Indian Markets Poised for Consolidation Amid Mixed Earnings Season

Markets may get into a consolidation phase for next 3-6 months: Niket Shah

I would say that obviously allocation to defence moves up, allocation to rail moves up, because obviously it has significant impact on the rest of the economy."Fiscal prudence is paramount to this government in our opinion and from a sectoral standpoint manufacturing will continue to be a key focus area as far as this government is concerned," says Niket Shah, CIO, Motilal Oswal Mutual Fund. The big event everybody is watching out for is indeed the budget. So, we have to start asking you, what is the expectation from this budget? Which sectors are you keenly tracking or you are hopeful that the government should have their eye on, what is the sense that you are gathering? Niket Shah: So, while the anticipation is that this budget is going to be a little more on the populist side given how the election results have really transpired, our sense is that they will continue to focus on fiscal prudence. The 5.1% fiscal deficit number which is likely to come in FY25, can be positively surprised as far as the government is concerned. We do not think they will dial down on fiscal prudence. Fiscal prudence is paramount to this government in our opinion and from a sectoral standpoint manufacturing will continue to be a key focus area as far as this government is concerned. Yes, you should see some rural benefit or some stimulus being given to the rural sector as such, but nothing material. Because I think a lot of the freebies are already being given by the state government right now as we are talking wherever there are elections in the next few months. But anything specific in terms of sectors you are watching out for or one should keep an eye out on, if that capex story may continue going forward, then what is it that we should be keeping an eye out on because some of them have already seen a run-up. So, where is it that you should watch out for? Niket Shah: So, it will be more of the same. I would say that obviously allocation to defence moves up, allocation to rail moves up, because obviously it has significant impact on the rest of the economy. So, the government push on infra continues. My only thing which might be important to look at in this budget is their focus on export. So, till now, most of the manufacturing companies were making it for India. The government will really push where you make in India, but you now make for the world as well. So, that is an important thing to really watch out for in the budget. I want to know one thing, while obviously railway, defence side, we are seeing that the allocation will continue, everything will continue, but these stocks, look at any of the names doubling almost in one year, more than that if I may say for some of the names. Is not it a bit too scary to enter right now? What would you look at there or how can you enter at this level? Is it still value? Niket Shah: So, if you look at it from a defence standpoint, I would say the runway of growth is still very-very large. Most of the companies have very strong order books. So, the runway of growth is large but for sure the valuation for the sectors like defence and rail are definitely on the higher side, specifically on the rail. It is very difficult to make any logical conclusion of how some of these valuations have really gone through the roof. But on defence I think that the valuation is still reasonable in some of the larger cap names and the runway of growth continues to remain fairly large. As I told, the large part of the opportunity for defence is now looking at the export market which is another driver of growth which a lot of people have not factored in today. Definitely we had your take on the budget side, but earnings is something which drives the longer term growth and we are amidst of the earnings season as well. So, any sector that you believe that could be in for a turnaround and also I want to have your take on the consumption side as well because you just highlighted that there could be some steps, but in the last earnings season I believe that it was the re-rating sort of a thing that happened for the consumption pack. So, do you believe that this could be a story of the year maybe to look out for and what is your take on that? Niket Shah: So, the story of the year in our opinion is going to be IT. We believe that initial part of this year we said this year telecom will be the highlight of the year. Our sense is that we are getting into a situation where a couple of quarters down the line IT would really surprise all of us. We are significantly overweight IT, about 14-15% overweight position on IT is what we have made before the quarter really started. In fact, in last quarter itself, we continue to believe manufacturing will do extremely well for the next two to three years standpoint. I do not think that is slowing down either ways. And consumer discretionary, it is in a very sweet spot as well. So, these are the three things that we would really go overweight on. In IT also, specifically midcap IT, is that the bet or largecap also starts looking attractive now? Niket Shah: I think midcap. So, largely midcap and smallcap. Largecap, obviously, growth rates are far lower and midcap and smallcap growth rates are far higher. Some of the companies, obviously will be biggest beneficiaries of AI as you kind of see that rollout happening into next year. So, I would say that we would really stick up to midcaps and smallcaps. But given the movement in the markets, there has been no stopping. Just the last week I think that there was some turbulence, but even with respect to the budget and the earnings at least for today things are holding up well. But do you believe that there are some concern or there are some pockets in the mid and the smallcap end of the market where investors should be concerned or you believe that the valuations are a bit justified and India's long-term story is just intact? Niket Shah: So, I do not think the bull market has ended, but bull market is made of consolidation phases. Look at 2002 to 2008. There were seven occasions when market corrected by more than 10%, two occasions where market corrected closer to 30% and still for us that is probably the best bull market that we have seen. From an earnings standpoint we are clearly seeing slowdown in earnings. This quarter probably will be the worst earnings growth in 16 quarters. We are seeing 3% or 4% kind of earnings growth for largecap names and probably 5% to 6% for midcaps. So, we have started to see slowdown in earnings and in context of that obviously valuation in certain sectors continue to remain extremely elevated. So, like for example, look at manufacturing. Within manufacturing, there are multiple cuts. Of that, one of that is capital goods. We have taken a call that at 70-80 times multiple it really does not make sense. So, we have gone underweight on capital goods and overweight on IT where it looks like the tailwind is about to begin. So that is how we would navigate the cycle. But yes, from an earnings growth standpoint, it is quite concerning and we should get into a consolidation phase at least for the next three- to six-month period. But chemicals, that story has not played out in the last year and we were expecting that now maybe we could start seeing an improvement coming in in terms of the earnings, do you think that is a story that one could watch out for or maybe because of the global tensions and uncertainty you would still be wary of? Niket Shah: So, if you look at the chemical space, it is quite interesting because that is really transforming on the chemical side. In India, there is a lot of buzz on EV chemicals and semiconductor chemicals and so on and so forth. But our sense is that we would love to stay away from them for a long period of time. And the simple reason is China is expanding capacity for most of them at 2x in every six-month period. When you have doubling of capacity for most of them in China and the price erosion has been more than 50%, it becomes extremely difficult for large chemical company names present in that space to become viable at global scale. We would love to stay away from that. So, essentially now how do we look at chemical space? We will look at companies which are more focusing on CRAMS business where a large US customer gives them an order and they supply over a period of time. And the second is that you look at companies which have products where China is a very small part of the portion. Companies, for example, are manufacturing phenol, where China is there, Indian guys are also large enough. Similarly, from a product-to-product standpoint, you have to look at companies where China is not a competitor. If China is a competitor and some of these new themes which are very exciting for larger investors and specifically on social media, we would love to stay away from that. But also help us with your take on the financials as well because that could be called the growth engine of the economy and nothing can go without the growth in the financials. We just had the numbers of HDFC, Kotak Mahindra Bank, and some concerns on the deposit growth is what the management is highlighting. Even the numbers were not that fascinating. But do you believe that this quarter or a couple of quarters we should be in for some such expectations or some sort of an outlook, and then maybe financials can have a push? What is your take? Niket Shah: So, the credit growth will continue to remain in the range of 13% to 15% for the next couple of years. I think the challenge really is on the P&L side. We will see NIM decline because we have not even seen an interest rate cut environment. So, the next 12 to 18 months, we will see NIM decline. Credit costs are clearly bottomed out. So, from that standpoint, from a profit after tax growth for financials for the next two years or maybe 18 months looks fairly lower. So, it looks like a single-digit kind of a growth. It is something which does not excite us. But this is the time to accumulate or stay away? Niket Shah: I would stay away, wait for the interest rate cycles to bottom out. We need an interest rate cut and hopefully by next year we should see an interest rate cycle bottoming out.

Overall earning season turning out to be muted: Sandip Sabharwal

"HDFC Bank's operation seems to have stabilised in terms of the net interest margins, but then their guidance for growth seems to be muted because as they adjust the deposit growth to the advances growth," says Sandip Sabharwal, asksandipsabharwal.com. A lot of numbers came over the weekend, but let us start with the banking majors. Kotak, HDFC, there was even Yes Bank, RBL Bank, etc. What caught your attention and what is the view on the banking names now? Sandip Sabharwal: Results of the smaller banks and larger banks were somewhat disparate. Like Yes Bank and RBL Bank coming back from higher NPAs, lower margins actually gave better performance, whereas the larger banks actually the results were muted. HDFC Bank's operation seems to have stabilised in terms of the net interest margins, but then their guidance for growth seems to be muted because as they adjust the deposit growth to the advances growth. Similarly, Kotak Bank, the margin squeeze was more than expected and the RBI restrictions still remain. So, the one key thing out there is the strong performance of its subsidiaries which adds significant value to Kotak Bank stock price. So, the key will be the resolution of the issues pointed out by RBI and once that happens, that will be sentimentally positive, so that is how it is placed. Overall earning season is turning out to be muted in general. Commentary on the one hand RBI is saying it appears to be pretty making him uncomfortable the speed at which deposits are actually going toward mutual funds and SEBI chief is saying that a lot of savings are actually going towards speculative activities, so is it like kind of making a base for some action in Budget on this side of the market? Sandip Sabharwal: On the speculative taxation, it is possible that to make it unattractive that is possible. On the interest on deposit side also it is possible that there is some relief coming for savers. Both these possibilities exist. However, I think from the RBI's perspective, one of the reasons why deposit growth is lagging behind is they themselves are keeping liquidity so tight and to that extent because of their apparent fight on inflation, that is a separate topic of discussion whether food inflation can be controlled by monetary policy, that is their stance and it is unlikely to change in the near term. So, the deposit struggle will remain for banks. The two that I want to discuss with you is Indian Hotels as well as PVR. Would you call this a bit of a slowdown coming in in urban discretionary spends and maybe that they have peaked out or is it just a quarterly phenomenon with the seasonality kicking in? Sandip Sabharwal: The results are expected to be muted and the management has come out with their statements also saying that they expect the full year to be good. So, I would think that this is a stock which still has three-four years to go as a story and it is an extremely well-managed company and to that extent any weakness if it comes because of the overall market and results should be a buying opportunity. And PVR-Inox everyone knew that all movies did not do well in the first quarter. There were hardly any releases in April and May. And it is all a function of ticketing revenues and the related. So, half the revenues are ticketing, half the revenues are from F&B, convenience fees, advertisement, etc. So, if the content is good, they will do well. So, I think starting this quarter, it should be much better. So, it is a stock on a contrarian basis I would be looking to buy on declines rather than think that it is somewhere at a level where it can fall drastically. You saw Nippon Asset Management results came out, very strong numbers. Where do you stand on some of these wealth management companies versus asset management? I mean, you understand that business so well but if one was to take a call on a longer term, which side would actually be better? Sandip Sabharwal: Yes, asset managers are always better positioned than wealth managers because although wealth managers also have a sort of in terms of retention of clients but then clients can easily leave them. But in case of asset managers, the money remains very sticky. So, unless and until the performance becomes extremely drastically bad, most of the people just stick on with asset management. So, it is a brilliant operating leverage business. The only threat could be that after the sharp run-up we have seen in most of the AMC stocks, in case market performance moderates or the flows moderate so I think that could impact the performance, but longer term the bigger players in the asset management business should continue to hold most of the market share. That is where businesses would head right, a lot of these data centres and large ones at that, today it is Google, tomorrow it could very well be some other big IT giant and this would give a further push to some of these realty plays. Sandip Sabharwal: More than realty plays, the companies who are setting up these data centres they will gain more business. So, what we have seen is many companies have made a foray into setting up data centres. I have seen that a few of these transmission tower companies like KEC Kalpataru, they have been winning orders on the data centre side. So, it is important to look at the companies who will be setting up these data centres because they will be setting up data centres mostly for the larger companies and some of them will be unlisted. So, direct data centre plays might be tough but companies who set up these data centres they could have great opportunity. Exposure to any of these names KEC or Kalpataru? Sandip Sabharwal: So, these stocks we are holding for a very long time and not for this business actually but more on the transmission side because there are also the business momentum from both domestic and overseas is pretty strong. Talking of transmission for a moment, the way commentary from TRIL coming in, I want to talk about export opportunities. Now they are talking about 25% export. This entire transmission and transformer space also seem to be having a big option on the export side especially with Trump coming in and talking about re-industrialisation there. Do you think these guys even though they have moved higher but may have some more leg up in the next one or two years from here on? Sandip Sabharwal: The business opportunity is huge because with the renewable energy focus that investment required on transmission as well as transformers is much greater than was there in traditional thermal or hydro and given the growth of AI and the power consumption required for that, the investments on the entire chain, generation, transmission, transformer and other related sectors is going to be big. Now obviously specific stocks we have to buy looking at valuation, but purely in terms of an opportunity I agree it is a big opportunity.