A weird bull market; fundamentals don't matter!: Kotak's Prasad

Sanjeev Prasad of Kotak Securities says the current bull market is a 'weird' one, in which fundamentals don't matter at all.Speaking to CNBC-TV18, Prasad says the rally is being fuelled by massive inflows into exchange traded funds and that actively traded funds are not getting any meaningful money.He says broadly the quarterly earnings have been far from impressive. While some key companies have reported strong bottomline growth, in many cases the rise has been driven by change in accounting rules, other income and such one-off factors.Prasad says the topline growth for most companies have been quite weak.He says it is a difficult time for active fund managers, because they are not getting enough money in their funds, and even if they are getting inflows, it is a tough call whether to invest because of expensive valuations."It is just macro money which is coming in on the back of the fact that central banks have crushed yields everywhere, destroyed the concept of risk effectively in a way," says Prasad, adding "...and the whole message which is there from central banks is do whatever you feel like, we are there to protect the appreciation in stock prices or any asset prices for that matter."He hopes that the 'normalisation' process--as in valuations reverting to mean--is not as painful was seen in 2008-09 when stock prices had plunged.Below is the transcript of Sanjeev Prasad’s interview to Latha Venkatesh, Anuj Singhal and Sonia Shenoy on CNBC-TV18.Anuj: First a word on Larsen and Toubro (L&T). What did you make of the earnings and the fact that the market was not perturbed and the stock is actually higher?A: The results were a bit confusing to be candid, in a sense. Obviously, there were a lot of issues in respect to the change over to the new accounting standards, the Indian Accounting Standards (Ind AS). So, it is very hard to make out much on a year-on-year (Y-o-Y) comparison. So also with our estimates. Having said that, it looks like order booking is fine, something like 14 percent growth for the quarter does not look too bad. Although a large portion of that has come from the international orders and we will figure out as to what is the profitability of that order book as we go forward in time. So it looks okay on the face of it, but we will have to wait and see what is the profitability of the new order booking which the company is getting at this point of time. Keep in mind that fact that the external environment especially in the Middle East are not that great, so if any orders are being booked over there, it would may not be at a very good profitability, so let us wait and see.Latha: You spoke about how to candidly interpret L&T. In fact, there is a lot of candour in your latest report also. You are just saying that valuations are expensive across most sectors. Is it therefore a better strategy to look for gold mines in the midcap space? Have you spotted any?A: The gold mines are become platinum and diamond mines looking at the way the stocks have gone up in the past few months. So, honestly, there is very little value in midcaps, largecaps, smallcaps, whichever segment you look at. This whole market is afloat on global factors so obviously it has got very little to do with domestic earnings projections. The basic issue remains the same. Global central banks have been very kind for the last several years, global yields are very low and people are willing to buy earnings at any multiple at this point in time, just a function of lack of alternatives in the world. So, I do not think you can make out too much in terms of specific stocks and trying to distinguish across valuations and so on and so forth. Everything is up and that is the bottomline at this point in time.Sonia: In earnings season so far, we have had a lot of big stars, not just on the midcaps, but from the largecaps as well. Names like Asian Paints, Eicher Motors, Ambuja Cements, Zee Entertainment, what has your pick of the pack been so far?A: Earning numbers have not been that great, to be honest with you. It is only a few companies like Zee Entertainment which have done better at the topline and bottomline level compared to our expectations. Asian Paints delivered pretty decent volume growth whereas most of the consumer names are struggling at this point of time, pretty significantly. If you look at Ambuja, volume growth continues to be disappointing for five years in a row and the stock keeps getting rerated on expectations of big improvement in profitability at some point in time. I hope that happens, otherwise, there is a lot of money which is going to be lost in the cement sector. So, honestly, the results have not been that great. If you look at the 25 Nifty-50 companies which have reported, they beat our net earning numbers by about 5 percent. But if you dissect the numbers in more detail, most of the outperformance is coming because of some change in accounting policy on depreciation in case of Maruti which has resulted in lower depreciation compared to our estimates, high in other income in several cases, fee income case of banks. So, it is not very encouraging trends to be honest with you. Even if you look at the topline and volume growth across sectors, very disappointing and if you look at cement and consumer staples in particular, absolutely disastrous numbers over there, but honestly, nobody cares. That is the whole problem at this point in time. Valuations just do not matter. So, if that is case, so be it. Anuj: Clearly the liquidity argument overriding everything else. You are in Singapore, so I am sure you would have spoken to some clients as well. What is the general feedback? We got more than USD 1 billion last month, cash market flows, so much of index futures buying. Is most of this exchange traded funds (ETF) driven or have you seen long only funds also deploying in India?A: It is entirely ETF driven. There is hardly any money coming in active funds at this point of time. If anything, what we are seeing is active funds contain lowest money and that is being more than made up passive flows. So that is what it is. It is just macro money which is coming in on the back of the fact that central banks have crushed yields everywhere, destroyed the concept of effectively risk in a way and the whole message which is there from central banks is do whatever you feel like, we are there to protect the appreciation in stock prices or any asset prices for that matter. That is the message over here. So, people are just partying based on the macro inputs which one is getting from the central banks. It has got nothing to do with countries, got nothing to do with earnings, got nothing to do with fundamentals anymore and that is a serious problem. I just hope this normalisation whenever it happens is going to be less painful than what we saw in 2008-2009.Latha: What is an equity fund manager’s lot?A: It is pretty painful at this point in time in the sense that you have a bull market in a way, but you are not getting any new money to manage. If anything, you are struggling to retain whatever funds you have got at this point in time. So, it is a weird kind of bull market where I do not think anybody is really happy with the appreciation in stock prices. You are feeling very uncomfortable about valuations. Whatever fundamentals you have may have in terms of a fair price range for a stock, it has been breached sometime back. And you are forced to hold on to the stock, because you really have no option. If you keep stock prices going up, you sell and book profits and wait for a correction. Or you just continue to be invested in the hope that you will get less hurt as and when the market corrects, if it does.Sonia: So, how do you approach some of these spaces like pharmaceuticals which have had a hit and miss sort of an earnings season? Some of the midcap pharmaceuticals stocks have done very well but largecaps are still struggling. What do you do there?A: We do not cover that many midcaps for me to have a very good view on their earnings numbers and valuations. Largecaps, we have been fairly cautious for more than 1.5-2 years now and that stand pretty much continues. There are several challenges out there, both in terms of severe price erosion in the existing portfolio and whether the replenishment of that extent portfolio by new molecules at this point in time. So, that challenge remains. Valuations continue to be fairly expensive. Most of the largecaps are still trading at more than 20 price-earnings ratio (P/E) on the March, 2018 basis with some amount of uncertainty with respect to the earnings numbers. So, that sector still remains an avoid for us.Anuj: In your India strategy, the recent portfolio changes that you made, you have only 20 stocks. Of course, as I said, paucity of ideas. Tech Mahindra, what is behind that call? We have seen IT sector clearly seeing a bit of a derating, but you have just recently added some money to Tech Mahindra. Could you explain that?A: It is just a valuation call over there. If I look at the stock, it is trading at probably less than 11 times on March, 2018 numbers now. So, even if disappointment is there with respect to the earnings numbers in this quarter, a dollar based company, should trade at somewhere at about 11-12 P/E. So effectively, now the market is telling you that this company will not grow forever which is fine. That is probably the right time to look at a stock when sentiment is very bad and the valuations in a way reflect that.Latha: Would you move over to a stock like ICICI Bank? I notice you have State Bank of India (SBI) in your model portfolio. But ICICI, would you say at least bad news will recede in the coming quarters?A: ICICI, we have a very large position anyway. That is something we increased the weightage on that in February-March when the stock had corrected significantly on that. We continue to stick on to that position. If you look at the valuations of that company, it looks quite okay. Obviously, there is still a lot of bad news with respect to non-performing loans (NPL) which will still flow through the profit and loss (P&L) for another 2-3 quarters I would assume. But having said that, if you adjust the current stock price, let us say it is Rs 260 less Rs 70 is the fair value of all the subsidiaries put together, the general insurance, life insurance, asset management business which are doing fine, you get a company, the core bank at Rs 190 and our analyst’s book value for March, 2018 adjusted for all the net NPLs which have not been provided for so far is somewhere about Rs 138-140. So, effectively, you are getting a decent bank with a very solid liability franchise. Obviously, there are asset side issues as of now at about 1.4 price to book which does not look too bad I would think.