Cheap valuations reason behind India upgrade: Credit Suisse

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Cheap valuations reason behind India upgrade: Credit Suisse

For 16 months, Credit Suisse had been underweight India. The investment bank's Asia-Pacific strategist Sakthi Siva says when they downgraded India in 2010, it was the most expensive EM in the region.

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Excerpts from Bazaar on CNBC-TV18 Watch the full show » ALSO READ See what other FIIs are saying about the markets See what other experts are saying about markets See what Udayan Mukherjee is saying about the markets Tata Steel BSE | NSE 31/05/12 Are Mutual Funds betting on Tata Steel? Other Stocks in this news Tata Motors | Reliance Industries | Sun Pharmaceutical Industries | Bharti Airtel |

Indian equity benchmarks saw the second biggest fall in a decade in 2011. India's macroeconomic environment remains gloomy due to policy inertia, high inflation numbers and a depreciating rupee.

For 16 months, Credit Suisse had been underweight India. The investment bank's head of global emerging markets and Asian equity strategy Sakthi Siva says when they downgraded India in 2010, it was the most expensive emerging market (EM) in the region. India has been upgraded to neutral now.

India's underperformance versus its peers has made it an attractive destination for investors to park their money. "India is now the fourth cheapest market from the EM basket. The upgrade is largely driven by its cheap valuations," she adds.

Siva is looking at a 10-15% upside in most Asian markets, including India.

Credit Suisse is also adding Tata Steel , Tata Motors and Reliance Industries to the model portfolio in addition to Sun Pharma and Bharti .

Below is an edited transcript of her interview on CNBC-TV18. Watch the accompanying video for more.

Q: Your India team at Credit Suisse is very circumspect still about the prospects of the market out here. What led you to that upgrade to neutral?

A: My upgrade was largely driven by valuations. We have been underweight India for 16 months. We had downgraded India to our biggest underweight back in September 2010 when it was the most overvalued market in the Asian region. It was trading at about a 40% premium. It is now trading at a zero premium and has become the fourth cheapest market in the region.

So, when I look at India relative to the region to me there has been a significant shift in valuations and hence the upgrade from underweight to neutral. Our India team is more circumspect because of the concerns on the macro side, which I do share and hence the reason why we have upgraded to neutral and not to an outright overweight position at this point in time.

Q: You have added names like Tata Steel, Tata Motors and Reliance to your model portfolio. Take us through the kind of thinking that you have on the tactical positioning that one should have towards India at this point?

A: One of the other reasons for the upgrade apart from valuations is we are also looking at potential catalysts for the market. We think one potential catalyst is actually inflation slowing. So while the year on year (YoY) WPI is still running at a high 9.1%, I tend to prefer to use the more recent monthly data. If you look at the WPI on a monthly basis, it was only up 0.4% in October and 0.1% in November. To me, that is actually a leading indicator of the YoY changes.

So we feel inflation is actually peaking and is going to come off soon and as a result we feel that some of the more cyclical factors may benefit. Also from a valuation perspective, some of the most undervalued sectors on our valuation models are actually materials and hence the addition of Tata Steel; energy and hence the addition of Reliance Industry, as well as consumer cyclicals and hence the addition of Tata Motors to our portfolio.

Q: Part of your report also observes that when a market is part of this bottom four, historically it then goes on to create larger returns on a three, six-month, or a one-year period. Given that context, are you holding out any target right now for India in terms of potential returns we could see this year?

A: We are looking for better returns for both India as well as the region. Last year, India was one of the worst performing markets in the region, 38% in US dollar returns but we feel there are three positive for India as well as the region going forward. One is we are starting this year on better valuations. If we take the region, we are starting this year with one and half times book.

Secondly, last year the reason for India as well as emerging markets and Asia underperforming was the fact that we were worried about high inflation and policy tightening whereas this year our call is a re-flation rally. We think inflation is going to surprise on the downside. So I would argue maybe we should also not fight the Asian central banks when we do start to see policy easing.

We have already seen five or six Asian central banks already start to move on policy. China has cut the RRR, we have seen cuts by Brazil and we have seen cuts by Indonesia and Thailand. We think it's just a matter of time before the RBI joins in. We are looking for 10-15% upside in Asian markets, including India.

We are certainly looking for a better year on the back of valuations, on the back of inflation slowing and policy easing. We feel there is a fair degree of foreign investor capitulation in India as well as in Asia markets. We are starting from less exuberant by foreign investors, so lower expectations coming into this year.

Q: Specifically on financials, what would the approach be this year? Would it be part of your overweight portfolio? Are you still cautious on financials?

A: We are still fairly cautious on financials as a sector. There is value. It is trading at a discount to the region but our team in India is still fairly cautious about ROE (return on equity). We are actually underweight financials. We have added Tata Steel, Tata Motors and Reliance Industries and we did not add any financials at this point. Because I look at India relative to the region, we find Chinese banks a lot cheaper than Indian banks. We can get Chinese banks on a 50% discount. So in a regional perspective, we do find better value in Chinese Banks than in Indian banks.