Budget 2013: Equities to outperform; buy gold ETFs, says Axis Direct

Nilesh Shah of Axis Direct explains, in his analysis on CNBC-TV18, that he expects equities to outperform fixed income in 2013 and sees significant divergence in Q3 earnings.

"The market has clearly factored-in a rate-cut by the RBI in this credit policy slated for announcement on January 29," he indicates. Shah says that the release of the final bank-licence norms and the Insurance Bill remain key events to be monitored for their impact on the markets.
Shah indicates that the rupee is 30 percent below previous highs in dollar terms and recommends investing in gold ETFs rather than physical gold. He estimates the Union Budget to lay a roadmap for the performance of the market in 2013. Below is an edited transcript of the analysis on CNBC-TV18 Q: The way yields have fallen it looks like there will be strong capital appreciation even in the fixed income funds this year. Do you think equities have a chance of outperforming a 12-13 percent return even in fixed income?
A: It is quite likely that equities will be able to outperform fixed income in 2013. However, fixed income returns will come with more surety and granularity, while equity returns will be volatile. But notwithstanding that, I still think equities will outperform fixed income in 2013. Yields have rallied by almost 30 bps in last few days and the only chance of capturing yields is the old priced tax-free-bond IPOs. Tax-free-bond IPOs are open are priced on the yields prevailing in previous month and hence offer opportunities for returns. Q: What is happening with the mutual fund and domestic investor fraternity? Are redemptions kicking in to such a degree that there is Rs 900 crore of 'sell' transactions everyday?
A: I think that is partially due to the increase in pace of raising cash in the funds and largely on redemptions from local investors. A lot of investors probably are encashing themselves out as their previous entry points are achieved. So there is a blend of cash-raising as well as redemptions from investors.
What is probably positive is the fact that systematic investment plans (SIPs) are increasing and the number of SIPs are coming in into equity mutual funds slowly but steadily. So while there are large, one-time redemptions occurring there is also a reasonable amount of regular investment which should bode well for the equity-based mutual funds. Q: Do you think local fund managers would be taking tactical calls as well to book some profits above 6,000 on the Nifty? Do you see merit in the approach where you play for a bit of a tactical pulldown in the near-term?
A: It will be too difficult a question to answer in absence of data. But some of the hybrid schemes probably could be booking profit at current market valuations, especially to lock-in the returns achieved after a dry spell of about 4-to-5 years.
There could be some amount of cash-raising in the funds in view of some of the offerings which are likely to be made from divestment, minimum public shareholding and from IPOs which are announced. So it is probably a combination of defensives in the hybrid side and some cash-raising to meet the expected supply of paper. Q: In the near-term do you expect any hiccups for the market from the earnings season?
A: We expect a huge divergence in the earnings season with sectors like resources and telecom probably showing negative growth. Oil retailers, depending upon how they account subsidy, could show negative growth. However, sectors like banking, FMCG and media will show solid growth. There will be a growth in earnings of about 8 percent excluding oil retailers. Sensex earnings are likely to grow at about 9 percent, but within the sectors and within the constituents, there will be a huge amount of divergence. Q: What do you expect between now and the Budget in terms of policy announcements that cold keep the market momentum going?
A: Clearly, the market is expecting a rate cut on January 29. It has  reflected both in the fixed income as well as the equity market. We will also be looking forward to the new banking licence norms as they could boost the market. The market is also expecting the introduction of Insurance Bill in Parliament in the Budget session. Apart from regulatory reforms, there are expectations regarding the conducts of the divestment programme. Q: What would translate into a big catalyst for the market from the RBIs point of view? What do you think the market will like to hear and react to very positively from the RBI next meeting?
A: The market has probably already discounted a rate-cut based on the comments from the RBI. So now it’s more of a 'buy on rumour, sell on news' scenario. There are limited initiatives for the RBI in the credit policy to meet the expectations of the market other than the easing of rates. Q: Infrastructure remains an area of worry. The roads segment saw some momentum last year but the problems have begun with the GVK face-off with NHAI. Are you concerned about these non-index infrastructure companies?
A: These are the companies where the order book has not been converted into turnover for various reasons. However, this is for the companies that are debt-laden, have high order books and less turnover to show. There are many companies in the infrastructure space which have already put up their projects.
Their asset inflation has ensured that the replacement value of the plant and machinery or projects has gone up significantly. But companies that have already set up their projects or whose projects are going to be commissioned in next three-to-six months and whose balance-sheets are not leveraged significantly are the ones that should benefit from the current trend. Q: You mentioned a mild pick-up in SIPs. What would your advice to retail investors be?
A: If investors are following an SIP, then probably they are averaging themselves over a longer period of time. Though in rupee terms the market is nearing an all-time high, from a dollar point of view, it is still probably 30 percent lower. So FIIs are entering the market at 30 percent lower than the all-time high and hopefully that should give them enough incentive to continue their buying spree.
Compared to when the rupee reached an all-time high albeit on an overvaluation in hindsight in January 2008, earnings have grown by more than 60 percent and GDP has almost doubled. Taking all these three factors in context, investors can continue their SIP but it is unlikely of entry at high levels of valuation. Q: How would you approach gold and gold-related mutual fund products in 2013?
A: Finally, the law of averages seems to be catching up with gold in 2013. Even though it delivered a positive return, the extent of outperformance in dollar terms over other asset-classes was reasonably low. Most of the return for gold investors in India came from rupee depreciation rather than gold price movement.
Hopefully, in 2013 dollar-gold prices will remain marginally positive and rupee depreciation will not be significant to restrict the allure or the return of gold. We always recommend investors to hold gold in exchange-traded funds (ETF) rather than in physical form purely from a taxation and safety point of view. Apart from that, the quality or assurance of gold in an ETF is significantly better. So gold ETFs over the physical form is our recommendation to investors. Q: What about gold-finance companies? They have been huge underperformers and have only just begun moving in reaction to the draft recommendations. How would you approach some of those stocks?
A: According to the market valuation, any company which has a diversified revenue-stream always commands a premium over single-product focused company. The trend is similar in finance companies and barring a few exceptions such as housing finance companies, most of the other finance companies which trade at better valuations have a fairly diversified revenue-stream.
So gold-finance companies will always continue to trade at a discount to broad market-valuations except for a short period of time when growth and competition are limited. The banking system, per se, is a fairly large player in gold financing and the growth rate has begun to plateau out for most of the gold finance companies.
They were underperforming in the market and the NBFC sector for a while and courtesy the KB Rao Report, there has been a spurt in gold-financing companies. From a portfolio point of view, one can definitely consider investing in gold finance companies, but in my opinion, one should be overweight towards a diversified finance and housing finance companies rather than gold-finance companies. Q: Is there a trend to redemption flows and is it focused on one pocket? Midcap fund mangers pointed out to a trend of incremental inflows. Is this problem across all categories of funds or is it restricted to one segment?
A: I think a lot of it is restricted to funds where people have entered at different points of time in 2008 and 2010 and as they see their net asset value (NAVs) rising to an expected level, they have begun to redeem. A lot of funds have probably rising between 30-60 percent from their NAV-levels in January 2008 and redemption levels are still in line with the Sensex.
So many investors are probably redeeming without even realising that even though Sensex levels are virtually the same, the equity mutual-fund NAVs are 30-60 percent up and are still redeeming to book profit which, in their mind, is equalising with the Sensex rather than with the return of the NAV. Q: What do you expect the market to do in the run-up to the Budget this time? Do you think it will be a pivotal event?
A: The market is definitely is looking forward to the Budget with lot of optimism. The finance minister has laid a roadmap for fiscal discipline and deficit control. It quashed the Fiscal Responsibility and Budget Management Act (FRBM) which in some sense led the foundation for rerating of the Indian stock market from 2004-2008, from 5.1 percent for FY13 to 4.8 percent for FY14. Clearly this is what the market is looking forward to.
The second fear, which the market has not yet displayed but which is certainly at the back of the mind, is whether this Budget before the elections will be pro-populist or pro-reform and the pace of FII flows. Q: What is your opinion on flows? Is a repeat of last year's trend likely?
A: If there is a belief in that outlook, then the month of January does bode well for inflows. FIIs are looking forward to India with optimism and are certainly keeping their purses open.