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Journalism of Courage
The equity markets have moved with caution since the beginning of this calendar. Trading in a range for almost couple of months now, the markets are waiting for events like election on the local front and tapering on the global front to materialise before they can move ahead. Harsha Upadhyaya, CIO-Equity at Kotak Mahindra AMC, tells Sandeep Singh that the upside from the current levels is significant for investors as markets currently are on a discounted levels. Excerpts:
How do you see the markets right now?
Retail investors see market in terms of levels and feel that they are back at the same level as they were in 2008 and that this is not the time to invest in equities. But if we see it in terms of valuations then clearly they are 35-40 per cent cheaper that they were at its peak in 2008. The PE level that was then at around 25 is now at around 14 and is even lower than the 10-year average. In the interim, the earnings have grown and so there is support to the market. That is precisely the reason why even though there is negative news, the market does not come below a certain level. Similarly, on the price-to-book value, it is at 2.4 down from 4.2 in 2008. Even on market cap-to-GDP ratio, which FII’s look to compare among various markets, is at a 10-year low.
What is your expectation on earning growth over the next couple of years?
We are looking at a 13 per cent CAGR (compounded annual growth rate) between FY13 to FY15 which is certainly higher than the 7 per cent CAGR that we witnessed in the last five years.
Where do you see the opportunities?
In the last one year, while Nifty and Sensex gave positive returns, the broader market did not participate and that is where the opportunity is. Mid Cap stocks are trading lower in terms of valuations. There is also a disparity in the way how some sectors have moved and how different segments of the market have moved. Defensive sectors such as pharma, consumer durables and FMCG are at price-to-earnings ratio of 27 even today. However, the non-consumer and non-healthcare basket is at a PE of around 12. So clearly, the market gave premium to some sectors and these were the sectors that generated double-digit earnings growth over the last 2-3 years. But this will change as opportunities will lie in other sectors and segments. Private sector banks are expected to do well. We are, however, cautious on public sector because of the NPAs.
How do you see cyclical sectors faring? They have been affected over the last couple of years by the slowdown in growth.
I think one has to be careful. Unless growth picks up and interest rates come down by 200-400 basis points, you won’t see the benefit in the cyclical basket. What has happened over the last few years is that they managed their cost levels and have therefore been able to maintain profitability but from here on it will be tough to maintain profitability without the topline growth. Either topline growth has to come back or they have to benefit below the EBITDA level and the interest burden has to come down. Interest burden increased significantly in the last six years. For the CNX 500 companies in 2008, one sixth of their EBITDA was going into interest but today that has risen to one third. That has to change and it will happen only if the interest rates come down.
Do you see a drop in interest rates and where will we see opportunities if that was to happen?
We are expecting interest rate cut to begin in the next six to nine months. However, the flow into corporate profitability will take a few more quarters. The basket will start to look good only when there is low inflation and lower interest rate as that will fuel some corporate investment and that may happen after 6-8 months of the elections. Also in this basket, we will have to look at companies that have no balance sheet issues. We are more optimistic on the auto and auto ancillary rather than capital goods sector. After a long time we have seen no volume growth in auto sector and we know that it can’t remain so for long.
What are the negatives you see for the markets from here on?
Locally, it could be the elections. Unless there is a fractured mandate, markets should move in line with the fundamentals. Inflation can be another factor that may have an impact. Globally, while the initial reaction to tapering announcement has not been very strong, we will have to see how the market reacts to it. A positive election results (a clear mandate) will help the markets move to a higher level as there will be a re-rating.
How do you see FII flows?
Not much money has been taken out by FIIs from the equity markets even in 2013 when there were so many concerns. Even though the markets have been weak, it continues to be a better market for them. We expect the flows to remain strong.
Recently, the Delhi High court passed an order stating that the CAG can audit private sector telecom companies. How does it concern you as the argument that audit can be extended to all private sector companies that share revenue with government?
Yes, from a portfolio perspective it creates uncertainty. While it may not have an impact on the company finally but till the time things are cleared, there will be concerns. We have seen that happening in mining and oil and gas companies.
sandeep.singh@expressindia.com
