India valuations fair; RBI rate cut likely in Oct: Edelweiss FIn

While he expects more upside in monsoon-boosted sectors like tractors and fertilisers, among others, he prefers to invest in information technology companies only as a hedge as the growth rate in the sector could be muted compared with some others like consumption.Below is the transcript of Vikas Khemani’s interview to Latha Venkatesh, Sonia Shenoy and Anuj Singhal on CNBC-TV18.Latha: What is the sense? The liquidity outside will be overwhelmed by the liquidity in the Indian markets? Are we charging to 9,000 anytime soon?A: 9,000 is very closer distance, it can happen anytime. But the Indian markets are right now in a momentum. Everything is falling into place bit by bit for them, so I see no reason why this liquidity will stop. Of course, events like what happened yesterday puts more confidence that those events are not happening and if Fed rate hikes, that is probably the only global even that could create some short-term temporary correction in the market. Unlikely that even if that happens, that will change the course of the market from medium-term to long-term perspective. So, markets get itchy in the shorter term when they cheer the shorter term targets, but I do not really think anything is going to change. Markets are going to remain quite positive. Momentum is continuing. Earnings are in the way up. This also opens up maybe confirmed in some sense that October 4 rate cut is more or less a certainty and all that will also be factored by the market.Sonia: The only deterrent I guess is the fact that valuations have become a bit stretched, so Sensex trading at what 18 times FY17 would that be a deterrent for you as well or do you think that price to earnings (P/E) multiples could expand as earnings improve?A: Both will happen, undoubtedly right now we are in some sense in a reasonable valuation range and that deters some of the investors to sort of commit large amount of money. However, I have always seen whenever there is a growth momentum whether it is at company level or at Index level you would have seen companies where the earnings momentum continues they always trade expensive. So, same applies to even at Index level that as long as the earning momentum is continuing or expected to pick up which I think last quarterly earnings were reasonably good and we see that momentum specifically in the domestically oriented plays and sectors momentum is picking up and that is likely to continue. In face of that I don’t see a big correction coming through I don’t see big de-rating taking place unless something changes on the liquidity side which currently doesn’t look there is going to be significant change as well. So, right now momentum is in favour of market. Of course risk factors always comes from unknowns and which we have to always watch out, but currently it looks like that most of the stars are aligned.Anuj: Just to carry forward that point from Sonia. In terms of earnings valuations, are we looking at things in a myopic way and could we be at the stage of 2003 to 2007 when we least expected it, but earnings growth picked up like anything and the markets also saw a huge growth over the 3-4 year period. We had one of our best bull markets in that period.A: There is a little distinction between that bull market and this market. That was the entire emerging market cycle. This time around, it looks like that. It is more India specific than a global kind of momentum. But having said that, I personally believe that everybody will get surprised positively on the earnings growth in the next couple of years, and people who believe in that right now are putting in money, no doubt on that. So, whatever is happening on a macro basis, in my opinion are very structural things and they are only enablers for the growth. To some extent, there was a disillusionment or disappointment saying growth was slightly delayed in coming through and so hence, it kind of became a crying wolf kind of story. But now, you are seeing the numbers coming through and I do not see any reason why that will not continue for some time, because macro side, everything is falling into place. And I think everybody will be surprised positively on the earnings growth and as and when that happens, you will see more money coming in, you will sceptics coming in and by and large more and more global investors who have been on sidelines, they will convert.Latha: Absolutely, that is a 100 percent point. In taxes, look at the reforms done. In laws like bankruptcy or arbitration, we have done so much progress, infrastructure, so much progress. So, no two ways about that. But still valuations is the one that you battle with. Where will you go now? Will you go with consumption stories or do you think you are so sure of growth that you will even go to capital goods stories?A: Valuation should always been seen in context of relative valuations. Valuations in absolute really does not matter because ultimately, bottom-up picking you have to look at that, but when you are looking at the market level, everywhere if consumption stocks are trading cheap and this is not only phenomena with India, entire emerging market, good quality consumption stories are expensive. And if you are playing an India market, I do believe that you have to play both because you are looking at the significant growth at the gross domestic product (GDP) level. And capital expenditure (Capex) obviously in my opinion is a theme which I personally I believe a lot, I have been saying for long, because you cannot have a growth without kick-starting the investment cycle which has already started. We have seen in order books of the company, we have seen in numbers of the company which are in the middle of this. Private Capex is yet to pick up which will happen with 6-12 months or 18 months lag, but investment cycle is about to kick-start. It has kick-started actually. And that is not going to be short-lived; generally this lasts 4-5 years. So, when it comes you will see a kind of probably consumption kind of Euphoria getting built out there. So, you have to balance your portfolio. You cannot really. But I would strongly recommend on a domestic story or sector which is oriented towards domestic economic growth.Sonia: That brings us to the monsoon theme. With the way the rains are going all of us will need to buy a boat and not a car anymore. Would you still play this theme, I mean tractors, two-wheelers all the consumption stories related to monsoons, fast-moving consumer goods (FMCG)?A: Absolutely, I think rural consumption has been slow in last couple of years and also it puts behind the worry of stress on the rural economy. However, I don’t think that we will see the rural consumption which we saw five years ago because that was more I think wealth effect led than only income led. However, still I would say on the margin it will start picking up. You will have a fairly balanced growth which will come also from, so far we have seen only urban consumption picking up. It will be now supported by even rural consumption, so and rural consumption is sort of, when we talk to companies we see that kind of positively positioning for that. Definitely it will have impact on the tractor, fertilisers and pesticides companies and all those things which are only focused on agri growth. Latha: From now to where the liquidity rally takes us and probably 9,000, will the midcaps outperform the Nifty stocks and within the Nifty stocks tell us which will be the best winners in the race to 9,000?A: That question unfortunately I can’t answer because I don’t know. However, I think as a trend whenever rally happens on a structural basis especially in a market like India midcaps tend to outperform. We have already seen that playing out in last two years and I don’t see that trend will change. We saw that in a previous rallies also, so because there is lots of small businesses which have suddenly found significant growth path and small sectors like chemicals where you have seen Rs 100-200-300 crore companies suddenly getting 30-40 percent kind of growth. There are lot of sectors which are right now coming of face, coming of interest so you will find that continuing. So, midcap as a basket I do believe will over next three-four years will deliver superior return than largecap. Anuj: What will you avoid in this market because it is not going to be everything rallying? IT has underperformed, couple of other sectors have underperformed but from here on what is the complete avoid for you?A: When your domestic’s stories are going so strong I would like to believe that sectors like commodities where steel or entire metal basket for that matter probably you will have lot more cyclicity in those play. So, they are best avoidable. I would also believe that IT if you want to buy it as a hedge that is fine but otherwise it will give you 10-12 percent return versus domestically or interest stories which can give you 18 to 20 percent kind of return. So, it is more a relative call than really completely avoid. I personally don’t understand and it has lot of risk specially in commodities so I would strongly say that is the one which is clearly avoidable when you see so many compounder so many great stories playing out in India.