It was nothing less than a meteoric ride for stock markets in general. For a market where three months ago we all thought things were going to go down and valuations were expensive, the bulls’ comeback is strong and unreal. Do you think bulls are here to stay? Can the market capitalize on these gains?
In a way, it is the market that has scaled the wall of worry. This year we have seen all the negatives and the markets continue to rise, especially the Indian market. The key question to ask is whether we would see even more upside. On the global front, we have seen something of a rally against concerns about rising US interest rates and how entrenched the terminal rate will be and clearly is now.
It remains to be seen how long the interest rate will continue to rise and what the impact on the economy will be. We won’t know until the next calendar year. In terms of the downturn, the impact on earnings that we will see over the next calendar year. This will boost global markets and to some extent it will weigh on our markets. But looking at the profits that have been made in this quarter, earnings have been mixed, but overall the growth outlook remains relatively intact.
We’ve probably seen a few percentage points drop in earnings growth, but that’s still in the 1950s. Given that, as we move forward into next year, we’re still expecting earnings growth double digit profits. If this is the scenario, the markets will continue to rise.
There will be periods of volatility and we will see some corrections next year. Initially, there would be some correction, but as the situation becomes clearer, the market clearly seems to be trending higher going forward.
“ Back to recommendation stories
I like to draw your attention to finances. Each fund is overweight financials and this has worked very well for investors and fund managers. Right now, after the recent period of outperformance, could financials now underperform or just stay on the sidelines?
Financial services was one of the reasons markets performed so well. Over the past three months, this has driven the market rally and rightly so. We have seen very high numbers from banks and this has happened in retail banks, private banks and also PSU banks. So, at least for the next two quarters, we see good growth due to the expansion of margins thanks to higher interest rates. This will benefit the next quarter or two. Obviously, the challenge is that deposit growth is lagging behind overall asset growth and this could start to differentiate banks that have good liability deductibles. These banks would likely do well in a rising interest rate environment in terms of protecting their margins. So given the fact that credit growth is still quite strong – in the mid-teens – and the fact that the trajectory of margins is still up and the overall cost of credit remains low, at least in a foreseeable future, I see no reason why the banks wouldn’t do well.
As a basket, NBFCs could come under some pressure as we have seen that in a rising interest rate environment there has been pressure on margins but as some of the assets are known fixed assets they will begin to reassess over the next two quarters. So that should take care of that.
I remain positive on all banking and finance. This is one of our thematic calls. If someone wants to have a two or three year view, this is a good thematic call to invest in through some of these BFSI banks and sector funds.
Outside of the list of financials, given the type of turnover that takes place in each sector and given that new themes, capex particularly seems to be the solution with the market at the moment, starting with banks, construction, capital goods, defense and now also railways. Where in these pockets do you have a conviction to buy?
On capital goods, for many years we have hoped that capex will return. Finally, it’s coming. Companies have seen their order books improve over the last two quarters. In this space, it’s the smaller engineering firms that fare much better.
Very large investments in banknotes are still a long way off. This will take time in the current context where there are some concerns about growth. It might be a little postponed, but small engineering companies are doing just fine. Sectors like defence, for example, where the government is really focused on improving local procurement, are seeing good traction.
We have seen orders placed with some of the domestic companies and the outlook remains quite strong there. We have seen a few of the companies in the capital goods sector receiving orders from the European region due to the disruption that some of these companies are seeing in Europe and are considering outsourcing from other markets.
Many of these European multinationals have operations in India and seek to source from India. Since the costs in the European region are now increasing dramatically, a few companies are even considering relocating some of their manufacturing to India. Given this scenario, while the overall recovery in investment is still going to be slow and subdued, the outlook for the sector, and in particular for something related to defense and to some extent railways, is good and in specific areas, orders are beginning to improve.
The main concern will be the valuations that these stocks have overshot and to that extent one needs to be slightly cautious about the visibility of growth a bit longer term.
Do you think it’s worth looking at some of the specialty chemical stocks, anything in the media or even in the cement business?
In some sectors, there may be short-term challenges due to the current global environment. We need to look beyond that and take a longer term view. In this context, I would say that even though the specialty chemicals sector has been under some pressure on margins in the short term due to supply-side disruptions, rising raw material prices and, in a some extent, some slowdown on the European side, we strongly believe that in the longer term, we have seen many businesses in the European region view their costs as very high.
They are looking to outsource much of their manufacturing outside of their region and Indian companies stand to benefit greatly in the coming years. India still holds a small percentage of the global chemical export trade and this percentage may increase. So this area looks good. Also in cement, after the recent last quarter, we have seen pressure on margins. Inflation on the cost side is now starting to subside and the recovery in demand has been fairly steady.
This sector therefore seems good to us from a medium-term perspective. Apart from that, there are the takeover games in the airlines and the hotel sector. Demand is still quite strong and this will continue over the next few quarters. I think discretionary spending in the travel and hospitality sector should work well.
Are you not so optimistic about the pharmaceutical pack anymore?
The pharmaceuticals sector has been more stock specific for us. There have been headwinds in the pharmaceutical sector on the side of American generics. We see that pricing pressure had eased a year ago and domestic pharma companies still look pretty good. We like the domestic pharmaceutical space more.
Export-oriented companies, which are now moving up the specialty pharmaceutical value chain, will be able to better maintain the price environment and margins. So while there’s not a big tailwind for the sector coming out of the US on the export side, it’s always going to be a stock-specific story for us and there’s always that risk of issues with the ‘USFDA, factories being inspected where there are warning letters so the risk remains, but the national pharmaceutical industry has a higher allocation for us. On the export side, it will be more specific to stocks.