Mukherjee says the early trends of the first quarter earnings season seems to indicate that the Nifty may struggle to log a 25 percent earnings growth for this financial year. That is because there are hardly any sectors capable of delivering huge earnings surprises
The recent rally has been driven by a handful of stocks, but this trend cannot sustain, says Udayan Mukherjee, consulting editor, CNBC-TV18.
“I give this kind of a narrow market no more than 8-12 weeks. Either the market will correct or the rally will spread to midcaps and small caps,” Mukherjee said in an interview.
Mukherjee says the early trends of the first quarter earnings season seems to indicate that the Nifty may struggle to log a 25 percent earnings growth for this financial year. That is because there are hardly any sectors capable of delivering huge earnings surprises.
Mukherjee spoke on a range of issues including interest rates, macro indicators, FII flows, rupee and portfolio positioning.
Edited excerpts of the discussion:
On the earnings season so far:
It is a bit worrying... remember how the fourth quarter earnings season played out. The first week was very good. Then the bad earnings started coming in. By the end of it, we were left with a 6 percent growth in topline. This quarter started off in grand style with TCS... the numbers were excellent, and then the disappointments started coming in.
This early in the quarter, you do not see disappointments. After TCS, the numbers for Wipro, Mindtree and Infosys were not great. Private banks almost always deliver on expectations. But this time, numbers from marquee names like Kotak Bank and HDFC Bank were insipid, and there were no upgrades after the results. Something similar was the case with Bajaj Auto as well where you saw pressure on the margins.
This is not to say that the earnings season so far has been all bad. Numbers from consumer-facing companies like Bajaj Finance, Bajaj Finserv, Bata, Havells and Ceat were good. By the of any earnings season, the numbers are mixed. But so far, other than TCS, we have not seen a meaningful upgrade in any of the large-cap names. It worries me that at the end of Q1, we may not see the kind of growth that most people are pencilling in, which is around 20 percent.
On the outlook for the IT sector:
Outlook on the IT sector has improved marginally, but the valuations have rerated even more aggressively than the mild change in growth outlook. The fact that companies like TCS and to a lesser extent, Infosys, has talked in more positive tones about FY19, has led to stocks rallying 30-40 percent even for the large caps. Also, the rupee-dollar equation has helped IT companies. But this will not be a one-theme-suits-all-companies type of a story.
Wipro's numbers were disappointing, and so were Mindtree's and Infosys's. It is pretty much a mixed bag in the IT sector. But IT, along with private banks and consumer is the space which is attracting most of the capital now, so you could see stocks holding up.
On the narrowness of the rally:
It is the narrowest bull market in recent history. It is almost like 15-20 stocks are in a bull market and the rest are in a bear market. This kind of dichotomy usually does not last too long. You have a market that is zoning so narrowly into a few quality stocks that at some point something will give. I give this kind of a narrow market no more than 8-12 weeks. Either the market will correct or the rally will spread to midcaps and small caps.
Mutual fund managers say they are struggling to beat the index. That is because if you don't own the seven best-performing stocks in the main indices, you are underperforming. This year, an investor in an index fund has fared the best, because the Nifty has been so hard to beat.
Portfolio management services people are unhappy because midcaps and small caps have taken a pounding. FIIs are not bullish on emerging markets and they are still not comfortable with the valuations of Indian equities, so they are also selling. So it is a strange market, where the Nifty is pushing towards new highs but most people are not feeling happy.
On the probability of a rate hike in August:
Chances of the RBI hiking interest rates in the August monetary policy are high. If not in August, then in the policy meet after that. Before the year ends, at least one, or two more rate hikes are coming for the Indian market. And that is one more reason why the midcaps and small caps are not doing well. When crude prices are high, the rupee is weakening and interest rates are inching up, midcaps struggle.
Large caps are able to handle the situation better. As the margin pressure at Bajaj Auto shows, the jostling for market share is getting tougher. You can see it in the commercial vehicles space as well. To add to that, the cost of capital is going up.
So the profit margins for corporate India may have peaked during this quarter. That will have repercussions for overall profit growth in FY19 even in a rising revenue scenario. I am not in the camp which feels that corporate earnings can grow around 25 percent in FY19. I expect it to be around 15-16 percent or 16-17 percent. And that will be a disappointment given the valuations we are currently trading at.
On the rupee:
Much of the depreciation has already happened, but it could gradually drift closer to 70 (to the dollar). Over the last few days, the dollar has been weakening and that has led to a pullback in emerging market currencies, including the rupee.
But going forward, given the way our current account deficit is positioned, given the expectations with regard to the dollar in the US, the rupee could remain locked in the 68-70 range for some time. A large part of the depreciation is over. But that does not mean that the impact has played out completely, because if the rupee remains at 69-ish, companies will have to deal with that exchange rate even if the volatility abates.
On FII flows:
There might be periodically some ‘trading’ FII money that comes in, which typically either ETF money or money is coming into Nifty futures trying to chase some kind of near term returns. It is not clear if that is because the dollar index has weakened and FIIs are sensing some kind of recovery in fallen emerging markets including India. But the long term investors are reluctant to commit more money to emerging markets in general, in the current global context of trade wars and a strengthening dollar. But they may take strategic long positions from time to time.
On Kotak’s warning about the value of the collateral pledged by SMEs with banks, and the outlook on banking stocks:
Uday Kotak is usually very prescient about these things, and more than once he has been proved right. But I don't think that would be a relevant consideration for most investors who have already thrown in their towel over public sector banks. I doubt if people now own significant quantities of PSU banks.
There was a line of thinking around eight months back when recapitalization was happening that maybe the worst is over and PSU banks will do well. But since then, maybe greater sense has prevailed and at every rise, people are flocking to sell out of PSU banks. More worryingly, wrinkles have started cropping up even in marquee retail names like HDFC Bank this time, or even Kotak Bank.
When you talk about a 25 percent earnings growth for Sensex or Nifty for FY19, you will need earnings surprises. Where will that come from? Metals will report lower earnings this year because globally metal prices are coming off. So if metals don’t deliver earnings growth, and even dependable segments like private banks don’t deliver earnings surprises, how can you get 25 percent earnings growth in the Nifty? That is something I worry about.
On the fiscal impact of GST rate cuts:
From a macro perspective, you need to be concerned. But from a micro perspective, the market seems to be enjoying it. At least in many of the consumer-facing, rural facing companies because the market is sussing out that this is the last home run before the elections and the government is throwing everything at it. And you can already see the government doing it.
Regardless of the fact that GST collections have been subpar, the government has gone ahead and cut more GST rates. Is that a threat for the fiscal deficit situation? Most certainly it is. Is it going to worry the RBI when it meets in August to review interest rates? Most certainly so.
But the stock market may look at it in two ways. An investor may say: I can now play the rural theme till the elections. I may play some of the consumption facing stocks because they will benefit from GST cuts, but I should be cautious about rate sensitive stocks, because of fears over fiscal deficit and interest rate hikes.
On the portfolio positioning for the rest of the year:
This year is about preservation of capital and focusing on quality. And that is exactly how the script is playing out. Investors want just safety and they want to buy the seven or eight stocks that are doing well. If you do not want to do that, it may not be a bad idea to buy an index fund and stay put. Index funds have been doing well in a narrow market scenario.So this year, you can hide in an interest yielding instrument, be in an index fund. I still don’t think the time has come to be adventurous about midcaps, small caps or aggressive portfolio management schemes. This trend may last till the global situation gets a bit clearer. Or it may last till the verdict of the 2019 elections. Stick with quality even at the cost of buying into the quality bubble.