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Last Updated : Sep 25, 2012 09:04 AM IST | Source: CNBC-TV18

Rally tactical, domestic negativity intact: CLSA

Speaking to CNBC-TV 18, Anirudh Dutta, Head of Research at CLSA said Consumer sentiments remain dented by a number of factors viz, non-functioning of Parliament, slowdown in investments, delay in legislative or administrative decisions etc, which in the long run will come back to haunt India.

Anirudh Dutta, Head of Research at CLSA called the market's good run in the last few weeks as a tacticall rally that was led by foreign Institutional investors.

Speaking to CNBC-TV18 on the sidelines of annual investor forum, Dutta said nothing meaningful was happening domestically. Consumer sentiments remain dented by a number of factors viz, non-functioning of parliament, slowdown in investments, delay in legislative or administrative decisions etc, which in the long run will come back to haunt India.

Also read: Neutral on India, HSBC sees Sensex at 18,700 by year-end

Below is the verbatime transcript of the interview

Q: We have had a good stretch in the market last few months, how are you guys characterizing this - as just a tactical rally fuelled by global liquidity or something more meaningful than that?

A: We see this as a very tactical rally led primarily by global inflows and what's happening globally. As far as domestic factors go, we really do not see anything which necessarily is a cause for cheer. As we are all well aware, we have seen another parliament session ending with almost little or no business being conducted. I was meeting a few bureaucrats, journalists etc in Delhi the other day and clearly the feeling is that this sense of despondency, the sense of no decision being taken, that's probably only worsening by the day. The decisions that are not being taken today, whether it is by corporate India in terms of their investments or delays in legislations or administrative decisions, will only come back to haunt us over a long period of time.

We still have a strong pipeline of execution where you are seeing gross fixed capital formation at a reasonably decent levels, therefore you are still seeing credit growth from the banking sector at about 15% or thereabouts. Given the slowdown in investments right now this could only get worse. Our fear is that consumer sentiment also will likely get impacted going forward. We have seen some amount of slowdown in consumers, particularly urban consumers. And can this worsen if the situation prevails? Our sense is that it could.

Q: Given the concerns that you have just outlined, do you think the market upside is capped somewhere close to where we are now and markets may continue to grind in a range as they have been for last many quarters?

A: My sense is yes, we are probably in a period (which has been since sometime last year) where we will be trading in a range and therefore the markets will be volatile. The upward moves will be primarily led by global happenings, global liquidityexpectations, QE or the lack of it, so on and so forth rather than being led by domestic factors. Depending on the domestic noise and events, you could probably see that being a drag on markets from time to time. And what you can clearly see is a very wide divergence in terms of valuations and stocks. At one end you have the pharma and FMCGs which are at multi year highs and which at valuation levels, to a value investor gives very little room for comfort. On the other hand, you have the infra and investment and cap goods space where stocks have come off dramatically but there is no relief visible immediately for anyone to ahead, bang the table and say buy these stocks.


Q: So what kind of valuation call can you take on this market because we keep hearing people talking about India trading at 13 times; is that the right way to look at a market which is so bipolar?

A: I don't think so. We all do that, but you are very right in saying it's such a bipolar market that the average really masks the valuation differential that is there. That is why an entire segment of investors are uncomfortable with FMCG valuations and are willing to look at where there is probably relative better value in companies - which have reasonable strong balance sheet and where long term story is still strong.

I keep hearing from investors about when is the right time to buy for example auto stocks. But you don't hear the same thing about when is the right time to buy real estate stocks or capital goods or infrastructure or construction co. Even out there when people talk, they talk about the best of names and the biggest of the names. So clearly people are looking at a more bottom up stock picking and being extremely conscious about taking any India fresh positions. So what you see when you see fund inflows are our sense is that one is of course the much touted exchange traded funds and therefore the basket buying etc that goes on that could be about 15-16% of buying that is going about this year. A large section of the part of the inflows have also come into EM funds which have traditionally been very-very quality oriented and quality conscious have been in sectors which are considered defensives in general, the consumer names particularly or pharmaceuticals. And those are the funds which are probably seeing a bulk of these inflows and therefore you see continued buying in those segments and which could well continue for a longer period of time.

Q: At your conference what is your message to investors who are attending are you telling them to stick with the defensives that you outlined which have done so well or are you telling them to start looking at contrarian approaches now and to buy the sectors which have under performed?

A: We are not asking them to be brave and take contrarian bets particularly to sectors which are linked in any way to possible government policy action in the adverse or in some kind of a regulatory action or investigation etc. You need to be very careful in this environment in taking your exposure into those stocks. What we are saying is a mix of primarily defensives yes. So we have some consumer discretionary names out there not withstanding the valuations. We have names like ITC that we have been pushing in a big way. We remain constructive in most of the consumer names like Godrej Consumer, Hindustan Unilever. We are pushing for the Zee in the midcap side where we see a lot of value and structural change happening with digitization etc coming in. We are pushing the pharmaceutical names where we still see there will be a steady visibility in terms of earnings and quality of earnings.

At the same point in time we are recommending the only high beta names which is there are private sector banks. We are for now over two years pushing the story that the private sector banks and public sector banks, there will be a diversion in the similar way that there has been a diversion in the rest of the market, a very bipolar kind of situation. We continue to believe that not withstanding all the concerns on non-performing loans (NPL), restructured assets and stretched assets, the private sector banks will see a deterioration, but they will stack out significantly superior to most of the public sector banks and therefore the likes of ICICI banks, HDFC banks are something we are recommending to investors.

Q: Do you sense any hesitation to buy into some of these sectors like FMCG and pharma at these kind of valuation levels? Are you able to offer them something which has similar growth characteristics or defensive characteristics without such stretched valuations?

A: There is absolutely a great amount of hesitation to keep buying these stocks. But at the end of the day, one size does not fit all. Therefore, there are funds in that genre who do take 5-10 and 15 year view and say ‘Is the consumer story in India here to stay?’ Sure, there will be volatility. They compare to things about how Nestle has grown in Brazil or somewhere and look at the story whether it is possible for these companies to deliver superior earnings growth.

Is there a potential to still expand their market and product portfolio etc, and then what would it look like in 10 years time. Some of these funds are willing to continue buying these stocks. They will, of course, try to time their entry from month-to-month or quarter-to-quarter. But in general, if you take a broader spectrum of funds, there is a clear reluctance to buy these names. There are some funds we know of, who have sold some of these names over the last one year, and now think, they have sold out too early. But they did take that view that the valuations were not sustainable over a period of time.

You do see different strategies by different funds in what they are doing. Therefore, some are willing to look at high quality names like in the automotive sector. Discretionary consumption , which is the long-term story on the consumer side, is very strong. So when do we really look at buying it?

Similarly, when people look at infra or capital goods, cement in one sector, they look at good balance sheet and visibility in earnings despite many analysts being very negative on the street. Therefore in spite all the bad news in terms of the cartelization, penalties that have been imposed etc, these stocks have continued to do well. Larsen and Toubro again falls into that basket where people are always looking at what price they should buy it; not withstanding all the concerns around investment slowdown, their cap allocation into different businesses so on and so forth.

Q: What about IT, which has not been doing too badly either; Infosys is in the news this morning but generally, what have you been telling clients on IT?

A: IT was a classic sector which is a play against depreciating rupee. But most investors are again on a very cautious side given the demand scenario and margin outlook. There are, of course, sector specific issues where we have seen companies like Infosys and Wipro, which have disappointed for quite some time. People are obviously concerned about management changes or in some cases, some people from the senior management moving or the business strategy itself. However, companies like HCL Technologies have done relatively better. Cognizant has continued to do well. TCS has done reasonably well. So within the sector, there is a differentiation but in general, I think people don't want to be there aggressively given the demand environment and margin outlook.


Q: You have not been upbeat on Reliance for the longest time at CLSA. But a few days ago, you changed your call. What is the reason for this change of opinion?

A: Our recommendation officially still remains the same that it will outperform. But what we have said now is that there has been a significant underperformance over the last 12-24 months and given the legitimate concerns on their volumes on the gas side, the regulatory issues and the concerns on capital allocation etc. What we are saying now is that probably in the next five years, which is set to reverse.

You have the downstream investments that come up on-stream over the next three years. Probably, some of the regulatory issues may get sorted out, which could see some upgrades to the reserves estimates. You could, therefore, see investments coming back, which could then drive an outperformance over a long period of time. So, it is much more of a structural call over a period of three years rather than the next 12 months. We are seeing the buyback giving a support at the bottom to the stock price.

Q: What are you telling your clients on telecom now. Did you see many of your large clients switch out of Bharti Airtel in the last one month or so?

A: That is something that I wouldn't be aware of. Because sitting on the research desk, I am not privy to what clients are doing on a day-to-day or even a quarterly basis, but I think the stock prices are giving us a message that a lot of people who had kept faith for a considerable period of time, have given up. But at the same point of time, what I hear is that again some valued investors are willing to dip their toes into the stock market now.

Looking beyond the 2G spectrum auction issue and the current mess that the sector is in, if there has to be sector consolidation, and the market is going to get more rational, if ARPUs go up over the next one-two years, will Bharti be a beneficiary? Will Bharti play a lead role in that consolidation drive? Will it do better? The answer to all those probably is ‘yes’. So we still remain negative on our stance on the telecom sector.

Q: At what point would you consider switching into the infrastructure space once again or what data points would convince you that it is time to make that shift from consumer to the investment oriented space?

A: If the order inflow outflow outlook starts improving, and for that the first signs to me would be if you start getting on the administrative side, the decision making apparatus and the government has started moving. Irrespective of what maybe publicly said, the fact remains that today, officials are hesitant to take decisions. I'm not so worried about specific legislations, because I would be happy to see the land bill or the mining bill, particularly the land bill, going through a redraft rather than its present form.

Whether it is a public sector company or a private sector company in your discussions with them, tell us that land bill, in its present form, can be almost a disaster. So it is very important to see that the decision making apparatus starts to move forward constructively. You also want to see stability in the current environment where there is a feeling that any decision can be opened up and even something taken on good faith can be labelled as a scam or a scandal. There is no real defence available. In that environment, it is really difficult to see the investment climate improving.

A lot of people talk about the interest rate environment; sure, interest rate coming down is a enabler but I don't see that being the driver of investments in this cycle. The driver of investment will have to be the stability in the decision making process. Going forward, the outlook would be that there won't be any retrospective changes to any laws. When the sales tax benefit was extended, for example, automotive companies invested in Maharashtra invested on all the vehicles produced in the state, later on changed to include only vehicles which are sold in Maharashtra, which means that the benefit that you get, completely goes for a toss.

Companies, which have made substantial investments on the back of such policies, and suddenly when the policy change halfway through, it is very difficult for anyone to explain it to their board about what went wrong. It is more so for MNCs, which has invested on the back of that.

Q: Do you think there is still macro risk overhang to this market, which opens up de-rating possibilities on the downside or do you think global liquidity will keep those macro risks at bay and not get them priced in anytime soon?

A: I think all that you said is right. If the macro risks were to get reflected in the prices, then the markets would not be where they are today; they would be much lower. Therefore, it is a very global liquidity-driven market, and it will continue to remain so. We have a lot of bad news already in the public domain. Can it get worse in the current environment? Yes, it could get worse.

The fact that if the political situation at Delhi is seen to dragging on for another two years, till 2014, we are getting into a very busy election calendar from December onwards when Gujarat elections are held. Again mid of next year, there are important five state elections and then you get into 2014. The closer you are getting to 2014; it will be more difficult for the government to take any of the tough decisions that are to be taken.

Now that the Parliament session is behind us, it clearly gives another window of opportunity to take at least the routine decisions like a diesel price increase, for example. Even on that, we continue to hear various voices. But what we are hearing is that probably the political authorities are a little more sensitive to some of the tough decisions that need to be taken.

Expectations that automatically things will recover, India will be on a growth path, taxes will grow rapidly, and therefore, the fiscal deficit etc will be swept under the carpet, the concerns on those has not materialised. Now the closer they get to 2014, it will be more difficult to do. So the earlier they take this decision, there is a hope that by 2014 or close to that, you have come out of the bad cycle and is on its way to recovery and the general sentiment and mood has improved.

First Published on Sep 10, 2012 10:21 am