher than you probably need more. So, I would hold on to this target but I would say that we have to watch the global macros so you can get a market much cheaper than what it is today," he elaborates.

Below is the edited transcript of Awasthi’s interview with CNBC-TV18. Also watch the accompanying videos.

Q: Can’t imagine that the mood is very positive though considering what’s been happening through the last few days. What is your expectation of what markets are going through in the near term and whether or not this is headed for that big cataclysmic kind of fall?

A: Tough to say, but things have turned down quite a bit because of the European situations. So, the mood is very somber. In the event that European crisis intensifies then India will not be standing on the sidelines. In the longer term there might be positives emerging out of this because obviously oil prices have fallen, commodity prices have fallen - that’s positive for the current account in the long term. It is positive for our inflation the long term and gives policy headroom both on fiscal side and monetary side.

But in the very short term this fall in commodities is causing collateral damage in capital flows. We still are a current account deficit country so we cannot take what is reflecting in the currency. Very tough to predict if the risk intensifies where the markets will go. But I would say that markets are cheap but not extremely cheap so they can well fall. It will be very tough to call a fundamental bottom to this. So I would say that you have to stand on the sideline, let the risk subside and then make a call.

Q: What kind of level do you hope to see the Sensex at by the time the year ends and how would you tactically approach the market?

A: We have a published view which when we first downgraded in March and then we got even more bearish in April, so we downgraded the Sensex target of 17000. Most of it was lead by our views on currency and the current account. The global uncertainty of the kind that has happened was really not factored in into our numbers.

Fundamentally, our view is that market should end the year with 12 months forward our view was 17000 which if you look in current context is about 7-8% upside. Now for equity investors you need about 13-14%. If the risk aversion is higher than you need more. I would hold on to this target, but I would say that we have to watch the global macros so you can get a market much cheaper than what it is today.

Q: One point that people have been making about the month gone by is that the market lost quite a bit of ground but it didn’t do it on significant outflows. What's the sense that you get from amongst your gathering at the conference in terms of whether that is going to be the bigger problem this month? Will it be accelerated or accentuated by sharp outflows?

A: There are a couple of things. When we talk to global investors it is very clear that in general global investors which are non-dedicated have been absent from India or have been hugely underweight. From the perspective of a generalised only India based selling people have already been underweight. I hear more often than before that lot of negatives here, but they are known and that most of the big investors are underweight.

To that extent may be that’s why you are not seeing that much selling because people have already been underweight India for a while now. The fact is that the inflows and outflows are not a function of people raising cash, but either taking a relative view of the market or seeing generalised pullback in their AUMs.

As far as former is concerned, people are already underweight. As far as the later is concerned if the risk intensifies then we can see more selling. I won't say that this is the end of it. If there are emerging markets (EMs) generally outflows in EMs then India will be a part of it. But specifically related to India may be there will not be too much from here because the fundamental factors, which have been against India might start to turn more positive with the foreign commodity prices.

Q: In your past experience how have you dealt with a situation like this where both - consumption and the investment cycle has slowed down and what kind of supply side reforms do you think the market is hoping to watch out for?

A: Given our current account deficit which was sort of getting unmanageable, there had to be a correction in demand. The demand comes from two sources - consumption and investment. Typically an investment slowdown will ultimately lead to consumption slowdown because you are putting up the supply and you are hiring lesser labour. At some point of time consumption starts to get affected as investment slows down.

In India’s case, the unfortunate part has been that the investment slowdown has been led by policy issues in the large sectors of economy like power, telecom, etc. So the fact is that investment slowed down much earlier and given the fiscal policy - consumption continues to remain buoyant. Fiscal room is very little now and the fact is that given that the investment cycle has already slowed down, consumption was a foregone conclusion.


So, we are going to see both slowing down. Typically, market multiples tend to contract in such situation. In the short term if interest rates are not going down then market multiples can contract even more. But, typically slowing growth leads to falling interest rates which is not the case in India because inflation is not yet coming off and especially rupee headwinds still there. So, next few months we probably have a challenging period for markets in terms of multiples getting re-rated.

We might find a bottom somewhere but you will not see huge upside multiples. Till the time people’s growth view of India changes and if you see last two months, people have been cutting growth forecast. It is something that is still to be absorbed by the market. So I think to your question, the issue simply is that falling growth leads to lower multiple. What supply side measures can be taken, there are basic issues with respect to ability to investment in India.

For example, you have got telecom sector where policy issues are not clear, you have got coal sector, mining sector where there are lot of issues, you have got land acquisition issues. These are far more important issues than tackling an FDI in retail because the fact is that large economies sectors, the large investment is driven through infrastructure and capital intensive sector such as metals, mining clearances, etc. These things are a reform which sort of makes it easier to invest because corporates have money - they are not willing to put it. Policy stabilization is very important for corporates. If I put in money and I see that policy has changed around me then I have a challenge.

Q: What would you liken this phase to where growth has slipped to such poor levels, there is a lingering inflation problem and there is a currency problem as well just to add it on top. What is your experience in terms of what the market does? Does it go down to those trough valuations, find some kind of bottom over there or are we just basically talking about much more protracted bear cycle where any progress will be pushed back by quite a few quarters?

A: There are very few historical periods which give you some experience of this; one was post 1997 when India went through a crisis, which was both lead by over investment in India and Asian crisis. We can say that we are somewhat similar to that where there is a global crisis and there is a slowdown in India. Albeit it is not because of over investment but government finances were poor even post 1997-98 and we had a long period of slow growth.

The only issue essentially defenses that in 1998 corporates were very weak. They had weak balance sheets, they had lot of leverage, they were not competitive, they didn’t have too much money and they were not making too much money in absolute terms. That is a silver lining.

So in some extent there will be a slowdown for sure. You can't rule that out and there is a momentum to slowdown. So it’s not going to reverse very quickly. But if the policy action turns positive then the ability of the economy to respond to that policy action given the corporate profits and given the healthy balance sheets of Indian households is far better today then anytime in the past.

It all boils down to policy, but don’t expect a very quick reversal of growth. Now question is will policy change? Your guess is as good as mine, but the fact is that we have seen that on thorny issues there has been very little action from the government. Infact what we have expected has slipped. Lets say petroleum price hikes, subsidies, action on environment clearances; they have been slow in coming. I am not too hopeful that we will see a very quick reversal.

Q: Your note indicates you are still underweight sectors like banks and still overweight on spaces like consumer even though you are uncomfortable with the valuations. Dr. Subir Gokarn will be presenting at your conference as well, what kind of expectations are you setting in from that side of policy? Will there be any priming from the RBI in terms of cutting rates aggressively or do you think they are not likely to move given the inflation scenario which will keep some of these rate sensitive sectors quite crimped?

A: There is one silver lining which is emerging that slower commodity prices. As commodity prices come off then RBI will have far more room to maneuver because current account is the best indicator of demand-supply. So, you have got a major correction in commodities and inflation and headline inflation will reflect that with a couple of months lag.

RBI has obviously done the best they could but they are hamstrung by the fiscal side of the equation and even fiscal side responds positively to falling commodity prices thankfully. You have to wait and watch as to how this whole global situation pans out and what impact it has on commodities, where do they settle down because there might be a monetary stimulus which raises the commodity prices again.

So, things are very fluid. I don’t think they can be very aggressive on rate cutting, but can start at a smaller scale on a slower basis. At least the hiking bias or the hawkish bias will reduce from here.

Q: How would you approach the oil and gas space now because if you look at individual stocks? Reliance has been sub Rs 700 for so long, Cairn has started to correct as well. Overall for this sector what would your positioning be?

A: We are positive on the sector primarily because of two things - one, we think that rupee depreciation shields these companies especially those which in private sector to some extent because even though oil prices have fallen, rupee has fallen qually. So, net realisation basis in rupee terms for rupee investor Cairn India might still be alright.

Same is the case for Reliance. Reliance benefits a lot on account of rupee depreciation. In relative terms, we have thought that given the domestic issues, it is better to buy some of these stocks which are more global in nature.

Q: What do lower commodity prices do to the metal sector? You have a positive view on that. You think it is good to go for the medium to long term?

A: Stocks are reflecting that to a large extent. If you look at rupee denominated commodity prices like metals for example, I don’t think you have seen too much of fall. In fact aluminium on rupee basis is pretty flat despite having fallen so much because you have got a benefit on the other side. I am alright owning them compared to the domestic cyclical at this point of time.

Q: A lot of people are trotting up averages and coming to the conclusion that this wasn’t such a bad earning season but it has been dotted by huge disappointments like Tata Motors. Any thoughts on that one, It has been a darling for institutional?

A: The issue with companies like Tata Motors basically is that it is very hard to keep a tap on international businesses which are as complex as that. If the company changes from being a domestic manufacturer to being a very complex international business where most of the value resides, it becomes an impossible task for analysts to sort of figure out the company.

To that extent people sort of read the last quarter, there was expectation that margins would be great because sales were better, product mix was suppose to be better, etc. In businesses which are international in nature like tech companies, there has to be far more handholding by companies in terms of guidance. If that doesn’t happen then these kind of volatility will happen.

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