One should be a paranoid bull right now: Udayan Mukherjee

He also spoke about Advanced Enzyme Technologies and said that it is the kind of name that excites new investors. It doesn’t have a peer and that is what an IPO needs to be about, he said.

There could be occasional jitters but over all to have a peerless business with a global exposure is what the market is looking at in the pharma space.Below is the verbatim transcript of Udayan Mukherjee’s interview to Anuj Singhal, Latha Venkatesh & Sonia Shenoy on CNBC-TV18.Sonia: The two stocks ICICI Bank and Larsen and Toubro (L&T) reacting to their numbers today are barometers of the economy and these numbers leave a lot to be desired. What does that tell you about the texture of earning season so far?A: The marquee companies are disappointing. Some of the midcap numbers have been quite good as you guys have been listing so it is not like it is all bad but it is a very patchy. As you correctly pointed out the companies which are disappointing are sector leaders L&T, ICICI Bank, Dr Reddys Laboratories, Bajaj Auto. So, since the start of the earnings season the big companies, the blue chips and so many out of the 25 Nifty companies which have reported so far have disappointed and have led to earnings per share (EPS) cuts.My fear is that when we sit at the end of the season and we start totalling up those 50 Nifty companies you will probably find that earnings growth which one had pencilled in will need to go down unless there is a miraculous kind of turn of events over the next couple of weeks from the second half of the Nifty companies.So, earnings are patchy, there have been bright spots even last week like your Eicher Motors and Asian Paints and Zee Entertainment, so you can’t paint the whole earning season with one brush and say it has been all bad. However, I suspect that for the Sensex and Nifty the earnings season has not started very well. You can get down to granular details on that, but overall the feeling one is getting is that maybe the kind of hope that was raised by Q4 earnings will get deemed down a bit at the end of the first quarter and what was looking more like 17-18 percent earnings growth may at least on the early evidence have to be whittle down to something like 12-13 percent by the end of this season. It is early in the year for FY17 and this early in the year if you start whittling down earnings forecast then that is not a very good thing.Latha: Can you argue with the prices, can you argue against the liquidity? For the trader, would the advice be therefore don’t look at the valuations now?A: For the traders these things don’t matter and nothing is better proved then the market's reaction the Axis Bank numbers. Those numbers by all yardsticks fell short of the market expectations by quite a margin and look at the price responses as if nothing happened. So, that underscores the point that at this point, you have to just keep focusing on liquidity.It is not as a lot of people sound quite apologetic about this whole liquidity thing. It cuts both ways. We have all seen phases in the market where stocks are trading and the market is trading at 10 price to earnings (P/E). Yet because there is no liquidity nobody looks at stocks and stocks continue to languish for months, quarters, years on end. We have seen those phases as well -- the other side of liquidity, the ugly side of it. So when you get the good side of it then you shouldn’t complain because liquidity is intrinsic to the market. It sometime hurts the market, it sometime helps the market. Right now it is helping the market and one should enjoy the ride.So, for a trader he has no option but to be bullish right now if he is looking at the screen. I would only submit that looking at the texture of fundamentals if you are bullish right now, you should be a paranoid bull. You should not be a complacent bull because there are many pieces of the puzzle, which are not looking very comforting, which might lead to jolt somewhere down the line. It is thrilling right now. It is like driving very fast on a slippery road. It is giving you goose bumps when you watch the screen. However, you know that it is a risky game that you are involved in.Anuj: The other thing that stands out for last month in particular was that Nifty junior was up 10 percent. A lot of non-Index largecaps have given 30-40 percent returns backed by earnings case in point being Bajaj Finance. How should one approach some of these big winners where they have delivered consistently but valuations are looking quite rich?A: It is the later part which worries me a little bit. I take your point and as we started the discussion by saying that there have been many midcap earnings which have been very good of course because midcaps generally tend to have a much higher display of beta on earnings when they start raving up their engines because of how compressed their margins get in bad phases and therefore the sheer leverage, which comes into play makes their earnings look quite spectacular.My only problem Anuj with some of these names that you alluded to is that valuations have become so lofty to see a midcap company trading at 35-40 times. They are very volatile by the nature of their earnings. So, what the market is pricing in now there are two things, which are happening one is that everybody is talking about that 18-19 P/E multiple number, which is scaring a lot of people saying should we get into largecaps because earnings are not great, valuations are too expensive. Let us go down the ladder and look at midcaps where there might be some room for safety in terms of valuations.The other is that over the last couple of quarters many midcaps have displayed a fairly significant jump in earnings. So, a combination of improving earnings and this bottom-up approach style of investing, which is coming into play now with top-down looking more expensive, has led to a tremendous valuation expansion in many of these midcaps.That still remains the place to be as you said because that is what is making the money over the last few weeks. However, at some point or in some cases you need to be ultra-careful about valuations because some of them are making even largecaps blush.Sonia: That argument holds for the largecaps as well. There is not much room for safety even in some of the good performers in the largecap names like Asian Paints, Ambuja Cements etc but these are companies that have delivered on earnings quarter after quarter. What do you do with names like these?A: You can't fault in Asian Paints and I have been a big fan of that name for many quarters and years but they consistently deliver and on increasing basis you continue to see double-digit kind of growth. However, 50 times at some point you draw the line and say, for people who own these companies long-term investors they should continue to own them. Sometime these stocks will get too expensive and then they will just flat line for two to three quarters because valuations need to catch up or earnings need to catch up with valuations and they will do nothing, which necessarily does not worry longer term investors.For traders, if you are getting in at 50 P/E after a big set of results then there could be chances for disappointment. So, the game for long-term investors, for good quality businesses, is the same. It is being patient, it does not matter if the stock get too expensive from time to time they will catch up, they will pause and then they will go up again. Over a multiyear period, these phases of consolidation don’t matter so much.However, since a larger part of the market is more trading oriented, which is many of your viewers -- for them highlighting the kind of valuation expansion which has already happened in some of its high quality names very good numbers not withstanding I think that point needs to be underscored.Latha: A last word on valuations. I don’t know if you did this number crunching. How are other markets looking in terms of valuations? We always stood out, we were given accorded higher discounting but are we outsized or are all markets are as gung ho as we are?A: It is an emerging market phenomenon. It is important to understand that the liquidity, which is taking our stock higher is taking all emerging markets higher. The MSCI Emerging Market Index is trading at 14 P/E. Its historical average is 11. We are trading at 18 P/E, our historical average is 15. So, MSCI Emerging Markets are trading at 25-30 percent premium to their historic averages; we are trading at 25-30 percent to our historic averages. So all boats have been lifted by this liquidity tide.Sonia: We have a new listing as well Advanced Enzyme Technologies, it is expected to be a cracker of a listing today but how would you approach that stock?A: It is just a kind of name, which would excite the imagination of new investors because it has got uniqueness to it. We were speaking about Larsen & Toubro Infotech the other day and I was telling you that it is bread and butter kind of business, commodity style and that is not the kind of business which will lead to sparks in the market on listing.This one is quite different; you don’t have a peer that is exactly what an initial public offering (IPO) needs to be where you get a new flavour coming into that market. Now, of course the Enzyme business is more volatile than the regular pharmaceutical business, so you will get the occasional jitters in a particular quarter or even in a year as they saw a couple of years back. However, overall to have peerless kind of a business going with a very large global exposure is something which the market is looking at in the pharmaceutical space.The nature of the story is such that it will command the valuation premium to a fairly vanilla kind of a pharmaceutical business like a Cipla. So, I would be a surprised if Advanced Enzyme did not settle in a P/E band of something like 25 to 30 times. Ekta Batra tells me that she is expecting Rs 45 earnings in FY17, if you multiple that by 25 and 30, I think you will get somewhere between Rs 1,150 and Rs 1,300-1,350. So, my expectation would be that the stock would stabilise somewhere in this band of Rs 1,150 to 1,350 which is a 25 to 30 P/E multiple band. Then people will watch earnings over the subsequent quarters to see what they can demonstrate in terms of stability of earnings and growth. However, this one trades at a premium to the sector.