SENSEX NIFTY
Jan 23, 2013, 04.30 PM IST | Source: CNBC-TV18

Earnings growth to pick up; bet on auto, retail: Goldman

Indian markets have been seeing strong foreign inflows for quite some time now and the New Year too has started on a positive note, with FIIs pumping in nearly USD 3 billion in January. Prashant Khemka of Goldman Sachs expects the inflows to continue if the economic momentum sustains.

Indian markets have been seeing strong foreign inflows for quite some time now and the New Year too has started on a positive note, with FIIs pumping in nearly USD 3 billion in January. Prashant Khemka of Goldman Sachs expects the inflows to continue if the economic momentum sustains.

According to Khemka, retail participation is likely to pick up at a later stage in the rally and he remains overweight on domestic demand focused sectors like financials, real estate, consumer discretionary including autos and retail. He also believes that the reduced turmoil in global markets is likely to lend stability to equities. Besides, the government’s reforms push has improved confidence about India, he said.

"In due course of time, we expect capital spending to come back on track and help the economy get back to its 7 percent plus growth trajectory that we have been used to for the last decade or longer. As that happens, corporate earnings is bound to pick up," Khemka explained.

Gradually as the economy picks up, Khemka sees earnings growth improving in India. He feels the decline in capital spending is mainly due to the loss of confidence. At the moment, the key risk for markets remain the political turmoil at the centre, he reiterated adding that indications of a fractured mandate are likely to hurt market prospects.

Here is the edited transcript of the interview on CNBC-TV18.

Q: We have been fed on really strong flows even in January. So far, we have sucked in nearly USD 3 billion. Do you see this pace continuing?

A: On the flows itself it is very difficult to predict. It is more a function of what the markets do, how the economy does. If the economy continues on its improving trend and markets continue to stay firm, we should see flows continue to come into the market.

Q: Why does that sit at odds with what the domestic institutions are doing?

A: I think the retail driven domestic flows are likely to follow at a later point. So far the investors are still by and large in the red as the market is still lower than where it was at its peak in 2007-08 time frame. Particularly, the midcap and small cap, some of the areas where the retail would have been most active is still well below the 2007-08 peak.

Now as the market goes beyond the prior peak and you have media all over including television and newspapers all around you and as people talk about market hitting its new high in wedding ceremonies and parties, when it goes to 21500 it will be a new high, when it goes to 22000 it will be a new high. There will be a constant barrage of news that would suggest that the market is hitting new highs all the time.

Q: Any thoughts on Hindustan Lever in general, on how defensive it should be approached this year?

A: Certainly as you know, I can’t comment on any specific stock. But, in terms of defensiveness or aggressiveness of the portfolio, we generally tend to have a very balanced portfolio for individual stocks, selected stock by stock. The idea is that this balanced portfolio should not only outperform over a cycle but, also should be able to outperform through the different legs of the cycle.

So in terms of how we are positioned, generally we tend to find a lot more attractive investment opportunities in domestic focused sectors like financials, real estate, consumer discretionary which includes autos and retail. Currently, the positioning is not so different. It just so happens that many of these sectors also tend to be disproportionate beneficiaries of the improving economic environment that we see moving ahead.

Q: Are you generally constructive on the market for 2013 or are you in the camp which believes that there might be a big correction because we haven’t had a meaningful correction for a few months now?

A: We are constructive on the market for a variety of reasons. If you see what has weighed on the market over the last two years, pretty much since the end of 2010, those can be distilled down to three key factors.

(1) The oil price led surge in commodity prices which cause heightened inflation and a tightening monetary policy consequently.

(2) The global turmoil centred around peripheral Europe.

(3) Possibly the most important has been the self inflicted pains on domestic policy uncertainty.

If you look at over the last six months, each one of these factors has either turned around or is fast improving. Inflation is increasingly becoming a rear view mirror problem. Consequently, monetary policy is turning around to be a tailwind rather than a headwind.

Global markets and European turmoil is in the best situation that we have had over the last several years as reflected in declining bond yields of European sovereigns, the peripheral sovereigns. Finally and most importantly, with the series of steps that the government has taken on the domestic policy front can be best described by the old Indian saying, 'Der aaye, durust aaye (better late than never).'

The series of steps are addressing the policy uncertainty environment that had caused a drop in confidence of business houses and had created a big confidence deficit. That confidence deficit led to a complete collapse in capital spending, on infrastructure and industrial projects. As the government addresses with the series of steps that they have taken over the last six months and I expect it to continue going forward as the government addresses this confidence deficit.

In due course of time, we expect capital spending to come back on track and help the economy get back to its 7 percent plus growth trajectory that we have been used to for the last decade or longer. As that happens, corporate earnings is bound to pick up. We have had a 5 to 10 percent kind of a high single digit earnings growth over the last five years, which is well below the long term trend line growth of Indian corporate earnings of about 15 percent.

As the economy recovers, profitability and demand environment would improve for corporate India and earnings trajectory would pick up to 15 percent quite possibly, with the momentum overshooting as the economy goes back from five percent plus to seven percent plus range. We are quite constructive on corporate earnings growth, going forward from this level. We think compared to a single digit growth this year, earnings growth can be in the mid-teens next year and that kind of level can sustain beyond next year.

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