Nitin Bhasin, Co-Head of Institutional Equities & Head of Equity Research at Ambit Capital, says banks (especially private ones) are likely to benefit from higher yields, strong housing markets, and recovering real estate activity as reopening resumes. “Provisioning numbers can drop massively over the next 12-18 months, which will significantly bolster their earnings,” says Bhasin, who has 14 years of experience in equity research.
On LIC, the big buzz on Dalal Street, he says, is that LIC enjoys a lot of competitive advantages in India though it has been losing some market share to private insurers. “I wouldn’t be surprised if the Government is targeting a valuation of Rs 19-23 trillion,” he says.
Also read: Street Buzz: LIC IPO likely from 10 March, issue size seen at Rs 65,400 crore; Check out more
The targeted valuation of LIC suggests it will be the highest in terms of market capitalisation, he says. Edited excerpts from an interaction with Moneycontrol follow:
Do you think Ukraine-Russia is a temporary crisis? And will it keep oil prices volatile in the coming weeks?
Crude oil prices have been increasing steadily since mid-2020 due to draws on global oil inventories, which averaged 1.8 million barrels per day from Q3CY20 through the end of 2021, as per the EIA (Energy Information Administration). Commercial inventories in the OECD (Organization for Economic Co-operation and Development) were 2.68 billion barrels at the end of January 2022, the lowest level since mid-2014. In recent times, oil prices have also risen as a result of Russia-Ukraine tensions, and as per our estimates, around $10 a barrel premium could be associated with this.
Forecasting crude prices is one of the toughest tasks. We expect prices to remain high in the coming months due to continued draws in global oil inventories and increased geopolitical risks. However, we expect oil production from OPEC+, the US, and other non-OPEC countries to outpace growth in oil consumption, leading prices in FY23 to settle lower, perhaps closer to around $85 a barrel.
With US inflation rising to a 40-year high, do you expect the Federal Reserve to start increasing interest rates from the March meeting onwards?
In June 2021, when asked about rising inflation, Fed Chairman Jerome Powell believed that the price rise was temporary as inflation was attributed to supply-side issues. The Fed believed that companies/producers were caught off guard when demand surged due to the reopening of the US economy, hence a rise in production/supply would resolve the issue. Since then, the commentary has changed significantly. In December 2021, the chairman said it is time to retire the word ‘transitory’ when describing inflation as inflation will not be short-term. And recently, St Louis Fed President James Bullard suggested an interest rate hike of 50bps in March 2022 and up to 100bps by July 2022. Going into CY22, two factors that will keep inflation sticky would be supply chain issues and rising wages (CY20 and CY21 saw average private-sector wage growth of 4.9 percent and 4.2 percent, respectively, the highest growth in the last 12 years).
The January inflation print was at 7.5 percent, the highest figure since 1982. For the seventh month out of 10 months, the month on month increase in inflation has been above 0.5 percent, which is concerning for an economy that is only expected to grow by 5 percent and 2.2 percent in the next two years, according to IMF projections. Given the historically high inflation and the Fed’s recent communications on rate hikes, it is very likely that the Fed may initiate a rate hike cycle from March itself. The rate hike in March could be up to 25 points.
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What is the correct way to find the value in life insurance companies? What could be the valuations companies are looking at?
As in the case with all companies, valuation is the function of its sustainable competitive advantages, growth trajectory within the opportunity landscape, and the quality of the management. LIC enjoys a lot of competitive advantages in India though it has been losing some market share to its private peers. In mature geographies, Embedded Value (EV)-based valuations are frequently used though in India the investor community also considers the value of new business (VNB), growth potential and market share alongside the stage of the industry.
Without getting into specifics, we note that media reports based on the Government’s indications imply a valuation of 3.5-4X EV for LIC based on the FY22-end embedded value, which could be higher than the September 2021 EV of Rs 5.4 trillion. I wouldn’t be surprised if the Government is targeting a valuation of Rs 19-23 trillion for LIC.
Also read: LIC IPO may come at discount to listed peers, says UBS Securities
At present Reliance is the most valued company and it appears that the targeted valuation of LIC will make it the highest in terms of market capitalisation. Post listing, the performance of LIC and the market’s confidence will drive valuations.
Do you expect FIIs to remain net sellers in the first half of 2022 or the entire year?
Yes, in all likelihood, we expect FIIs to remain net sellers over 1HCY22. FIIs have invested close to $39 billion over 18 months since the pandemic (April 2020 – September 2021), one of the highest among major Emerging markets, and this trend seems to be reversing, with India leading outflows at $9.6 billion among emerging market (EM) countries. FII flows remain a key driver of Indian equities; over the last two years, every single month (barring April 2020), whenever FIIs have been net sellers, Nifty monthly returns have been negative or minuscule, which demonstrates that FII outflows still impact market returns. We believe this trend could accelerate further as the equity risk premium of Indian equities (valuation premium in another way) with regard to emerging markets has swelled up to the vicinity of 100 percent with no meaningful differential in RoEs or EPS growth.
Is the corporate earnings season in line with your expectations?
The corporate earnings season was largely in line with our expectations. While topline growth was strong, we saw higher input cost pressures across all sectors, which translated into margin compression. The earnings upgrade trajectory seems to have flattened out. IT sector numbers remain robust, though it’s seasonally a weak quarter. We fear CY22 may not be as strong for the IT sector as many of the cost savings recede with operational costs rising and revenue growth trends back to normal pre-Covid rates. Most private banks reported an improvement in asset quality, while volume growth in staples remains weak, given rural income. One noticeable trend was many rural or mid- to bottom-of-the-pyramid consumption names missing volume estimates and input price pressures.
What are the most exciting themes to pick now and why?
Interest rates are on their way up and if history is to be repeated, we expect banks (especially private ones) to benefit from higher yields, strong housing markets, and recovering real estate activity as reopening resumes. The historical real yield movement to private banks index suggests a positive correlation. Also, the provisioning number can drop massively over the next 12-18 months, which will significantly bolster their earnings.
Real estate companies that are geared more towards mass premium consumption in consumer markets than investment markets like NCR could be interesting to watch given how time and price corrections have improved affordability. Globally, commodity sectors and companies are going through a shift given shifting energy, pollution and demand characteristics. We could perhaps be headed for multi-year higher prices though in the interim there could be some moderation.
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