The Indian market has witnessed a spectacular rally in 2012. Most experts expect this rally to continue in 2013.
In an interview to CNBC-TV18, Sanju Verma of Violet Arch Capital Advisors says she is not cautious as yet. "We are looking at the market inching towards our fiscal year-end target of 22,000 by end of March 2013," she adds.
According to her, market is bullish on metal stocks on the back of firm demand, and pricing. She likes SAIL among the metal stocks. "It is a good bet with one-year horizon. I expect 20-30 percent returns from the stock over the next 12-18 months," she elaborates.
She also likes JSW Steel. But, she says, regulatory bottlenecks is the key concern.
She further says new NBFC norms are not likely to impact Shriram Transport. "It is our top bet in the NBFC space," she asserts.
As far as IT sector is concerned, KPIT Cummins and Hexaware are her top midcap picks. "Midcap IT stocks may take time to outperform," she adds.
Commenting on the macros situation, Verma says inflation is trending downwards. "RBI may ease in January policy," she adds.
Expert view: Trading tips on 7 stocks; 2 multibaggers
Below is the edited transcript of her interview with CNBC-TV18`s Mitali Mukherjee and Sonia Shenoy.
Q: Is this an opportunity to buy into the dip after Friday’s cut or are you getting a bit cautious on trade?
A: We are not cautious as yet. We are looking at the market inching towards our fiscal year-end target of 22,000 by end of March 2013. Given that we have rallied 20 percent plus in dollar terms this calendar year, having roped in more than USD 21 billion by way of FII flows, one easily starts thinking that maybe the liquidity driven rally has run its course, so has the valuation based rally The market, on trailing earnings, is not looking cheap. Assuming an EPS of Rs 1,400 for FY14, the market is trading at about 15.5-16 times, mid-cycle valuations.
I think the second quarter FY13 numbers clearly told one story. While top-line growth may have come down from 20 percent plus, which we have been used to seeing over the last one year to a dismal 14 percent, the more important and optimistic scenario was thrown up at the EBITDA level.
Q: There has been a bit of a switch in terms of leadership as well. The metal stocks have really come into their own. What would you buy from there?
A: Lat week, Nifty, BSE 30, Bank Nifty, everything was down between 0.5-0.8 percent. What bucked the trend was metals which actually as a sector moved up by 4.7 percent. I think that is for good reason.
It has been a while and most base metals have been trading stubbornly at below their marginal cost of production. In the next one year, the scene for aluminium, for instance on the London Metal Exchange (LME), will be no different. It will continue to hover in between USD 1,900-2,100, whereas the marginal cost of production would be anywhere between USD 2,200-2,400.
There is a reason to believe that prices will move towards their marginal cost of production, so that is one driver. Secondly, if you look at the numbers of Tata Steel, just talking of the local operations, the results were particularly bad even by pessimistic standards, with the company actually reporting a loss of Rs 364 crore from something like Rs 598 crore of profit in the first quarter of FY13.
This huge 360 degree turnaround for the worst, was less because HR coil prices or end products, were flat or saw a dip. This has been the case for the last nine to 12 months. What actually aids into the profitability of most ferrous majors for instance, is the fact, that they have been sitting on high inventory. They have bought coking coal, iron ore or raw material at far higher prices and the full impact of actually falling raw material or input prices will be felt in the coming quarters.
For instance, look at how iron ore has moved. It has come down all the way from USD 185-190 to something like USD 130-140 or even lower. Coking coal has come down from something like USD 330 a year, back to USD 235 and now coking coal prices are in the spot. Contract market is trading at between USD 140-160. So, I think companies have been booking inventory losses and two quarters down the line you will see them actually booking inventory gains.
Coming to specifics, the one stock that I particularly like is SAIL. While the EPS growth going forward may not be too reassuring, when you look at a company like SAIL, you do not buy it because it is trading at less than 8 times PE or trading at just about 4.5-5 times price-to-cash. It is not about valuations, it is not about earnings growth either. In the case of SAIL, the capacity expansion from USD 12.5 million tonnes to something like 21-22 million tonnes over the next two years is humongous. Every time they add 1 million tonne, they add something like Rs 4,000 crore to sales and something like Rs 250-350 crore to EBITDA. So, that is the kind of elasticity which a one million tonne increase in capacity, adds to numbers. So, my sense is that SAIL is a great bet for somebody who is willing to ride the rough period out and has a one year plus horizon. The second quarter numbers were particularly bad, but the numbers have troughed out. I do not recall the last time I saw SAIL’s EBITDA margins at something like 10 percent or net profit margins at 5 percent which is what they reported in the second quarter.
So, in terms of bad news, things certainly seemed to have troughed out for SAIL and the capex going forward, will be the key driver. It should trade at something like 5.5-6 times EV/EBITDA in the next one and a half to two years which easily means 20-30 percent appreciation from current levels.
For people who are looking at little bit of alpha or beta in their portfolio and want to stick to the ferrous space, I think JSW Steel is one company that I would certainly put my finger on. This is perhaps, the only company in the metals or in the ferrous space which saw a 15 percent plus growth both at the net sales and at the EBITDA level. Bottom-line actually surprised even the most optimistic analysts on the Street going up by close to 38 percent YoY and 50 percent sequentially.
Mind you, they have been straddling so many problems with respect to the fact that it is only recently, that Category A miners were allowed to kick-start production which hopefully should bode well for the company going forward. However, we all know that regulatory bottlenecks have been something that the company has been grappling with for the last three to four quarters or even more. Despite that, I think the company is well on- track to achieve 8.5 million tonnes of sales/production for FY13, which is a big positive. My sense is that, if they were to do anything more than 8.5 million tonne, then the upside to earnings can be stupendous.
However, even without that in the second quarter, I cannot think of any company which actually showed an adjusted profit growth of 20 percent, which is what JSW Steel did. Margins at 17-18 percent of the EBITDA level, were far superior to even that of SAIL which showed EBITDA margins to the tune of just about 10.5-11 percent. So, for high-risk prone players, JSW Steel is something that should certainly be a part of their portfolio.
Q: What is the expectation from the Reserve Bank policy as we head into January? Given the anti-inflationary stance that Governor Subbarao has had already, do you think there is a possibility of a hold even in the January policy?
A: I think sometimes that maybe the RBI policy is driven more out of personal hubris than the macro-dynamics as they were. If it was about credit policy being a function of inflation, then we should have had a cut on the 18th of December itself. Do not forget that while core retail inflation is at 10 percent and core manufacturing inflation still continues to be in the region of 5.4 percent, it is still better than 5.8 percent a couple of months back.
However, the key thing to note is that core non-food manufacturing inflation has actually come down from 5.4-4.5 percent. That was a huge positive which shows that inflation has been trending downwards, but unfortunately, I think the RBI’s goalpost keeps changing. Sometimes they say it is the retail inflation that is the benchmark, then they say it is the core inflation which is the benchmark, but each time inflation on any of these benchmarks comes down, the RBI changes its goalpost.
So, in a scenario of continuously shifting goalpost, it is difficult to say what the RBI will do. The RBI is not driven by even the inflation parameters. However, if you look at the second quarter FY13 GDP number or rather look at the first half of FY13 inflation headline it has come down from 9.7 percent to about 7.6-7.7 percent. Growth has come down from 7.3 percent to 5.4 percent, but the dollar growth is not even down 200 bps. First half FY13 over first half FY12 dollar growth is down 6 percent. That is the number the RBI should look at, given that rupee is certainly something that they keep a track of.
I think now it is high time that the growth paradigm has shifted down by 200-600 bps depending on whether you look at the rupee growth or dollar growth. I think the RBI maybe forced to act in the January policy, but as I said we will have to wait and see.
One interesting thing is that inflation is certainly not going to come down in a hurry. So, if one has to make that the yardstick, then I think one is in for a negative surprise. In October and November, there were hardly any open market operations (OMOs) whereas in December, the RBI has already completed OMOs worth more than Rs 23,000 crore. We all know OMOs are a quick fix way of monetising the government’s deficit . So, I think the RBI itself is responsible for inflation and then to have them say that because of sticky inflation they are not going to bring down interest rates, is a bit of an oxymoron at this point in time.
There will be disappointments on the taxation front. Tax growth year-to-date (YTD has been in the region of 14-15 percent, whereas the government’s target at the start of presenting the budget was 19 percent. The tax revenues may fall short by about Rs 50,000-60,000 crore and the subsidies may overshoot by about Rs 60,000-70,000 crore. So, net-net we are saying that fiscal deficit may overshoot by more than Rs 100,000 crore which means you will not see it coming in at 5.3 percent, but maybe at 6 percent or even higher. Fiscal deficit induced inflation will also weigh their minds, but if growth is what is going to way on their minds, then I think a cut is more like it in January.
Q: What have you read into this recent news on Lanco and the potential benefits because of the court ruling going Griffin’s way?
A: I will have to look at the news in more detail. I think it would be futile to comment at this stage because the news is still in its infancy. With respect to the larger infra space, I have always maintained that L&T continues to be a favourite, nothing has changed there. However, if you are really looking at a story which has a mix of both infra and restructuring as its core theme, then Crompton Greaves is something that I would be particularly interested in.
In the second quarter of FY13, they actually reported a 64 percent decline in profits which was a shocker with the profit coming in at just about Rs 42 crore or thereabout, leaving every analyst on the Street baffled. It was the sixth consecutive quarter of single digit margins with EBITDA margins coming in at something like 4.5 percent down even from the abysmal 8.5-9 percent that we have been used to see.
However, I think the story lies in their consumer product segment. They have been adding products. They have been adding dealers. So while the power systems and the industrial system segments will take a while to achieve traction, do not forget that the EBIT margin for the power segment, in second quarter of FY13 was a dismal 0.6 percent. However, the industrial segments division actually showed an EBIT margin of something like 15-16 percent. The consumer product division will be bucking the otherwise dismal trend for this company. They are restructuring their international operations, particularly the Belgian operations which reported losses last quarter. This is a story which could surprise people on the positive. So, if you are looking at something which has a bit of the infra theme and the restructuring element in it, then perhaps Crompton Greaves will be volatile with respect to stock price performance or otherwise. But this is one stock that I would certainly like to take a harder look at, going forward.
Q: From the non-bank financial companies (NBFCs) would you still be comfortable buying anything?
A: Yes. From the NBFC space, as part of our midcap compendium, that we released a couple of months back Shriram Transport has been one of our top picks. We actually gave a base case price target of Rs 752. The stock touched that and retracted and has been hovering around Rs 746 levels.
I am particularly confident that even our bull case price target of Rs 914 is pretty realistic and should be achieved in the next couple of months. The reason for my confidence, stems from the fact that the new prudential norms for NBFCs will not affect the likes of Shriram Transport where the capital adequacy already is at a healthy 20 percent plus. The Tier 1 capital adequacy is at 17 percent plus. They are well within RBI guidelines with the net interest margins (NIM) just shy of 8 percent and here is a company where the Return on Assets (RoA) is actually more than 3.7 percent which actually shows huge amount of operating leverage which the company enjoys. People say that their business model is faulty because they are into Commercial Vehicle (CV) financing and CVs as a segment has been seeing the rough end of the stick for a while now. However, that is only true for the medium and heavy commercial vehicles which have been de-growing at the rate of 12-13 percent. I think Shriram Transport saw this coming a couple of quarters back and their portfolio is now more skewed towards Light Commercial Vehicle (LCV) financing. LCVs have been growing at a healthy 18-19 percent, pretty much oblivious to the otherwise downtrend in the CV space per se. So, I think Shriram Transport is something that I would look at. More so, given that most of their portfolio is already tenured to the long duration end of the bucket in the region of 30-40 months, so the new securitisation norms will also not impact them adversely.
Given that regulatory bottlenecks might impact the others, but not Shriram Transport and they are in a space which is very niche with some of the operating parameters like RoE, RoA, NIMs etc. working to their advantage, this is a company that I would certainly place my bets on.