March quarter will be the best ever for L&T: Elixir Equities Director Dipan Mehta

Investors can look at segments like banking, infrastructure, select consumption-oriented stocks, and software, says Dipan Mehta.

The capital goods sector is expected to be a good bet as most infrastructure and capital goods companies such as L&T, ITD Cementation, and NCC are likely to report exceptional numbers for the March quarter, said Dipan Mehta, Founder and Director, Elixir Equities, in an exclusive conversation with Moneycontrol.

He expects most of the engineering and capital goods companies to report strong order flows and completion of projects before the end of the financial year. Within the basket, he expects L&T to be the winner, with March being the best quarter ever for the company.

Mehta also believes IT companies will sustain growth rates and the industry’s operating margins will improve. He expects Infosys to report exceptional numbers. In the mid-cap space, companies like KPIT and Tata Elxsi will continue to deliver, he added.

Edited excerpts from the conversation:

What do you make of the markets right now? Specifically, I want to chat about city gas distribution companies because finally the Kirit Parikh recommendations have been implemented.

The last few trading sessions have been very encouraging. If we're able to build on these gains that would be great for the market, but any further declines from here would certainly damage the medium-term prospects on a technical basis.

On a fundamental basis, for the time being, I think we are seeing positive FII (foreign institutional investor) flows. On the whole a lot of investors are cautiously optimistic because there have been many challenges in the quarter gone by, but there have been many positives too. I think we just need to wait and watch. Let a few trading sessions go, see how we're getting into the earnings season, and then maybe take a call on the medium-term prospects of the market.

Coming specifically to city gas distribution companies, on the whole we are not very positive on the sector. The reason for that is that just as we are seeing with oil marketing companies, the trend is towards greater electrification. Which will impact city gas companies in terms of long-term growth as more and more EVs (electric vehicles) come into play. Although the near-term earnings will remain strong, EV disruption will impact the long-term PE (price-earning) multiples of these companies.

The implementation of the Kirit Parikh committee’s recommendations, I think, is slightly negative for these companies because of the price caps. On the whole, I would say that there are other interesting opportunities rather than city gas distribution.

Investors can look at segments like banking, infrastructure, select consumption-oriented stocks, and software.

What are your expectations of the IT sector? Accenture has reported their numbers already. Do you think the largecaps in this space have room to grow after the beating they’ve taken?

Looking at Accenture’s numbers and whatever commentary is coming through, it's not as bad as we’d feared. Companies which have been aggressive with marketing, going after big deals like, say, Infosys or Coforge has been, I think for them the growth rates will be only marginally impacted. But there may be players who significantly underperform their peers. This earnings season will separate the boys from the men.

Companies focused on specific verticals or specific service offerings will be the ones who will manage to grow. Companies like Infosys should report exceptional numbers given the order book they’re sitting on, and even the guidance will be more or less in line with what the street is expecting.

On the whole, we should see the industry improve on its operating profit margin. Within the midcap space, I think companies like KPIT and Tata Elxsi will continue to deliver because of their niche offerings in the auto segment where the IT spends have remained robust. We’re also positive on companies like Coforge and LTIMindtree.

Is the US banking crisis a thing of the past? How do you see banks performing in Q4?

The US banking crisis has had absolutely no impact on our banks. In fact, it has been good for us because I have heard of money flowing into some banks that have branches in GIFT city.

Our banking sector has not seen such healthy balance sheets and financials in decades. Lending is easy for banks at this point of time, the NPA (non-performing asset) cycle hasn't turned, and the cost of credit is restricted. The biggest challenge for the sector is the resource crunch due to tight liquidity conditions. Raising deposits is a challenge for both NBFCs and banks.

Given that, the strategy should be to go for good quality banks and NBFCs which have an edge when it comes to raising resources, like HDFC Bank, Kotak, Axis, and ICICI. I would prefer these companies, HDFC Bank in particular, because they've been focusing very heavily on raising deposits and maintaining their CASA (current account, savings account) ratio. If they have low-cost deposits in a rising interest rate scenario, that would be very good for net interest margins (NIM).

Within the NBFC (non-banking financial company) space, I would bet on companies like Bajaj Finance, which are extremely well-placed in terms of raising deposits. If you look at their quarterly results, the main number they’ve highlighted is the kind of deposits they have raised.

At some point of time when the net interest margin of the industry as a whole will come under pressure, companies with a good brand and a good resource mobilisation system in place will be the winners.

Coming to valuations, I think those are very attractive. I think there are no real concerns in the next two, three years in terms of growth. NPAs are well within control and a lot of the large finance-consuming sectors, like auto, real estate, infrastructure, etc., are doing very well. So the demand is also very strong.

Now about the real estate sector. Home sales is the best we’ve seen in many years. But then we also have high interest rates. How do you view the space overall? We have seen that upgrade coming in on Godrej Properties today, after a sharp correction in the month of Jan. Do valuations look attractive?

We're very positive on the sector on a medium to long-term basis. But one needs to be selective with real estate. While the last few quarters have been very good for the sector, you could expect a mild cyclical downswing. I think that has to be accounted for. The next two, three quarters may be a bit challenging for the sector as a whole, including for companies like Godrej Properties, Macrotech, and DLF.

We will see the base effect coming into play. Due to pent-up demand post-Covid, change in tax rules, etc., a lot of real estate sales were preponed to the last financial year. Therefore, one should build in a slight lull April onwards for a few months. With the interest rate scenario being a bit uncertain, you could expect a mild impact on demand as well.

Maybe you will see some correction over the next few months in real estate stocks, but that could be a great opportunity for entry. The sector as a whole is in an 8-10 year upswing. Once interest rates start to stabilise, maybe even drift lower, you will see demand pick up again.

There is a great requirement for good quality construction, especially in the affordable sector. Commercial real estate and hospitality are also picking up. So medium to long-term prospects of real estate are exceptionally good. But in the short term, for the next one or two quarters, I don't have very high expectations in terms of financials from any of the real estate companies.

Overall in Q4, which are the pockets or sectors you think would really outperform or surprise the markets? Leaving aside IT and banking, which names could surprise the street?

The entire engineering and construction space. Stocks like L&T, ITD Cementation, NCC, ABB, Siemens, Thermax – companies in the infrastructure and the capital goods space. They’re going to report exceptional numbers as Jan-March is usually very good for such firms because their clients need them to consume the budgets and finish the projects by March.

Their order flow also is also very strong because many government as well as semi-government agencies have March as the deadline for initiating new projects. Capital goods is a sector that performs at all times: the short, medium, and the long-term.

In this, the top pick has to be L&T. See the kind of orders that keep coming in. Unfortunately, the management doesn't disclose the size of the orders anymore. I suspect this quarter may be the best ever for L&T. And though I know that the stock has been outperforming, it still has a long way to go given the dynamics of the industry.