Harsha Upadhyaya
Most of the recent high-frequency data points have been pointing towards a continuing sluggish economy. However, largecap indices such as Nifty and Sensex have been trading near all-time highs.
The contrast between the economy and the stock market is baffling to a majority of investors and financial advisors.
However, if you look deeper, the ill-effects of a slowing economy is very evident in the mid and smallcap basket. While the midcap index is more than 20 percent below its earlier high, the smallcap index is over 40 percent below its earlier peak.
As we look back, the current market cycle started in late 2013 as optimism of the first NDA win gained momentum, thereby propelling the mid-and smallcaps to extreme outperformance over the largecaps.
The sell-off since January 2018 ensured that the significant relative outperformance of mid and smallcaps disappeared completely.
Over the last two years, midcaps have underperformed largecaps by over 30 percent. In our opinion, the bottoming out process of the broader market seems to have begun.
We believe that incremental money is gradually moving into select midcap names. While liquidity and sentiments may continue to drive the market in the near-term, we believe that the floor for market levels has been pushed up due to lower corporate tax rates.
We expect a gradual recovery in economic growth in FY21 on the back of the following:
• lagged effect of fiscal policy changes (through corporate tax cuts already implemented)
• improved transmission of monetary stimulus (135bps of policy rate cuts of 2019)
• improvement in the health of financial sector balance sheets resulting in a reduction in risk aversion and
• some demand-side recovery as the structural changes undertaken will start impacting demand positively
One of the key factors to watch out for in 2020 would be the pro-reform stance by policy-makers. In this respect, some of the key measures, which we believe would start bearing fruit, include:
• Quicker resolution of the NBFC sector
• Large recovery on non-performing loans under IBC paving the way for further recoveries from large accounts and strengthening of bank balance sheets
• Transmission of policy rate cuts with banks moving to external benchmark linked lending rates for retail and SME loans. We remain positive on sectors such as private sector banks, capital goods, engineering, cement and gas utilities. We have also increased our exposure to Chemicals space.
While the volatility may remain high, we are quite optimistic about equity returns over the next year and beyond.
With expectations of continued volatility in the short term, we advise equity investors to make disciplined and regular investments with long term focus, and not chase momentum in the market.
(The author is CIO – Equity, Kotak Mahindra Asset Management Company)
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