The market has been remarkably mature about the rupee/dollar. In part it thinks that the depreciation in the rupee versus the dollar is not as alarming as what it is in other emerging markets.
With India's economy expanding to an over two-year high, clocking 8.2 percent in the April-June quarter, Udayan Mukherjee, Consulting Editor, CNBC-TV18, said that GDP numbers would probably get back to the 7.5 percent going forward. In an interview with Moneycontrol’s Santosh Nair, Mukherjee noted that the fiscal deficit was a problem not only because of crude oil prices, but due to GST collection being continuously under shooting expectations.
Following is the edited transcript of the discussion:
Q: What do you make of the macro picture? On Friday you had strong set of gross domestic product (GDP) numbers, 8 percent plus. But at the same time you also have concerns about the fiscal deficit overshooting targets and also lower than expected Goods and Services Tax (GST) collections and weak set of core sector data for the month of July?
A: The GDP numbers are encouraging and they certainly surprised a bit on the way up. But as we roll into Q2 and Q3, the numbers without the base effect will probably get back to the 7.5 percent kind of a ballpark. It could be 7.6 or 7.4, but broadly we will come back to the 7.5 percent handle, which is in line with market expectations. It is not a bad number, but it is not a huge number like 8 percent plus because there was such a big base effect because of what Q1 was like in the previous year.
You are right in pointing out that there are many other macro concerns which are surrounding this GDP number and the twin deficits are the bigger problem. While we keep talking about the fiscal deficit, the current account deficit (CAD) is the one which is probably what one should be focussing on now, particularly because crude is not sticking at lower levels. It had corrected but was quick to bounce back to the previous highs once again. And if the problems in the Middle East persist, it is quite conceivable that crude will sustainably trade above $80 a barrel and that is not good news for the current account deficit or the rupee/dollar which is already plummeting to new lows every day.
The fiscal deficit is also a problem because not only crude but GST collections being continuously under shooting expectations. So, we have a deficit problem, we probably have the prospect of Reserve Bank of India (RBI) moving as early as the October meeting with another rate hike. There are these concerns which the market has to grapple with in an election year and therefore our macro on balance is still a bit on the shaky side.
Q: On top of it you also have valuations which are beginning to look pretty expensive now. So, what is your outlook on the market in the near term?
A: Frankly, the 1,000 point Nifty rally over the last couple of series has been a bit surprising to me and it would have surprised most people on the street. So, now after such a big rally you are hearing a lot of the leading brokerages, Foreign Institutional Investors (FII) brokerages coming out with cautious notes or even sort of scaling down their India weightages by saying that India's premium valuation compared to other emerging markets (EM) is becoming unsustainably high and that is a fair point.
However, at such points you will remember in the past when markets are in a momentum spree and there are lots of reports on valuation concerns the markets often sort of twist the knife into the sceptics or scepticism and rallies in the face of this kind of caution and that may well happen here because momentum is on the way up. That is very visible for all to see. There is no case for traders to be short from looking at the screen, because every dip if bought is making money for traders. Therefore it is quite conceivable that despite all this stock of caution the Nifty rallies up or rushes on to about 12,000 in the near term which will be a huge achievement in the current environment that we are trading in.
So, there is caution which is justified. But at the same time there is momentum and usually momentum wins over caution as we have seen many times in the past. But the risks are rising because valuations are quite elevated, there are lots of risk factors, macro and micro which is swirling around in the horizon and from high valuation levels anything can be a trigger for a fairly significant correction.
Q: It is not always that you see stocks rallying at a time when the rupee is weakening. What do you think is causing this divergence?
A: The market has been remarkably mature about the rupee/dollar. In part it thinks that the depreciation in the rupee versus the dollar is not as alarming as what it is in other emerging markets. We don’t have a panic out here. The rupee is depreciating as it should because the dollar is strong and the rupee’s fundamentals were in some kind of steady decline. RBI is managing the process weeding out some volatility in the market and the rupee is depreciating.
What traders and investors are doing, they are probably reshaping their portfolio allocation and assigning a higher weightage to the exporting sectors like IT and pharma. We have seen a spectacular rally or come back in the pharma index in the market. IT stocks have also done well and the market seems quite unruffled. Can this continue unendingly, I doubt that very much, because the market will have a threshold beyond which it will start to get very worried about the depreciation in the rupee. Is that level Rs 73 or Rs 75, I have no way of knowing. So, it is something which is important to keep on the horizon but for now the market has been remarkably well behaved about it.
However, having said all of this, the one sad aspect of the rupee, if I can say in that way is that FIIs are not making any money in India. This year the Nifty has rallied 10 percent but that has been taken away for FII investors by the rupee dollar. Therefore net-net if they are investing in the Nifty they are not making any money this year. This is probably coming in the way of significant inflows into the Indian market. So, if the rupee’s depreciation continues it will have to be the same case of domestic investors through their mutual fund flows holding up the market rather than FIIs imparting some momentum here.
Q: So what are your thoughts on sectors like IT and Pharma which are expected to benefit from a weak rupee?
A: They have already done well. Pharma started from such a low base. After three long years of underperformance that there is more to go on the way up. However, the NSE Pharma Index or the BSE Pharma Index is up nearly 25 percent in the last few weeks. So, the rally has been quite substantial out there and it might rally a bit more but the pace of the rise might slow down a bit for pharma stocks here because there has been some valuation catch up already and now more results or more earnings momentum needs to be demonstrated for these pharma stocks to rally more significantly from here on.
But I don’t see pharmaceutical stocks giving up gains or all their gains or going back to retest the lows that they started rallying from. What may happen is that after a while maybe another five percent from here or so the stocks might start consolidating. They might plateau out for a while and try and build a base for the next leg of the pharmaceutical rally. It is a space which traders and investors would still do well to keep an eye on, but after having rallied 20-30 percent in most cases the time for some consolidation has come.
In IT, Tata Consultancy Services (TCS) and Infosys valuations have expanded quite considerably now and they might move a bit more if the rupee depreciates further. But easy money has been made in these two stocks. The markets focus might now shift to the underperforming stocks in the IT space like Wipro as we saw earlier this week, or It could move to the midcap IT space where not only valuations, but there might be some greater earnings momentum as well in some of the better quality names in that space.
So, pharma more juice with some consolidation and IT maybe a pause in some of the outperformers and maybe a little bit more momentum in some of the midcap names there.
Q: We saw some good buying in banking stocks especially some of the beaten down public sector undertaking (PSU) names. Your thoughts on this sector? There was a report in the Business Standard today which said that a lot of lending by corporates in the first quarter, much of it in fact has happened outside the banking system.
A: My sense is that there is a little bit of a very fundamental shift which is going on in ownership of banking stocks. It stems from two aspects; one is that the biggest wealth creating space in the banking sector have been the retail private banks which is the HDFC, IndusInd Bank, Kotak Mahindra Bank, YES Bank, those kind of names. Having made so much money in that space and having seen valuations expand so considerably, given that in the next one and half years there is a significant management change in most of these names like HDFC, IndusInd Bank, perhaps even YES Bank.
Investors are feeling it may not be a bad idea to take some profits out of these outperforming space and look at the corporate banking space which is slowly emerging from the shadows of the retail banking space because the market feels that the non-performing asset (NPA) problems are behind and a new cycle might be starting for the corporate banks. Some part of it is already played, it is not a contrarian trend as I speak of today because some of these banks like ICICI Bank, Axis Bank and SBI have already rallied quite significantly from their recent lows. But the valuation gap is still quite enormous between corporate banks and retail private banks.
Therefore there might be a consolidation because the rally has been sharp in corporate banks but investors should be cognisant that there might be sort of a fundamental, philosophical shift in the approach to the banking space from one to another.
Q: How do you look at auto stock? Car sales volumes have been down for the second month in a row?
A: There are some near term factors like Kerala (floods) which might be affecting sales of companies like Maruti Suzuki on the margin. So, one needs to be cognisant because it has been a big disaster out there and therefore a few monthly numbers might come in a bit on weaker side. Will the market be terribly ruffled by it? Perhaps not.
The focus is on commercial vehicle because there the numbers for the last couple of months have been good and from there the stock has started to bounce back. One needs to monitor Tata Motors’ numbers very closely because that is the stock which has been thrashed out of shape and any good news can bring relief to that counter.
In two wheelers Bajaj Auto is locked in a market share grabbing game. This current month’s numbers have also been quite good. But we need to see what the margin sacrifices are in the two wheeler space.
In the rural facing auto space that is quite good because tractor numbers have been coming in quite smart over the last few months. So, commercial vehicles, tractors those are the spaces to look at very closely in the auto space now.
Q: You mentioned a short while back that the market is not giving any clear signals that it is probably time to go short. How does an investor look at some of these midcaps which have rallied quite sharply from the lows? How do investors in general play this trade?
A: It is a difficult time for investors. While there is momentum in the market and the market is hitting new highs almost every week, you also have at the back of your mind the feeling that valuations have expanded quite a bit. That you are sitting on a 10 percent rally over the last couple of months which came out of the blue and surprised a lot of people and therefore to make a fresh investment call at this stage is a difficult one.For traders it is easier because they are not taking a very long term call. They are momentum players. Right now the momentum is saying we need to go higher. If that momentum gets broken and there are signs of a correction then traders will change their stance on the market. But for investors it is a little difficult right now to make up their minds and whether to put fresh money to work given the enormity of the rally which has happened already. So, as I said it is not time to decisively go short but it is a difficult call for investors equally to commit very large sums of fresh money to work after such a powerful rally.