Neelkanth Mishra, MD & India Equity Strategist, Credit Suisse does not think the Indian market is anywhere close to a bubble territory. “For the market as a whole, if one looks out the price to earnings premium to world or asset classes like 10-year US bond yield, it does not look like a bubble territory,” he said.
In terms of earnings per share (EPS) growth for the Nifty, for FY18 they are at 11 percent and for FY19 at 23 percent, said Mishra.
Sector specific the house is overweight on IT, energy and metals, said Misha. There is value in IT, he added. They also like private sector banks, despite the fact that earnings cut could happen.
The house is not so upbeat on broad based consumption themes like staples, cement and would prefer to stay away from them, he said.
Telecom although on a relative basis had done well over the last 12 months, there is still some pain left for that space and could see negative surprises, said Mishra.
Below is the verbatim transcript of the interview.
Q: It is always a pleasure to talk to you and especially at a time when markets are at all-time highs, record inflows into the domestic mutual funds. Are we heading towards a bubble or do you think valuations are still quite reasonable at this point of time?
A: I do not think we are anywhere close to a bubble. In specific stocks, maybe outside the top-200 that started to become visible, but for the market as a whole, if you look at our price to earnings premium to world or to asset classes like the 10-year US bond yield, I do not think this is really bubble territory.
Q: But the biggest worry for the market for the last many quarters or many years has been earnings cut. Even you now, expect a sharp earnings cut in FY19 as well. Is that priced in or do you think that could probably jolt or upset the rally at least in the near-term?
A: What matters in the markets is the piece of earnings cut faster than the roll forward growth. We always start with 15-20 percent growth one and two years out. So, if you move forward three months, you gained four percent. Now if the three-monthly pace of earnings cuts is 4 percent then you have not moved. And therefore, we have seen the last 3-4 months, the market has stagnated.
If the pace of cuts exceeds 4-5 percent then the market may fall a few percentage points. If it is 1-2 percent then actually it may start doing well. Therefore, cuts are something that we have to assume will happen.
Q: So what are you pencilling in, in terms of FY19 earnings?
A: I think that at least 2-3 percent every quarter is something that should happen. So right now, FY18 is at 11 percent, FY19 is at 23 percent. We think that FY18 could settle mid-single digit, maybe 5-6 percent, so another 5 percent cut in the next 6-7 months and on that low base, FY19 to come down to maybe 10-12 percent. We are talking about a 15-20 percent cut. So 3-4 percent a quarter, maybe slightly more.
Q: So, in that context, what are you advising clients to position because earlier this year, when I spoke to you, your big call was IT and that is largely on the back of global growth. What are you telling clients right now?
A: That is one sector where I think there is value, so free cash flow yields, so at the point that we started highlighting that we had cut our underweight, I think it was too early. We went overweight about a month and half back formally. We cut weight to pharmaceuticals and added to IT.
So value has started to work, low price-earnings ratio (P/E) has started to work. So energy, metals, remain overweight, now gone formally overweight IT as well. We still like private sector banks, despite the fact that we expect earnings cuts to happen in them as well. We think that anything that is broad-based consumption in India, will see disappointment. So staples, cement, sectors that we would like to stay away from. We think telecom, that is one sector that has done very well in the last 12 months on a relative basis, but we think that the pain in telecom is still not fully felt. We will see negative surprises and we are marginally overweight utilities.
Q: I must ask you think because the one big sector call which has gone really right for you has been the metals space. You have been much ahead in terms of having an overweight stance on metals. It has rallied pretty hard off late, most of the stocks have been up 50-60 percent. Is the good news priced in or do you think there is still some more room left for outperformance of metal stocks from here?
A: Metals, as a sector, even when we upgraded and we upgraded after five years of underweight, when we upgraded, I thought it was a 12-month call and we reassess every three months. So I still think it is a 12-month call and we will reassess every three months. The things that have happened that we did not expect in February, March, April last year, was that global growth started stabilising and surprising on the upside.
So who would have though Europe would grow at 2 percent plus? Who would have thought that Chinese gross domestic product (GDP) growth estimates would be bumped up? Who would have thought that China will constrain supply so strongly? And, they have done that in steel, they are doing it in aluminium, partly doing it in power, now they are starting to do it in refineries. So, those are all positive developments.
A global growth stabilises, like in Europe, after years of uncertainty whether Europe will be together or not, we are starting to see it being a given. And that, post elections, what people think why the German elections may still matter, the uncertainty is gone, is that further consolidation moves may start to happen in Europe. Now that will encourage new investment. So I think that the demand can surprise and most people assume that refining margins and metals margins will fall next two years. Therefore, we see scope for positive surprise. But this again is a call that we have to reassess every three months. This is not something that you buy for the next five years and go to sleep.
Q: We all saw what happened in 2003-2007 when there was a big global growth and India also actually did really well. Are you getting now signs that we are getting into that phase which would mean that markets can really outperform for the next 4-5 years from now on the back of very strong global growth?A: Nifty and global proxies have actually been very strongly correlated in the past. So oil and Nifty are positively correlated, global growth and Nifty are positively correlated because there are a lot of global growth proxies in the market. The constitution of the market right now is slightly different though.