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Last Updated : Apr 10, 2017 02:39 PM IST | Source: CNBC-TV18

Ambit sees Sensex at 31,000 by March 2018; prefers pharma over IT

Pramod Gubbi of Ambit Capital sees a revival in Indian and global markets, but says that he will take money off the table in some cases.


Even as benchmark indices have been recording strong movements in the recent past, the market is worried about stretched valuations.

Ambit Capital believes that in the current scenario, it would take money and profits off the table. It highlighted that a comparison of economy, corporate profitability and market’s performance would push it to do so.

“Given that much of the rally is liquidity-driven, any untoward development could see some downside…on this basis, we would take the money off,” Pramod Gubbi, Head, Equities, Ambit Capital, told CNBC-TV18 in an interview.

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However, he also highlighted that the market was seeing a revival in India as well as on the global front. The research firm placed Sensex’s target at 31,000 for March 2018. Gubbi said that he saw 10 percent earnings per share (EPS) growth for Sensex in FY18. “I don’t think getting there is a challenge,” he added. The consensus is on the larger side, he added.

Non-banking Financial Companies

A few private banks and non-banking financial companies (NBFCs) are priced to perfection, Gubbi said. But in case of some NBFCs, the valuations are hard to justify.

IT & Pharma

Investors should also look at areas which the market has ignored, he said. One can look closely at IT (IT) and pharma. These have been ignored for various reasons.

“We can see some earnings visibility in case of pharma, while for IT, the growth visibility is lower,” he told the channel. There are pharma companies which are more exposed to emerging markets and India and see some overselling. He prefers pharma over IT space as growth uncertainty and currency movement are a concern for IT.

Microfinance Institutions (MFIs)

Among microfinance institutions (MFIs), the on-ground situation seems to be poor, he said. Collections have not improved and have not gone back to pre-demonetisation levels, Gubbi added.

Capital Goods

While capital goods have seen some decent quarters in terms of order flows, on a macro level, only government capex seems to be taking place, he said.

Midcaps

In case of midcaps, he prefers building materials and consumer durables space. “They have asset-light balance sheet…and they will see benefits from formalisation due to the shift from unorganised to organised sector. This trend will accelerate,” he said. There are many such stocks to play for the long-term, he added.

Below is the verbatim transcript of the interview.

Latha: We have been running on liquidity steroids. What should one do? Go and buy because you have missed the bus?

A: Liquidity and momentum are perhaps the hardest thing to predict and particularly if we are not including to the original sources of that liquidity. So we would raise our hands and say that that is something that we do not back ourselves to do. We would rather look upon something that we can which is keep our ears to the ground and look what is happening in the economy, look what is happening to corporate profitability and see if the valuations today are in line with those fundamental factors. However, as on date I do not think that is the case and we would be happy to take the profits off the table and stay away.

Sonia: What is your market view over the next 12-18 months? Why would you be taking profits off now?

A: There is a recovery definitely not just in India but also in global markets across developed and emerging markets. It is just that much of the reflection in the market prices and valuations have been front ended. So to that extent our sense is that this market at best could be sideways. You are looking at something like mid-single digit return. Our target for the Sensex is about 31,000 for next March. So that is sort of middling sort of returns and at the same time given that much of the rally is driven by liquidity, any untoward development in the market could see some downside. So to that extent given that sort of risk reward balance we would rather take money off the table.

Latha: Where would you take money off? Which sectors or stocks?

A: I think a lot of the sectors that have been investor friendly in terms of showing long-term prospects of growth, have been rerated to the extent that they are almost priced to perfection. I am talking about certain private sector banks, certain non banking financial companies (NBFCs), certain consumer names where I do not think prices are reflecting that something could go wrong or indeed what they are suggesting is there is almost endless growth runway for these companies. We do believe some of these companies have strong management themes; long-term prospects are intact but as we have seen time and again, in India there are bound to be potholes on the road which you cannot avoid. So valuations where it is hard to justify near term growth prospects is where we will take money off the table and look to areas which have been ignored by the market off late.

Sonia: Is there any pocket that still looks a bit attractive to you, any contrarian buying that you guys are thinking about doing lately because we are seeing not much loved pockets that have seen money get into them whether it is capital goods, whether it is even telecom; over the last one year telecom has seen some action. So anything that you guys are looking at?

A: We have looked closely at IT and pharmaceutical, both have been relatively ignored sectors for various reasons. Some rightly so and some perhaps a bit over sold to that extent. Pharma particularly I think we can see some sort of earnings visibility. Yes, it is not as cheap as IT is but at the same time IT growth visibility is relatively lower. However, between the two of them I think pharma at this stage gives a bit more confidence that we have by and large behind the Food and Drug Administration (FDA) issues. There are some companies which are less exposed to the competitiveness in the US market more exposed to the emerging markets in India, so those sorts of opportunities is something worth looking at.

Within IT the currency has become a latest headwind adding to the line of issues that the sector is being facing, but it is about time that the companies start showing some of the benefits of the investments that they made into catering to some of the new demand patterns that are emerging in the sector. So, over 12-24 month timeframe these two sectors should come back into the limelight at some stage.

Latha: Is there a view on the micro-finance institution (MFIs)?

A: On the ground situation seems to be pretty poor, in fact all sort of sources now largely in the public domain, the number of media reports sort of agreeing to our view that collections haven’t particularly improved. They have improved relative to where they were but really not gone back to the pre-demonetisation levels. I think the way the data has been spurned around has made it look favourable than what it actually is. So, to that extent we are concerned and we think that it is about time that it comes to hit. So, perhaps the only pure play stock has been sort of supported by some sort of takeover news. Other than that we are really concerned about fundamentals in the sector.

Latha: I wanted to ask you, I believe your March 2018 target is 31,000 for the Sensex what will take it there?

A: It is barely about 4-5 percent from here against the earnings growth. We are looking at is about 10 percent in terms of the Sensex earnings per share (EPS) growth for FY18. It is still significantly below what the consensus is looking at. I think consensus is somewhere around 15-20 percent. So, I think even with the 10 percent growth and sort of 5 percent de-rating from here we will get that. So, I don’t think getting to 31,000 is a challenge. Consensus seems to be suggesting a lot more than that. So, we will be happy if we see that 31,000 number.

Sonia: Coming back to the question about the capital good space. You guys have been cautious on Larsen & Toubro (L&T) for a while. We have seen that stock hit a new high and there is now change of guard as well, wanted your thoughts on whether the worst is over as far as capex is concerned, I mean is capex growth picking up and would you change your stance on L&T?

A: They have had decent quarter perhaps couple of quarters in terms of order flow, but if you just take a top down view in terms of the macro other than the government there aren’t too many quarters where capex is happening. Particularly, in the historically capex heavy sectors, particularly real estate, oil and gas and metals have got a lease of life in terms of commodity prices rallying, but are utilisation at a level where they look at expanding capacity, I am not sure. Same with cement, cement I guess we are in a phase of consolidation as far as demand and supply is concerned, so that again is unlikely to be a big driver of capex. So, that leaves us with infrastructure. Infrastructure again we have argued that the government has limited pockets to really move the needle for the entire capital goods and construction industry to actually make a difference for their long-term prospects, so I think we still are while away.

More importantly, remember even if utilisations were to pick up - do we have a financial system in place which can support credit to this system particularly the public sector banks are still short of capital and even if demand would support credit growth scenario, I am not sure if we have enough ammunition in the financial system support that sort of capex growth. So, all things put together, we are still concerned about the entire private sector capex story in particular which is required for a behemoth like L&T to continue on a more sustainable growth trajectory.

Latha: We have discussed a lot of the largecaps. What spaces do you like in the midcap, you said that NBFCs are priced to perfection would you like some of the smaller engineering, procurement, construction (EPC) companies? Companies like Dilip Buildcon have been getting a lot of orders. This morning we heard about Madhucon Projects getting bunch of orders. NCC had never spoilt its balance sheet, but I am not restricting you to capital goods. What do you like among the midcaps?

A: The building material space is something that we have always favoured given it’s relatively asset light balance sheet where you don’t need large sums of capital either for capex or working capital to grow your books. It has an element of brand and distribution which are more sustainable competitive advantages as opposed to an EPC company which is largely reliant on sort of L1 or low coast based bidding for government contracts and also in the building material space you do see some sort of benefits from formalisation or the shift of the market share from the unorganised to organised space as a result of not just what the government has done over the last three years be it demonetisation or goods and services tax (GST), I think this is a time that sort of trend will accelerate. So, there are a lot of factors going well for the building materials space and that is one place which has some really good midcap companies with good quality management teams for the long run.

Consumer durable is another space which lends itself to this theme of formalisation which we have been talking about some time now. It is about come to hit and you will see that sector performing well as far as fundamentals and earnings growth are concerned. Similarly, I think certain asset heavy sector particularly dependent on high cost of capital historically playing the sectors could change because our view has been this whole shift from physical savings to financial savings would mean that cost of capital in the country will go lower. So, the beneficiaries of those would include companies with heavy assets like retail, hospitals, diagnostic centres, multiplexes and so on, on the one hand and companies which help the financialisation of savings be it brokers, asset managers, life insurance companies and so on. So, there are plenty of stocks in that space in the midcap space to play with from a long-term perspective. I am not saying that valuations are supportive there, but at least the long-term growth can be underpinned by these sorts of thematic ideas.

Latha: When you say building materials you mean cement, paints and tiles?

A: Yes, starting from cements – cement is perhaps the most widely recognised sector, but everything from paints, tiles, electrical, plumbing, plywood etc.
First Published on Apr 10, 2017 10:31 am
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