See Nifty at 5500-5550 if FIIs turn bearish: Morgan Stanley

Gaurav Doshi of Morgan Stanley PWM says the quantum of net buying in India by foreign institutional investors (FIIs) has diminished significantly. "If we are to see FIIs turn net sellers then this is the one risk that our market will not be able to digest easily," he told CNBC-TV18 in an interview.

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For the near-term, Doshi expects the Nifty to slip towards the 5550-5500 levels.

Below is an edited transcript of Doshi's interview on CNBC-TV18.

Q: Anything that you are hearing in the environment which suggests that some exchange-traded fund (ETF) selling has started over the last few days?

A: There is talk in the market, but there is no way of confirming it as of now. It is a worrying situation because while we have seen a huge amount of net buying over the last couple of months the quantum of net buying over the last few weeks had diminished significantly. If we are to see foreign institutional investors (FII) turn net sellers then this is the one risk that our market will not be able to digest easily.

It would be a very worrying sign, but there is no way to tell right now if we can continue to see incremental ETF side flows. The FII sell number is something that one has to keep a very, very keen eye on right now.

Q: How are you guys calling it in the near-term? How much downside do you see for the market? What kind of trading range do you think we have now moved into?

A: We did think that the market would trade in a range into earnings, but then we had the whole political development take place in India. Now, globally with what is going on with Korea - what this would mean is basically the lower end of our range, which we thought was around the 200 day DMA, now would probably get extended a 100-150 points lower.

In the near-term, maybe 5500-5550 is something the markets could selloff to in case we do see a reversal in trend from FII flows coupled with some sort of noise on the global Korea front or some sort of chatter with regards to the Indian political situation. Though from a domestic political point of view, we do not think our base case does not take into account that we look at elections immediately. The main worrying factor for us again continues to stay FII flows and that in turn could probably take this market way below the lower end of the range as well.

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Q: Right now, are you selling into every small relief move that you see on the market or staying put with your positions?

A: We are quite constructive on equities from a medium to longer term timeframe and therefore, we were waiting for some correction. We thought the markets were trading at the lower end of the band, but with the developments, our expectation of the band has got a little towards the lower end.

We are looking to work selectively in the large caps, but are trying to be very narrow. We are not looking to take large sectoral bets as of now, but within sectors there are pockets that could work. This kind of news flow is creating a good opportunity to add to some good large cap franchises that are correcting over 15-20 percent from their recent highs.

Q: Would those include names like Tata Motors that have come off significantly, over the last few days?

A: The auto sector is a little bit disappointing. You have seen the auto index down almost 8 percent in the last one month. March is a month when you have very good auto sales because of year ending and have heavy discounting by the automakers, but that has not shown in the numbers. I do not think you can paint this sector with the same brush. The two wheeler companies have their own issues with regards to competition and market share. The automakers also have their own individual company specific issues.

Tata Motors is primarily our global proxy and we are seeing the global automakers getting slammed. So there will still be some pressure on that name. If one analyse on a company level, there are certain developments that make us positive. For example, Mahindra and Mahindra, last year utilities were supporting volume growth while tractor, was a drag. If you look at last month’s number, that trend has reversed. Tractor is turning supportive while utilities seem to have a slight slowdown. If in a company, there will be some stable volume growth along with the ability of the company to maintain margins, those are the only companies we are willing to bet on in the auto space as of now.

Q: We have USD 12 billion in the first quarter, and the market went down. Even if we see marginal outflows, who will pick up that stock from FIIs? Are you worried about that?

A: The FII inflows are now almost 2 percent of the total market cap and if these flows reverse, that is worrying. We expect the second half to be good from a global perspective. Export data from Asian economies is expected to improve.

Our domestic macro data whether it is current account, fiscal or inflation should be supportive for equities. So from a macro perspective, we do not think that the time has come to sell India big time. But, if you have a situation where there is a war or something of a one-off and if you start to see big FII flows from there, it is extremely worrying. This is because I do not think beyond the top 50 stocks, the market has appetite to absorb selling of the quantum that we could see from FIIs.

Q: The one space where market is putting its money on and more is IT. How are you going into earnings season on that lot and do you think numbers will bare though?

A: IT is one sector where the market will take a little bit of shelter in. That sector has also been supported with the fact that we have seen significant earnings upgrades with the large cap stocks in this sector over the last two-three months and that reflects in the sheer outperformance this sector had over the broader benchmark.

We have always been constructive on IT and it has paid off for us in the last one, one and half quarters and we continue to go constructive on IT this earnings season as well. Even the management commentary that was a bit on the cautious side, has also turned positive.

Given the sheer options to invest in IT, the fact that the management is turning mildly positive, you have the sector backed with earnings upgrades. Fundamentally good companies with good quality balance sheets. We go into this earnings season extremely constructive on IT and expect that the numbers will not disappoint.

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Q: Are the levels you talked about on the market, your base case scenario right now or do you think if outflows start exacerbating all bets are off the table in terms of how much downside there is for the market?

A: Definitely. The one thing that can throw all assumptions out of the window is FII flows and significant FII outflows. That is something that I do not think will then respect any levels. I do not think valuations or any amount of domestic news flow can change the way the markets can fall in case there is a major risk-off trade taking place globally, though that is not our base case assumption. There is a low probability of that playing out, but if it does, then all bets are off. This market could take a big crack maybe to 5000-5200, but I would again reiterate that is not our base case right now.

Q: Do you need a major risk-off globally or could ETF investors who are not exactly pension funds take a call that Indian market is not performing over the last three-four months and they need to take out some of their money from this market? Would that be a normal routine investor call?

A: You are right. But, we do not have India dedicated flows over the last two-three months. You have got flows into ETFs that are basically into emerging markets. You cannot say the same thing about all the emerging markets in the basket. So even if one is taking a call on India, I do not think people would sell an emerging market ETF if they are just not seeing policy progress or returns come out from an Indian market. The bigger worry would have been, if we had seen significant inflows into India dedicated ETFs or India dedicated funds, but that has not been the case.

We are concerned with regards to global developments and I do not think the selling as of today, is not India specific. Globally, investors are pre-empting a possible risk-off situation, but I do not think that India specific selling is coming in right now. If that is to play out, then it is a worrying sign. India’s Achilles’ heel is FII flows. Given our current account deficit (CAD) I do not think we can even afford to have any outflows. Therefore, it is worrying if the FII number changes.

Q: How are you approaching the entire commodity complex, another vulnerable spot for the market right now?

A: The signs are not encouraging in commodities. If you look at the underlying commodities, you have crude moving under the 200-day, gold correcting, in general metals, copper everything is showing extremely weak patterns and this is not encouraging for the commodities stock. This is because you trade these stocks as a proxy. Even though the stocks have beaten to a pulp, you have stocks trading at 3 and 5 year lows and these are good quality large cap companies that have been beaten badly.

If you look at the ownership structure, I do not even see who is left holding these share that in turn is turning out to be such a big seller, but the sentiment is extremely weak and no one is open to look at commodity ideas right now. So, the weakness could continue as long as the underlying metals continue to show the weakening trend that they are in.

Given the market correction and the good large cap stocks that have corrected, I would avoid commodities for now, even though valuations look extremely attractive. There is just an opportunity cost that one has to look at right now, for the time being one can avoid commodities