"It is difficult to call the trajectory of inflation, especially since the outlook is clouded by the Russian invasion of Ukraine and the spike in COVID cases in China. So we expect volatility in equity markets to continue in the short term as it navigates this inflation direction," says Rajesh Bhatia, Managing Director & CIO, ITI Long-Short Equity Fund, in an interview to Moneycontrol.
If the inflation trajectory does cool off, India will be among the best markets in the world to invest in, he believes.
Therefore, "earnings growth in double digits will lead to double-digit gains in stocks as well," says Bhatia, who has more than 30 years of investment experience in Indian equities, with the last 14 years in alternative investments (long-short fund management).
Considering the current volatility, what could be the drivers for the market, and where could the market be headed in the near term, though most experts are still holding a positive outlook for the medium- to-long term?
There are two views on the markets– the FII view and the investor view. FIIs are large sellers. Their view is that, India, while at the cusp of an earnings and credit cycle upturn, has incorporated this upcycle in the 16-18 percent CAGR earnings estimate for FY23 and FY24.
After incorporating growth in earnings, the Indian markets were trading at 17-18x FY24 earnings, which has been at the highest band of its historic PE (price-to-equity) ratio. So, while earnings were adequately discounted, valuations did not account for the potential rise in interest rates globally (particularly in the US, to which Indian cost of capital is also linked). As interest rates go up, PE ratios tend to decline.
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Further, the Indian market did not account for the sharp increase in inflation, which had the potential to hurt earnings estimates. In effect, this led to their negative view on Indian markets, and, hence, the record amount of selling by FIIs.
Indian investors, on the other hand, have a more positive outlook. This year, India will be a $3-3.5 trillion economy and will register the fastest growth in the world.
It is at the cusp of an earnings and credit cycle, and, therefore, if these inflation scares prove to be transient, FIIs will have to come back to India.
It is difficult to call the trajectory of inflation, especially since the outlook is clouded by the Russian invasion of Ukraine (Russia is a large exporter of oil, wheat, coal etc. So, a long-duration war or severe sanctions would exacerbate inflationary pressures and vice-versa) and the spike in COVID cases in China (production stoppages in China could worsen supply-chain issues). So, we expect volatility in equity markets to continue in the short term as it navigates this inflation direction.
What is your overall view on the Federal Reserve commentary? Do you expect the Fed to go slow on rate hikes, given the Ukraine-Russia war and impact of sanctions?
The Fed believes the US economy is quite strong and can absorb the initial increase in interest rates, which, anyways, are at record lows. There has been a very large amount of fiscal stimulus that has been pushed in the US. This has augmented the consumer’s spending capacity.
Do you think that, along with ETFs, long-only funds also turned net sellers in the FII outflow seen in the second half of FY22? What is your view?
Yes, the data we see tells us that not only ETFs (exchange-traded funds) but India long-only funds have also been sellers.
If you want to put your money now, what are the sectors to bet on and why?
We like IT, Telecom, Insurance, private banks and select consumer stocks hereon. We are also likely to increase cyclical bets as we either get a better handle on inflation trajectory or if valuations decline for these stocks to make them attractive.
Regardless, cyclicals are a part of our tactical portfolio, and we increase or decrease them, depending on our short-term view as well.
The market still holds double-digit gains in the current financial year despite being 7.5 percent off from its record high. Do you expect double-digit gains to continue in FY23 as well?
The challenges to the markets are front-ended -- the duration of the war and the effect on commodities and inflation. If the inflation trajectory does cool off, we believe India will be among the best markets in the world to invest in. Therefore, earnings growth in double digits will lead to the double-digit gains in stocks as well.
Most experts are bullish on the IT space. Are you in the same camp? What is your take on the sector?
We have been bullish on this sector since the last four years. While being India's most competitive sector, it was thought of as a slow grower and hence valuations also sagged. The sector has been energised, post COVID, since the top 2000 companies feel a dire need to digitise their entire operations at a fast pace or face an existential crisis.
This has led to a sharp demand bounce-back and we expect this trend to continue for several years.
What are the possible risk factors one has to consider in FY23?
We believe the risks are front-ended and inflation-related. The primary reason why equity markets did well globally, post the COVID outbreak, was the sharp decline in interest rates, thanks to the infusion of liquidity by global central bankers.
Any reversal in the interest-rate trajectory could have a reverse effect on equity markets. What is unknown is the depth and duration of this rate hike cycle. We will have the answer to these questions in the next few months.Disclaimer: The views and investment tips by experts on Moneycontrol.com are their own and not those of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.