He advises investors to buy business which are run in a capital efficient way and possess sustainable growth prospects
Pankaj Pandey, Head of Research at ICICIdirect, feels with the worst behind us in the banking space, pick-up in industrial activity and upbeat farm sentiment, one can expect over 20 percent earnings growth over FY18-20e.
He advises investors to buy business which are run in a capital efficient way and possess sustainable growth prospects. Pandey is positive on Grindwell Norton, Heidelberg Cement, ITC, Sterlite Technologies and Sun Pharmaceutical Industries.
A: We remain constructive on Indian equities going forward. We essentially derive our confidence from the pick-up in industrial activity and robust consumer demand aided by strong rural growth, which has now begun to reflect in Q1 FY19 earnings. Leading indicators - cement volume growth, tendering activity etc - also points to a marked improvement in capex outlook. There is no alternative (TINA) factor remains for equities as physical assets remain unattractive and monthly flows into equities continue, thereby keeping the underlying strength intact.
A: The rupee may continue to track emerging market currency complex, which currently is fragile. EM weakness is currently idiosyncratic (Turkish lira declined on the back of political chaos, Brazilian real on upcoming elections and Russian ruble and Chinese yuan due to trade war escalations), but has the risk of becoming systemic. As these economies constitute a major pie of the EM asset basket, a more systemic decline in their currency may put pressure on the Indian currency as well. On the positive side, the pace of INR decline may be tepid as debt market yields have turned positive after adjusting for hedging cost (first time since 2013), which has tapered the sharp pace of debt outflows seen from April to June. The Reserve Bank of India has been selling dollar in the spot market and closing forward long dollar positions. It has preemptively initiated two interest rate hikes which could help contain narrowing yield spread between India and the US.Q: The US-China trade war is considered a major risk but the market seems to be ignoring it. What is your opinion on the trade war?
A: US and China are now actively engaged in several rounds of tit-for-tat tariffs retaliations. This current tariff war is far away from a full blown trade war. If it happens, it could have a much larger impact on global trade. Despite ongoing negotiations, if China retaliates against the recent US proposal of imposing 10 percent tariff on imports worth $200 billion, then there is scope of a currency war escalation in EM. India’s external trade constitute about 28 percent of GDP (lower than most emerging markets) making its growth more of a domestic consumption story. So, unless there is a full blown trade war, the Indian economy is not at risk of losing growth momentum. Easing of US trade discord with Europe and North American Free Trade Agreement members shows that the US administration is willing to negotiate on reasonable terms and may ebb escalating trade war rhetoric.Q: How do you read the June quarter earnings season and what are your expectations for FY19?
A: Sensex companies (excluding the banking space) reported stellar operational performance in Q1 FY19, driven by robust consumer demand and low base due to transition period before implementation of the Goods & Service Tax. Net sales was up 24.2 percent. This coupled with an improvement in earnings before interest, tax, depreciation and amortisation (EBITDA) margin led to a 27 percent growth in operating profit.
Profit after tax was up 15.7 percent year-on-year. Asset quality concerns at public sector banks (PSBs) seems to be fading away with Q1 FY19 being the first quarter witnessing sequential decline in gross and net non-performing assets. On the consumption front, double-digit volume growth in automobiles (about 19 percent) and FMCG (around 12 percent) space was also encouraging, thereby depicting overall demand recovery. With the worst behind us in the banking space, pick-up in industrial activity and upbeat farm sentiment, we are eyeing a heathy over 20 percent earnings growth over FY18-20e.Q: Could the market turn more volatile as we move closer to the state and general elections or is it pricing in the events in advance?
A: By FY19-end, the focus would then shift to general elections, which could lead to volatility as investors prefer a stable regime. Global news flows would keep the market volatile going ahead. Underlying macroeconomic growth, coupled with corporate earnings growth momentum, is likely to be a key catalyst for market movement.Q: Midcap and smallcaps recovered from their recent lows but many are still away from their 52-week highs. Do you think mid- and smallcaps are reasonably valued now?
A: The recent correction in midcaps have erased some of the stupendous returns witnessed over the last couple of years. However, a similar kind of value erosion has occurred in largecaps too. The opportunity ahead needs to be seen with respect to sectoral/business prospect, irrespective of market capitalisation. With market getting polarised, the undervaluation and overvaluation divide has widened and hence investors should be stock-specific now. Emphasis should always be on buying business which are run in a capital efficient way and possess sustainable growth prospects.Q: What is your view on the current macro situation and economy?
A: Domestic GDP growth rate in Q4 FY18 came in at 7.7 percent, making India the fastest growing economy. Structurally, consumption demand continues to move northwards. The above is reiterated by auto volumes that were up around 19 percent YoY and 8% QoQ in Q1. Volume growth in FMCG stood at 12-14 percent in Q1 FY19 versus around 7-8 percent in Q4 FY18. Consumer discretionary also witnessed double-digit growth. On the infrastructure front, lead economic indicators are continuing to gain traction with cement growth of around 13-14 percent, reflective of an underlying recovery in infrastructure spending along with steel (~7.6 percent) and power (4.2 percent). Overall traction in tendering activity remained buoyant even in Q1 FY19. Thus, the leading indicators point towards a sustained improvement in the macroeconomic situation.Q: Do you expect any slowdown in mutual funds flow going forward?
A: Mutual Fund flows are a combination of systematic investor plan flows and lump sum flows. SIP flows are more structural and sticky in nature as opposed to lump sum flows, since these are primarily received from retail investors, while lump sum inflows are more volatile in nature. In recent months, lump sum investments have slowed down significantly. The combined net inflows into equity and equity-oriented funds have dropped from a monthly average of around Rs 21,500 crore in FY18 to about Rs 14,000 crore in FY19 (till July). It is important to note that during this time SIP flows have actually increased from a monthly average of around Rs 5,600 crore in FY18 while in July (Rs 7,554 crore) there were at an all-time high. We do not expect these structural SIP flows to slow down substantially. Lump sum flows, however, may continue to remain volatile on broader market environment and sentiment.Q: What are your top five bets that should be a part of investors' portfolio?
A: Grindwell NortonGrindwell Norton (GNL) reported a robust Q1FY19 wherein revenues, EBITDA and PAT grew 12.5 percent, 33.5 percent and 45.1 percent, respectively. This was mostly on account of strong growth of 12.5 percent YoY and 29.4 percent YoY in the ceramics and others segment, respectively. These segments also reported strong EBIT margins of 17.1 percent and 24.5 percent, respectively. Going forward, we expect all three segments, abrasives, ceramics and others to grow at a healthy rate of 11.2 percent, 17 percent and 23.5 percent CAGR, respectively, in FY18-20E. Accordingly, we expect GNL to post healthy topline, EBITDA and bottomline growth of 15.1 percent, 13.1 percent and 13.8 percent, respectively, in FY18-20E. Additionally, with a cash balance of Rs 272 crore and debt-free status, we believe GNL is a quality play.
In Q1FY19, the company reported strong volume growth of 15.0 percent and EBITDA/t in excess of Rs 900/t, indicating a robust improvement in industry dynamics in the company’s area of operation. Going forward, a pick-up in construction activity, better sand availability, normal monsoons and a hike in minimum support prices is expected to keep demand healthy. In addition, operating leverage benefit and cost efficiency are expected to result in margin expansion of 90 bps to 18.9 percent by FY20E.
ITC reported a strong set of Q1FY19 numbers wherein revenue, EBITDA & PAT increased 7.6 percent, 12.2 percent and 10.1 percent, respectively. Its cigarette segment volume growth was at ~2 percent. This was a surprise as the respective segment has been de-growing in the last five years. We believe volumes should grow 3 percent in FY19E & FY20E. Given expected stable cigarette volume along with stronger profitability in FMCG business, we expect revenue & earnings to grow at a CAGR of 10 percent & 11.6 percent, respectively
Sterlite Tech remains a quasi-play on rising data demand globally and subsequent need for deep fiberisation of networks. Being an integrated player, it is poised to reap the superior benefits of operating leverage, already seen over the last couple of quarters. We foresee a robust growth potential ahead, with topline, earnings CAGR of 34.6 percent, 38.1 percent, respectively, in FY18-20E.