Pharma a no-no, but banks pass the test for Prabhudas Lilladher

Despite pharma stocks gaining momentum, R Sreesankar of Prabhudas Lilladher holds a negative view on Lupin, Dr Reddy's, Cipla and Sun Pharma.  He maintained that pharma companies like Glenmark and Aurobindo will continue to face challenges. Among the steel players, he has a strict no on Tata Steel, but finds JSW Steel and JSPL an attractive investment. He is bullish on banking names like HDFC Bank, Kotak Mahindra Bank and IndusInd Bank. "We do not expect to see a huge amount of credit cost coming for these three banks in the near term. If they continue to grow with same pace, their earnings growth will be stronger, credit cost will be lower, RoA and RoE will remain firm," he added. He is positive on SpiceJet and the entire aviation sector. With no reckless addition of aircraft, he expects the basic cost (crude oil) to not increase. He also expects passengers growth to increase by 20 percent.Below is the verbatim transcript of R Sreesankar's interview to Anuj Singhal and Ekta Batra on CNBC-TV18.Anuj: The story of the last few days has been in pharma. How have you looked at this whole situation of pharma stocks bouncing back and what are your favourite picks in the space?A: We have had a negative view on the big four, Lupin, Dr Reddy’s, Cipla and Sun Pharma, while our preferred picks have been Glenmark, Aurobindo as well as Jubilant Life. So when you look into this environment, yes Lupin has done a sharp rally following the Goa plant news of food and drug administration (FDA), so from a more point of view our fundamental thought process has not changed.We still continue to believe that the big pharma companies are going to have who are focussed on generics exports especially to the US is going to face headwinds and got challenges out there, that has not changed. So, if you expect that this kind of rallies or this kind of news in news flow has changed our thought process no, it has not.We continue to stick to our conviction and ideas like Glenmark and Aurobindo where the approvals and especially on the new approvals where we think the profit margins are going to be on the higher side and it is going to contribute much more as well as Jubilant as a stronger ideas, which is more convincing for us than the other ones.Ekta: Tata Steel if in case there are these hurdles or maybe the UK asset sale could get delayed or postponed whatever the case might be, would you have a further negative view on the stock or would you still buy it, what would your thesis be in case that does come through?A: Whether the issue of they are able to sell their UK plant or not is secondary. Do you like Tata Steel if that question is coming from there, the answer is no. It is not a part of our topic, but among the steel stocks what we like is JSW Steel and then that followed up by probably JSPL.Anuj: Among banking your picks have been HDFC Bank, IndusInd Bank and Kotak Mahindra Bank. Do you think these valuations are sustainable in some of these retail banks and would you carry forward this position?A: See, if I look it from say June 1 till June 30, for one month, HDFC Bank, Kotak Mahindra Bank has underperformed the broader benchmark. Now what our thought is a lot of PSU Banks have done very strong rallies, probably 30-40 percent from the lows that they have achieved during the period. What our recommendation is we do not expect to see huge amount of credit cost coming for HDFC Bank, Kotak Mahindra Bank etc., in the near term and if they continue to grow at the pace at which they are growing, their earnings growth will be stronger, their credit cost will be lower, their return on asset (ROA) will continue to remain firm, so is return on equity (ROEs), they will continue to be the bellwether stocks or the must hold in the portfolio stocks. We do not see that changing.While many of these public sector undertaking (PSU) banks etc, from the beaten down valuations, more it is going to be punt, where you have taken a chance, you have seen these stocks moving up sharply and it will become trading oriented stocks.The reason is where the more we look at it, the ability of many of these public sector banks to grow will be severely handicapped because of the capital adequacy of many of these banks are low. If the private sector banks are growing not less than 15-18 percent to 20 percent the sector is growing around 8-9 percent, so if the sector is growing at 8-9 percent, we are expecting to see another anything above 15-20 percent kind of growth for the private sector banks of new generation private sector banks.If anyone of the PSU banks to grow at that pace, they simply do not have a capital to grow to that extent, so we expect the PSU banks to remain subdued and we expect these banks. Our assumption is that we are not going to see a sharp credit cost increase in HDFC and Kotak Mahindra Bank etc., to continue to perform.Ekta: From the aviation space you like SpiceJet. There is more fundamental news of them turning around, first television campaign since what they went through in 2014 and overall for the aviation sector there are some experts who believe Jayant Sinha in civil aviation might be a fundamental positive for them, your sense SpiceJet why do you like the stock, target price.A: We have continued with our stance that aviation sector, the way we look at banking, the way we look at aviation, we got a fundamental reasoning for it. While in the bank we look at it in saying that the two things which needs to be very clear is a strong liability franchise as well as an underwriting capability.In the aviation sector what we look at is a strong growth in passengers that’s number one and also your basic cost which is the crude price linked aviation turbine fuel (ATF) at the end of the day should not see a substantial increase or even if it increases, your ability to pass it on and that depends upon the demand/supply equation in terms of aircrafts within the country.So, I think in all the three cases as far as aviation is concerned is favourable. You have a passenger growth still coming at around 20 percent which is quite strong and you are not seeing reckless addition of aircraft i.e. supply of seats, which effectively means that your load factors in the airline industry still continues to be quite robust. If I am not mistaken SpiceJet is around 92-93 percent well over 91 percent. So this kind of numbers gives us the confidence that things are here to stay.Now the caveat though they are the biggest if for this entire sector is, what if tomorrow crude goes to USD 60 per barrel or even USD 60-70 per barrel levels or if what happens at that point of time and that is the question that we need to address, because that is when you start looking at in a different manner your entire portfolio of recommendations, because our call today is commodities are bound to remain at low levels. You are not going to see a sharp rally in commodities. If commodity starts to rally, now the question that you asked earlier about though even in steel, then you need to have a relook at entire steel, aluminium and everyone of those commodities and the usage industry of those commodities etc. So the way we look at the entire portfolio of recommendations will be different.Anuj: The couple of other names that standout for me are Cummins and Sadbhav Engineering. Why you like these stocks at current levels?A: I don’t think that we have Cummins at the latest one. Though we like Cummins, it has been an accumulate for us in the top, it is not part of topic.We like Sadbhav, we like Larsen and Toubro (L&T) in that entire space. The reason is it has got its capital, it has got the asset based company also listed, so I don’t think that these companies have got from the engineering, procurement and construction (EPC) space or the infrastructure space capital requirement for it to grow. Capital is not a constraint for it to grow, it has already got its capital. Their projects are going on schedule and working at the level it is expected to. We continue to believe that there is a scope for certain companies within that particular sector in the infrastructure space especially, which are asset owners as well as contractors to do well and Sadbhav clearly comes among the top.