Rally hasn't yet made valuations expensive: Axis Direct

Excerpts from Bazaar on CNBC-TV18 Watch the full show » ALSO READ See what other experts are saying about markets See what FIIs are saying about the markets See what Udayan Mukherjee is saying about the markets

Indian markets are trading at a three month-high and yet valuations have not run ahead irrationally .

Expressing this view on On CNBC-TV18, Axis Direct's Nilesh Shah said the market will move up further and one has to be stock-specific at this stage. He sees rupee settling down at 48.50-49/$ level and believes 10-year yields will find resistance below 8%.

Below is the edited transcript of Shah's interview with Udayan Mukherjee and Mitali Mukherjee of CNBC-TV18. Also watch the accompanying video.

Q: What is your view, we speak in a very different kind of milieu than where we were at the Nagpur investor camp at the start of the year, have things really turned around?

A: At Nagpur investor camp it was quite easy to predict that markets have bottomed out because one could see activity picking up and investors becoming more pessimist. If investors are bearish, generally markets will give the other way opportunity. Fortunately, for us that has played out. Now we have reached a stage where valuations have still not become expensive. They are still fare but from here onwards markets will be not necessarily broad based driven that all the stocks will go up.

It will be more stock specific rally. It will have to face the headwind of one slightly inferior quality results as we move into this second half of result season. Towards the end of the month the anxiety is related to budget. So, the pace of recovery in the market, which we have witnessed from the beginning of January till now will start slowing down. It will be more related to stocks rather than the entire market recovering.

Q: Equally dramatic has been the turnaround on the currency. How much is that feeding sentiment and what is it that you expect to see from the currency space through the course of this month even?

A: The first turnaround came from the activity levels itself. Either currency depreciation resulted into exports order coming to our enterprises or people just got bored with the talk of pessimism in the global market and moved ahead with doing their businesses. But for whatever reasons, the activity levels have picked up and along with that FII inflow sstarted. Towards the beginning of January, no one had expected that we will end up receiving more than USD 3 billion year to date in first 40-45 days of the year.

So, the activity level is moving up, pessimism of the market and cash flow coming in from FII side, all put together has pulled the market over here. The currency as a benefit of the FII flows and steps taken by RBI have appreciated from 54 to about 48-49 level. We expect currency to settle down over this level. Going forward, investors will be far more looking at what is happening on the fundamental side. They will be looking towards the budget and guidance given for the second half of result season. The result season so far has been little ahead of the expectation, volumes are more ahead

Q: What is your sense of where this money is coming in from? Is it lot of ETF kind of money and do you see the possibility of more money coming in even after soaking in USD 3 billion this year?

A: The good part about the flows is that it is not concentrated in one hand, while broadly it can be divided among ETFs, sovereign funds, long only funds and little bit of proprietary trading or hedge kind of variety. But instead on 1% putting in 10-20% of the overall flows we have received participation from a fairly diversified set of people, which gives confidence that this kind of flows may continue for a while.

The momentum of flows is strong. Partially it is function of how they are viewing Indian economy relative to the rest of the world. While the domestic investors were a bit focused on how things were deteriorating on the Indian economy side, on a relative basis even that deterioration was quite positive, which is why FII flows have continued. It is fairly diversified, it is not just one large concentration and hence the hope is that as we move forward it should continue.

Q: Does it up the stakes for the budget and what that delivers? Could the market see a big turnaround if the budget was disappointing or do you think right now it is a big global liquidity driven rally and the money and the market may swallow that event?

A: Definitely, it is global liquidity driven rally. The fastest expansion we have seen in central banks balance sheet is occurring in European Union right now. In some sense, post 2008 like the Fed flooded the market liquidity, we see this flooding the market liquidity. There is no denial to the fact that current flows have occurred partly because of global liquidity unleashed by European Union. But, at the same time that liquidity should also find a reason to come to India and that was provided by relative performance of our economy and valuation.

Now in today's valuation when we are at premium to rest of the emerging market, our currency and our equity market has more or less done similar performance vis-e- vis Brazil, Russia or China. We need to sustain this momentum forward and to sustain that momentum forward, budget for next year will be very crucial. Market has concerns about fiscal deficit, about subsidy being disproportionate part of the budget. Hence, any steps taken to address investors concern on deficit and subsidy will go a long way in continuing this positive momentum.

Q: How do you read the bond market now? Yields have been steadily softening, do you think they could soften further going into the budget given that now this talk of the government getting Rs 70,000 crore from 2G spectrum auctioning. All those things might go into alleviating the stress on the fiscal picture for next year, do you see yields going down to 8% or even below?

A: In this year we expect yields to go below 8%, but the trigger for yields crossing 8% barrier will coincide with the policy rate action by the RBI. As of today, while the market is moving towards 8% yield still there will be some hesitancy because the actual rate cut has not begun.

The 10 year yield is already trading below RBI's policy rate by almost 50 bps and in order to decisively cross 8% level, they will wait for RBI's action on the policy rate front side. But, the expectation that 2G can result into some amount of extraordinary gain for the budget and control fiscal deficit for FY13 will give lot of solace to the bond market.