The easy flow of liquidity provided by central bankers has made the market complacent and complacency always leads to higher markets but then corrections also take place, says Nilesh Shah, MD of Kotak AMC.
The current bull rally is driven by hope that there will be continuity of economic and monetary policy in the country, he said.
In an in interview with CNBC-TV18, Shah said that he expects the market to take short term cues from the upcoming monetary policy on October 4.
He further said that the market expects a earnings recovery on the back of a consumption boom due to a good monsoon and the 7th Pay Commission.
Below is the verbatim transcript of Nilesh Shah’s interview with Anuj Singhal and Sonia Shenoy on CNBC-TV18.
Anuj: We all know that you are bullish on the market and you believe equity is the best asset class. However, just for change, we want to discuss a bit of a near-term setup. What did you make of the Fed statement and do you think there is a bit of a risk that global markets are showing some signs of complacence and there could be some correction purely on account of that?
A: Before the Fed, we have to look at the Bank of Japan (BoJ) movement. Till now we have seen in Japan, the government borrowing money and trying to spend it to create infrastructure and other things that has resulted into debt to gross domestic product (GDP) of Japan averaging 250 percent now. Then BoJ came to lower interest rates, provide liquidity that didn’t work out. Then BoJ came to buy equity in the market; today they are one of the significant owners of equities in majority of Japanese company.
Now, yesterday they went one step ahead and they are saying that our involvement in the market, our purchase in the market will be with view to fix the interest rate. So as fund manager, if I was a Japanese fund manager, I don’t have to worry about fundamentals, all I have to invest my energy is what price or what yield Japanese central bank is comfortable with and till such time that number is not arrived, they will continue to buy or sell bonds and it is more likely to be buy rather than sell. So, forget fundamentals, look at the central banks direction; that is where Japanese monetary policy is moving.
Now, juxtapose that with US Fed, in December 2015 they moved interest rates after a gap of a decade. They indicated that there will be four rate hikes in 2016. We are almost towards three quarters of 2016 and we are yet to see the rate hike. In Jackson Hole meeting, Fed chairwoman mentioned that the case has strengthened for interest rate hike and now we are told that sorry not this time but sometime in the rest of the calendar year 2016. So, it is the action of the central banks which is making market complacent.
Who says that US Fed will not go and buy US equity if the case arises. So, markets are probably going to build a Put option of the central banks. It has worked in BoJ, it might happen in European Central Bank (ECB), it might happen in US Fed, who knows. So, certainly I will agree with you on that markets will become complacent but that complacency is coming because of the behaviour of central banks around the world which is providing easy liquidity which is participating in the market and which is keeping interest rates on the negative side.
Sonia: From here on do you see any kind of deterrent to this up trend in the market? We have spoken to a lot of experts and they believe the only niggling worry in the market now is the way valuations are a bit stretched with the Sensex trading at 17-18 times FY17. What according to you is the one deterrent that the market could see now or is there none at all?
A: If there is complacence in the market, if there is unanimity in the market that it is always going to go up then generally in that kind of consensus situation one could see a correction. My guess is that for the market in the near term they will be looking to October 4 credit policy. This is first time where new Reserve Bank of India Governor will be laying his agenda in terms of monetary policy and today’s earning estimate, a lot of us have factored in continued liquidity in the Indian banking system and lowering of interest cost that the borrowers end.
Now, if those two things don’t materialise as much as we have priced in, then there is possibility of a small correction. Today we are pricing in continuity of RBI policy because the current governor was part of the earlier team as deputy governor so October 4 will be viewed from that point of view. Post that, we go into September to November 2016 FCNR(B) redemptions. Market has priced in today that these redemptions will go through smoothly. We also believe that RBI is very well geared for tackling these redemptions. If there is any untoward incident towards that then certainly that would be again a minor correction.
The third thing which market today is pricing in is continuity of economic policies. We have seen in 2015 when Bihar election was lost by BJP, it created some amount of correction in the market. When they won Assam election, it created some amount of bullish sentiment. Today market at this level is pricing in that there will be continuity of economic policies if there is any diversion or deviation from that expectation that could be against small correction.
My guess is that we are likely to see smaller corrections because of this event because the valuation gap is not that high. We are trading at 17-18 times forward earnings but there is a good hope that there will be earnings recovery courtesy good monsoon, courtesy good liquidity, courtesy lowering of borrowing cost for the borrowers. So, there is hope build rally.
Anuj: When we move on now, at some point of course we will have the RBI cutting rates and hopefully the Fed raising rates. How do you see the domestic versus the global liquidity for our market panning out going ahead?
A: As of today, if I see the domestic participation in equity market, mutual funds are averaging about Rs 3,000 crore by way of SIP. In the month of August, we collected about Rs 6,000 crore plus. Net-net this year FY2017, mutual funds should be able to put between Rs 60,000-75,000 crore. The LIC has been pumping in between Rs 50,000-60,000 crore; that trend should continue this year also. The private sector insurance companies should become a net buyer of equity from being net seller from last year. They can probably pump in between Rs 5,000-15,000 crore.
The employees provident fund organisation (EPFO), the PF, the private PF Trust, the new pension scheme, the banks put together they will bring between Rs 15,000-25,000 crore. The retail and HNI will also bring money as can be seen from the market behaviour. So, overall I do see a buying power of somewhere around Rs 1,25,000 crore to Rs 1,75,000 crore from domestic institutional investors. This is more than the supply which is visible on the horizon.
The divestment target is about Rs 59,000 crore. We have never achieved our divestment target but let us round it off to Rs 60,000 crore. The QIPs, IPOs, OFS, put together another Rs 60,000 crore might come. Even if I stretch it, the supply will range between Rs 1,20,000-1,50,000 crore, demand could range from Rs 1,25,000-1,75,000 crore only by domestic players. If FII remains buyer like they have been buyers till today, the demand for equities is more than the supply and which is why prices remain elevated.
Sonia: Let us talk about some sectors now. We are doing a series on pre-festive demand with a lot of auto and consumer durable companies and the feedback we are getting is that in Onam and in Ganesh Chaturthi, the sales have been about 10-15 percent higher than what we saw in the pre-festive period last year. Is this a space, I know certain stocks in the auto sector look a bit expensive, but is this a space that can still generate a lot of value now?
A: There is little bit of ‘there is no alternative’ (TINA) factor in consumption driven stocks. On the infrastructure side, the revival of investment looks fairly distant dream. It is probably two years away or 18-24 months away rather than recovering in next three to six months whereas at least on consumption side, the pre-festive demand in Onam, Ganpati has given confidence to the market that this time Dusshera, Diwali, Christmas and Holi we should see consumption boom and that is not only a positive call on consumption sector, it is also a negative call on investment cycle and which is why all this consumption related stock continues to provide some opportunity.
My guess is that we will have to pick up more from a stock point of view rather than sector point of view for example some of the NBFCs which are financing this consumption theme, they look at a fairly high valuation, probably private sector banks which are using their balance sheets to finance consumption, they are a better bet than NBFCs in today’s space. So, you play on the consumption theme but within that you try to arbitrage between lower valuation vis-à-vis higher valuation.