See Sensex at 20000 by year-end: Deutsche Equities India

The government has taken a lot of bold measure over the last one month. In an interview to CNBC-TV18, Pratik Gupta, head of equities, Deutsche Equities India says there has been a sea change in sentiment, especially in the FII community.

He is bullish on the Indian market. "India may attract significant inflows, if reforms continue. Our Sensex target for the year-end is 20,000," he adds. He expects Q2 earnings season to be weak and subdued. Also read: See downside, Nifty may slide below 5600, says Sudarshan Sukhani Below is the edited transcript of his interview with CNBC-TV18's Udayan Mukherjee. Q: Would it be fair to say that you can sense a huge change in sentiment, since the moves started rolling out in September from the government? A: Yes, absolutely. Around end of August, the sentiment on India was very poor. There were also worries of a sovereign downgrade. But in the last one month, there has been a very dramatic sea change in sentiment, especially in the FII community. You have seen the pick up in sentiment, the equity markets rally a bit and the rupee has rallied But one of the key issues a lot of people are wondering about is that what about the real economy? When will we see project cash flows improve? When will we see the corporate earnings outlook improving? And that really will drive the next wave of improvement in the sentiment and flows. We are quite bullish, given our expectations on the market. But, on the sentiment front, definitely there has been big change in the last one month or so with all the steps that the government has taken. Q: Will it be fair to say that a lot of people were taken a bit by surprise by the ferocity with which the government moved on many of the policy issues, after a long break? A: Yes. I think that is the case. I suspect that trend will well continue. Even right now, we still have a lot of investors who are very sceptical of some of the proposals or the announcements made by the government. Can the fiscal deficit indeed be controlled at 5.2-5.3 percent? Can the capex cycle still pick up? Will FDI in insurance go through or not? Will GST happen or not? So, there is still a lot of scepticism. You will continue to see the market grind up. That is actually going to be pain trade. A lot of people who are still sceptical will be somewhat surprised, we believe, by the way the announcements by the government will pan out. Q: How are you reading the global set-up now? There seems to be some sluggishness which is creeping back in the global space. If that continues through October, is there a good chance that India can still outperform most of the other emerging markets or global markets? A: We should step back and take a look at the global picture. I think that is very positive for an economy like India. On one hand, you have got slower global growth. Even China is slowing down. That, in turn, is putting a cap on the commodity prices. Meanwhile, the central banks in the West are pumping a lot of liquidity. So, India is one of the few large emerging markets that is liquid enough and can absorb some of these flows. Coupled that with the positive policy momentum, which we are beginning to see, we can get in a very large share of the flows in the next few weeks and months. In that context, I would not be too worried about a global slowdown, as long as it does not go back into an outright recession or you have deterioration in the sovereign debt crisis in Europe. We believe that is no longer the base case. Tail risk event has been taken out. I think the global risks have diminished, although a global slowdown is definitely very much out there. But, in that context, India should do relatively well. We are not as export dependent, oil prices may cool off even further. That potentially bode well for our economy. The share of the flows, which India can get, may actually go up. _PAGEBREAK_ Q: Since the September rally started, what kind of money has come into the market? Is it still those ETF determined kind of flows or you have seen a lot of the active money managers, fund managers also shed some of this scepticism and shift some money to India? A: The ETF flows have continued. I think it is also the active money managers, but not so much the India dedicated fund manager. Their flows haven’t really picked up in a very big way. Global asset allocators, especially the emerging market fund, have moved their allocations away from other emerging markets, especially from China and Brazil, towards India. So far, in my view, it has been a little bit of a trickle. If the policy momentum continues, if the global environment stays stable then I think you will see a lot more flows coming in. It is not just ETFs, it is active money coming in as well. Q: Do you see the prospect of any major pullback to this market, which might provide an entry opportunity for people who have not participated so far or do you think it may frustrate by not giving you any meaningful dips? A: I think it will probably be the later. I don’t think we will see a very meaningful dip. There are three main risks to the Indian market. Firstly, the very sharp duration in the Euro zone sovereign debt crisis. That is unlikely. Second is perhaps crude oil prices going up very sharply, again seems unlikely. The third is some deterioration in domestic political situation. These are the three things that could potentially pull the market down. We don’t see any of these happening, these are not our base case scenarios. Therefore, any dip will probably be short lived. The correction may not be deep. We might see a consolidation as there is nervousness around these events over the next few days. Overall, at Deutsche, we were tactically bullish earlier. After the last month’s reforms and steps we have seen from the government, we have actually turned quite bullish. Our Sensex target for the year end is 20,000. We think there is still lot of catalysts going forward. The newsflow is going to be positive. The September quarter earnings will be bad, but it is in the price. I would just highlight three catalysts to keep in mind for the market over the next few months. First is the RBI policy decision at the end of this month. While our base case scenario still is that there won’t be rate cuts. But that is one surprise, which could surprise the markets. Secondly, one of the key issues for India has been the capex cycle, which hasn’t really picked up. If the government is able to deliver on this National Investment Board and we can actually see some projects getting cleared, if that happens and that takes off and becomes effective then that can be very positive. The third slightly longer-term is also the GST. I think that is still not being factored in by many observers. So, these three things could take the markets substantially higher. These will also result in a change in the real project cash flows, corporate earnings outlook. That, in turn, should sustain the rally we have seen so far. Q: What are the chances of an overshoot on the way up as more people come in? A: I think the overshoot will occur, if we start seeing some of these things on the positive side start panning out. I would highlight that this is a market which is grinding up in an environment where firstly the local mutual funds are still seeing redemptions, retail investors have generally missed the rally, and most global FIIs are underweight India even now. On top of that, if you start seeing some of this positive catalyst coming through then you will see that while valuations are, right now, middling, they are neither too expensive not too cheap, you could see an overshoot. We have seen this many times in the past over the past 20 years. You could see an overshoot on the way up just like we have seen overshoots on the way down as well. So, I think an overshoot is quite possible provided you get some of these catalysts going. _PAGEBREAK_ Q: Do you see any triggers from earnings season this time around or do you think that is something which one should not bank on as a plank to give the market a leg up? A: No. The earning season, we think, will be pretty subdued. This will probably be one of the weakest quarters. Our own estimates, at Deutsche, we will see revenue growth for the Sensex companies at about 12 percent, but profit growth barely at 1-2 percent. But, at the same time, we think this will probably mark the bottom in terms of the earnings downgrade cycle. The earnings have generally been very flat for the last two quarters in terms of the estimates. I think, going forward, you may see a slight pick-up in the earning cycle, especially if the RBI delivers on its rate cuts. The other thing to watch out for in this earning season is also the banks asset quality, the restructurings and the NPAs. We are expecting n increase over there, but again I think a lot of that is in the price. So, this September quarter is going to be more backward looking. We are going to look forward in terms of the guidance comments, the order inflow outlook for the capital equipment companies, and companies’ capex plans. On that basis, we will start seeing possibly some upgrades to FY14. But I think it might just be a bit too early for that to happen within this quarter itself. Q: What about IT? What are you telling your clients to do there, since we are getting into Infosys on Friday? A: In general, IT, we have given our relatively bullish view on the domestic economy, the prospects for more reforms coming through. We are generally suggesting an increased beta stance. In that context, IT, we are suggesting a bit of an underweight recommendation. First is the rupee appreciation. That is probably going to hit the companies in the December quarter and not so much in the September quarter. The discretionary spending outlook in the West is still very subdued. So, that is going to limit pricing flexibility. For a lot of these companies, there will be continued margin pressures and so on. We were recommending a relatively more high-beta stance. IT, generally, we are recommending an underweight stance. But company specific, there will be opportunities both largecaps, midcaps. Valuations in general are not particularly expensive, most of these IT companies have strong balance sheets. So, to that context, there will always be some premium attached to them From a portfolio recommendation perspective, we are not recommending IT companies right now. Q: Interestingly, you have got an overweight call on metals, which is something a lot of people are very bearish on, given the global context. A: Overweight call on metals is driven by our view that there will be rally in risk assets. That is what we have seen over the last one month. We expect that to continue. But I would also like to clarify that our overweight call this time is not based on the expectation of a very significant rally in metal equities this time around, given the China slowdown, given the global slowdown. So, it is an overweight, but we are not very heavily overweight. Also, it is very stock specific. We focus more on the converters. These converters companies will benefit from the sharp drop in raw material prices. We are not overweight across the entire sector. Q: Is supply of paper a concern at all as the mood changes and lots of money comes in? There is a bit of a pipeline, which is building up from the government and maybe private companies also, in the next two-three months, do you see that being an issue at all? A: You are right, that is a concern. We hear a lot about from both our local and FII clients. I would like to highlight couple of things over here. Firstly, the supply of paper is also valuations sensitive. So, to that extent, as the markets grind higher, you will see more supply coming in. But at the same time, keep in mind, there are very large domestic institutions which have a lot of cash which needs to be deployed. That cash can take care of some of the paper supply. Also, as we have seen in some of the recent transactions in the last 10-15 days, a lot of the FIIs are also sitting on underweight positions in India. There is a lot of liquidity on the sidelines. Deutsche is doing a lot of these IPOs and QIPs and block trades in the region as well. We have seen if issues are priced correctively, we are seeing them flying off the shelves in a couple of hours. I think that the supply of paper alone should not be a factor for investors to get worried. Yes, it may temporarily limit, arrest the pace of the rally. But I do not think that is going to stop the rally in itself because there is a lot of matching liquidity on the other side as well in terms of demand.