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Better earnings growth means Nifty rallying 10-12% in FY19 can't be ruled out

We believe current premium valuations in the equity market can be attributed to an extent to the ruling government.

April 18, 2018 / 02:57 PM IST
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Given the fact that corporate earnings growth in FY19 is expected to be better than in FY18, and that liquidity flow is seen remaining supportive, a gain of 10-12 percent for the Nifty this year cannot be ruled out, Rakesh Tarway - Research Head - Reliance Securities said in an interview to Moneycontrol's Sunil Shankar Matkar.

Q) After a sharp rally from 2018's lows, the market has mostly traded sideways. Do you think it is waiting for cues from corporate earnings before taking a position?

A) Recovery in markets during the last two-three weeks is primarily led by reviving confidence among investors about the growth prospects of India, as headline data of growth on core sectors and credit growth has been encouraging. While corporate earnings have already witnessed a decent recovery in Q3FY18, it was not enough for a strong upgrade.

We expect Q4FY18 corporate earnings (ex-PSBs) to continue being strong, led by a low base effect, pickup in infrastructure activities and reviving rural economy.

We believe the market will focus more upon upgrading earnings rather than earnings growth and that is crucial for the sustainability of premium valuations.


Q) Do you expect the Nifty to end FY19 at around 12,000. If yes, what could be the drivers and if not, what will be the constraints?

A) Nifty witnessed a gain of around 10 percent in FY18 in a scenario of dismal earnings growth and was clearly supported by liquidity flow into Indian equities. Earnings growth in FY19 is expected to be better with higher certainty and liquidity flow is expected to remain supportive. Hence, a gain of 10-12 percent for Nifty cannot be ruled out in FY19 as well.

However, geopolitical tensions leading to higher oil prices, assembly elections in FY19 in several states, slow pace of GST collections, etc., can be major constraints in FY19.

Q) Crude prices have hit four-year highs of USD 73 a barrel. Do you expect it to continue upward and breach USD 80 a barrel this year?

A) It is difficult to predict crude price with any degree of certainty. Higher crude price is purely driven by production discipline being maintained by OPEC members, including Russia. However, growing global economy also aided price to an extent.

Sustainability of higher oil price is always in question given the chances of breaching price agreements by OPEC members and production ramp up by the USA. However, recent dialogue by Saudi Arabia's administration to take crude prices to USD 80 and growing geopolitical tensions between USA and Russia over Syria are likely to keep crude prices strong.

Q) Will higher crude oil prices become the biggest risk for the economy and stall the market's northward journey? How much impact do you see on earnings of oil marketing companies and other related sectors?

A) As India imports over 80 percent of its oil requirement, any increase in price will have a direct impact on the economy. India’s trade deficit for FY18 almost doubled to USD 87 billion, mainly on account of a 25.5 percent increase in oil import bill to USD 109 billion.

Our back of the envelop calculation suggests that Re 1 per litre reduction in marketing margin of oil marketing companies can have an aggregate revenue impact of Rs 12,000-14,000 crore.

Q) With three state elections lined up in 2018 and the general elections next year, will political risks supersede all other factors for the market?

A) Indian markets have witnessed a tremendous rally under this ruling government on the backdrop of back-to-back reforms and better ease of business rankings.

Hence, we believe current premium valuations in the equity market can be attributed to an extent to the ruling government. Hence, any adverse result in any of the assembly elections or the general elections will certainly be detrimental for the markets.

Q) Mutual funds flows slowed down drastically in March. Do you expect the slowdown to continue or could there be a revival?

A) Fund flow slowdown in March was primarily due to the redemption by investors to avoid long term capital gains tax that was to be effective from April 1. However, equity linked ELSS inflow witnessed a significant improvement in the month.

While there may be some shift of flow to other tangible investment avenues, owing to growing geopolitical uncertainty and rising interest rates, we expect fund flow in MFs to remain healthy, albeit at a slow pace.

Q) Bond yields have been volatile, moving in a band of 7-7.5 percent. What is your outlook on yields?

A) The bond market has witnessed a sharp improvement in the first week of April, followed by RBI's dovish stance, softening inflation and increase in FPI allocation. However, continuous selling by PSBs and likely dollar buying by the government for purchase of defence equipment took away all the gain in bond prices and bond yields surged to over 7.5 percent.

In a scenario of CPI being in the range of 4.5-5 percent, India's 10-year bond yield is likely remain in the range of 7-7.5 percent, with a real yield of around 150-250 basis points.

Q) The recent bond rally drove NBFCs higher and there are also expectations of an earnings revival in the sector. What is your advice when it comes to the NBFC sector and gold loan companies?

A) An environment of lower interest rate is always good for NBFCs, considering it means lower cost of funds. Referring to the MPC's dovish comments after its latest meet and lower inflation forecasts, we do not expect any reversal in interest rates in the medium term.

Hence, select NBFCs will continue to do well. Further, rising geopolitical concerns leading to higher gold prices can aid gold loan companies too. However, we are not structurally positive on gold loan companies.

Q) Banking has been in focus of late due to concerns surrounding asset quality. Do you think it is the right time to buy PSBs and will the NPA problem end this year?

A) PSBs have been beaten down both due to adverse news flow and change in NPA recognition norms. Also, they will be most impacted due to increase in G-Sec yields.

NPA recognition and G-Sec yields are largely quantifiable factors, which have been priced in. Therefore, the performance of the stock now largely depends on better news flow about these companies.

Valuations are attractive, but all PSU banks are not same. Therefore, investors should pick and choose the better ones among them at these valuations.

Q) Are the pharma and IT sectors out of the woods? What is your view on Infosys post-earnings?

A) We are positive on certain pharma stocks having sizeable business exposure in India and are not too dependent on business from the United States. Further, we have turned positive on the IT sector, considering good IT budget growth (over 6 percent according to Gartner, which is the fastest growth rate since 2007), improvement in the US economy, and strong digital growth moving the needle on total growth of select companies.

While lower margin guidance was a setback for the quarter, Infosys management’s intention to invest in growth initiatives and payout of additional cash are key positives. We maintain our 'Buy' stance on the stock.
Sunil Shankar Matkar
first published: Apr 18, 2018 02:57 pm

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