There is an imminent fear in the market on back of slowdown in corporate earnings and economic growth. Market could revisit the 7700 levels, Rajat Rajgarhia, MD â€“ Institutional Equities at Motilal Oswal Securities said.
India currently is been singled out by investors because of the outflows seen in recent time, believes Rajat Rajgarhia, MD – Institutional Equities at Motilal Oswal Securities.
There is an imminent fear in the market on the back of a slowdown in corporate earnings and economic growth. Market could revisit the 7700 levels, he said.
However, Rajgarhia believes that demonetisation will bring informal industries into the formal system and financial system, too, is expected to become stronger.
Market with a cash component will suffer. Some companies - like HDFC, Infosys and L&T – always come through issues, he said adding that they could be used to hide in the current situation.
Focus should be on large caps than midcap or small cap stocks for now. Markets have more fear about FY18 earnings than FY17 numbers, Rajgarhia said.
Below is the verbatim transcript of Rajat Rajgarhia’s interview to Sonia Shenoy & Latha Venkatesh on CNBC-TV18.
Sonia: It is just bad news galore in this market. First it was demonetisation; we had a whole host of global cues to reckon with and now the latest news flow about how foreign portfolio investments (FPIs) could be taxed. What is the sense you are getting about the direction? Do you think the market direction will continue to be on the downside at least up until the Budget?
A: Right now India is just being singled out by investors in terms of significant outflows that we have seen. Just in this quarter till now we have seen net USD 4 billion of selling just in the equities, bringing down the total year inflows to just about close to USD 3 billion. That is very low and the market is kind of reflecting that.
We are into a fearful environment where even if news may not be true to an extent, the damage that that noise creates is significant. But the core of this entire fall is the near term pain or the near term slowdown that we are seeing in the economy, in the corporate earnings which the market is just trying to adjust to right now. Whether that near term is one quarter, two quarter or three quarter that is what market will try to figure out but right now that fearful environment is what is knocking down the market and the stocks down.
Latha: Your note has one very interesting line - demonetisation is an unprecedented reform undertaken. This is going to have a bearing on the investment frameworks in the near term and could drive several changes in portfolios - could you flesh that out what would be included, what would be excluded because of what you say a change in investment framework?
A: This whole concept of bringing a significant part of the informal economy into the formal mode is going to create a lot of changes. Second, we are going to see the formal financial system getting far stronger than what it has been into the sector. Third, there always has been significant amount of purchases or even in the high ticket consumption where cash component has always been pretty significant. We are basically trying to articulate that many habits in this country will undergo a change if this trend were to persist and because of those changed habits investment portfolios or investment frameworks will also change. So, that is what this note essentially refers to.
Latha: If you could just elaborate that therefore in terms of listed stocks? As you get the informal sector into the formal sector it is quite possible that some elements of the informal sector will die away because they are not used to paying taxes and that will eat up their margin. Therefore will somebody in the formal sector benefit, after all informal sector is not listed. So, who will be the beneficiaries in the formal sector?
A: In the formal sector first of all the banks which are very well updated on the digital framework, they will be able to take a part of the large wallet share spending which is going to come into the system. Second, if you just look at the amount of money which was lying at the average household they are well moving back into the banks in form of Current Account, Savings Account (CASA) they stand to gain out of it.
Third, some of the non-banking financial company (NBFC) where their expertise has traditionally been to assess a non taxpaying individual in terms of giving loan. Some of them will have to reorient their business models just to combat - if the formal system of lending is going to gain a larger ticket share then how do they cope up with it. Real estate, while it is a consensus that whichever market in real estate have a cash component of business that market is going to face challenges and then as the government keeps unveiling more and more measures as a follow-up to what they have announced on November 8, we will see more clarity on which sectors investors would like to focus on.
Sonia: Do you see this market revisiting the earlier Budget lows of around 6,900-7,000 because of this issue?
A: If you just assess that the market on a marketcap to gross domestic product (GDP) ratio goes back to the lows that we made in February 2016 then even at a 10 percent higher Nifty level the marketcap to GDP will go back to those lows because while absolute levels do matter in the mind of investors, whenever you talk of new lows one should look at the valuations. So, the 7,000 of February 2016 will be equivalent to the 7,600-7,700 of February 2017 just because of the sheer nominal GDP growth of close to 9-10 percent. So, we are not too far away from that. Whether the additional fear or more selling can take markets even below that then yes, in the near term anything is possible.
Frankly, I was surprised when the market touched 7,000 in the February 2016 also, but do remember a lot of global environment was also unsupportive then. Today globally a lot of markets are at their highs and India is still underperforming.
Latha: So, where do you go for refuge? At a time when you say that 7,600, which will be equivalent to 6,900 of February 2016 is possible in the very least, where do you hide?
A: First of all whenever you have times like this people typically tend to focus more on largecaps and midcaps as you were just mentioning earlier that the selling intensity in midcaps can take stock prices much lower. But more importantly there are companies which have always come out better. If you look at names like HDFC, Infosys, Larsen and Toubro (L&T), in all these cases we probably will be talking about whether the growth is 5-10 percent and not 15 percent, unlike spaces where you can talk about whether the growth will be minus 10 percent versus plus 10 percent.
Sonia: What about some of these sectors that have seen the biggest brunt of demonetisation, sectors like commercial vehicles (CV), cement, other auto companies is the worst already in the price and are there any stocks that look attractive now?
A: They are cyclical. So, they will always tend to overreact. Till about six months back cement was the most consensus trade. Largecaps at USD 230-250, midcaps at USD 100-125; at least that valuation froth is over into these names now.
Some of them are probably getting into a buy zone from a price point of view but from a time point of view maybe you would like to wait till sometime in February, see through the Budget and you maybe more comfortable buying them 5-7 percent higher but maybe into a more certain environment and also you don't know that 5-7 percent higher is from the today's price or from a price that they fall further in the run up to the Budget.
Latha: How much have your overall earnings growth been cut by and can you take us through the sectors that your focused funds are exposed to?
A: If you look at our research team's estimate compilation that was done just about sometime back, the earnings cut was very moderate purely because that more than 40 percent of the earnings are non-exposed to the domestic business. So, these are essentially commodities, technologies, pharmaceutical, oil and gas, etc. So, there the earnings have been relatively resilient.
On the remaining 60 percent, we have seen some cuts but those cuts have not led to an aggregate cut of more than 2-3 percent for this fiscal year. However, what market is going to be fearful about is FY18, not so much about FY17 now because FY18 estimates -- and I would like to give benefit of doubt to most of the sell side estimates here that FY18 estimates still are very high at about 18-19 percent because we just don’t know how much further decline to moderate because of this slowing down in the near term into FY18.
A: A lot of them are discretionary where suddenly in Q3 once you see footfalls down by 5-10 percent, these are the spaces where you will see a decline and whenever you have a decline in the volumes, the negative operating leverage comes and does a damage to the EBITDA much more for many of these companies.
Latha: TTK Prestige and Bata, they are relatively cheaper priced durables, isn't it? Pressure cooker, you would buy if you need it, wouldn’t you or even for that matter the Bata level of slippers, largely Hawaii chappals and walking shoes or even school children going shoes, even those would be affected, those are necessities I thought?
A: While a lot of the items are necessary, in each of these items there is still a discretionary element which is always there. I think just because of the sheer crunch that we have seen in the circulation of money in the system, you will see a couple of months of disruption in most of the discretionary items.
Sonia: One final word from your end on what the Motilal Oswal view is on the possibility of the long term capital gains tax and even if that doesn’t come through, some taxation changes for equities in the Budget like the short-term capital gains rate going up or the holding period going up, if that does come about, how do you see the equity markets take it?
A: Right now we do not have any view on what is going to happen because this is something as recent as a Saturday event when the noises have started coming around but I think any such event if it happens, the market will typically tend to discount it on the run up to that event given that every news channel, every media is talking about it and that is the level of fear that we are seeing.
I think once that event is out, the focus will start shifting back whether the earnings is coming back or not. However, these aspects will get discounted well before February 1. After February 1, the focus will be where the growth is.
Latha: What is actually the dealing room chatter now, are not retailers phoning and telling you Asian Paints is attractive, Maruti Suzuki is attractive, buy it for me or is the dealing room chatter sell off, it is going to get worse, are high net worth individuals (HNIs) phoning and telling you sell off what is there, I will come back in February and decide?
A: The most important aspect from the dealing room that we hear and also reflected in the daily numbers that come is the average Rs 700-1,000 crore of foreign institutional investor (FII) selling. In that selling, you are seeing a lot of midcaps which are being sold and those midcaps typically tend to see a lot more damage because of being less liquid in times like this.
As far as the locals are concerned, I think their buying is right now just about matching the offshore selling. However, it is always the trend of the offshore buying or selling which decides the fate of the market and till the time you don’t see FII selling getting over, I don’t see this market right now finding support in the near term.The Great Diwali Discount!
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