Earnings volatility may lead to a correction: Dolat Capital's Khurana

At current levels, markets are fair-valued, not overpriced, says Amit Khurana, head of equities at Dolat Capital. In an interview with Samie Modak, he speaks on whether a correction in the markets can get bought into. Edited excerpts:

What has driven the rally in November?
 

Benchmark indices have gained over 11 per cent in November led by record inflows from foreign investors. These have been supported by clarity on US elections as well as MSCI rebalancing, of which India has been a key beneficiary. In this liquidity-led rally has been underpinned by expectations of a weakening US dollar. From the traditional measure of price-to-earnings ratio (P/E), markets do appear to be fairly valued, but not overvalued. If we look at it from the angle of earnings trajectory for the next couple of years, we are now looking at high-teens growth after a long time. Hence, the appetite to pay a premium to participate in such growth will be high. Our near-term view is that a correction could be in the offing but that will aggressively be bought into by all participants. We would also prefer a time correction which we believe is a more likely scenario until end of this fiscal.
 

What are the expectations for the next fiscal?
 

We remain extremely positive. Two factors which we believe will drive the sentiment – earnings growth, which will appear very high given the low base but if we normalise it, we are looking at high-teens for large- and mid-caps. For small-caps, it will be 20 per cent-plus since they will see through the impact of lower interest rates pass through the balance sheet and operating leverage on better utilisation of capacity. The corporate balance sheet is in much better shape, especially in the large- and mid-cap businesses. Second, there is now a structural move favouring India for overweight allocations amongst emerging markets.
 

What’s the earnings growth forecast for FY21, FY22 and FY23 and your index target?
 

This fiscal growth will be flat over the last financial year. In FY22, we are estimating 40 per cent plus growth across our coverage universe due to low base effect. And in the subsequent year, we are expecting 22 per cent earnings growth. We project a Nifty target for December 2021 at 14,500. At that level, the index will trade at 20 times its FY23 earnings estimate.
 

What are the near-term risks for the market?
 

Too much money has come in too short a time and some of the stocks have just gone up vertically. Also, quite a few of them are building in ‘flawless’ earnings trajectory. While medium earnings trajectory might match the consensus estimates, quarterly earnings volatility may create a sharp correction in stocks. That we believe is not being well appreciated by the markets.

 

How do you view the value versus growth debate?
 

Our preference remains for ‘growth’ stocks to play India as an equity class. There aren’t too many names, except PSUs, which will fall in ‘value’ category. There is a good amount of sentiment which is building in favor of these names in hopes of a divestment-led rally. We are not yet sure if it is going to be structural or tactical. Secondly, the premium that we are building in for almost all our coverage is due to the superior growth and balance sheet strength.
 

Which are your preferred sectors?
 

We are overweight on agriculture, chemicals, pharma, IT and cement and underweight on capital goods and staples. We have a neutral view on auto, financials, telecom and energy.

 

What has triggered the sharp uptick in financial stocks?
 

The commentary and performance have been better than expected. Hence the sharp rebound in these sector names. The economy has also shown a strong enough rebound. The corporate balance sheet and profitability are well placed. We believe that the next couple of quarters will be important to see if this sustains – we believe it will. This will help sustain valuations for the large financials. The risk of slippages overshooting expectations. If there is another sharp surge in Covid-19 cases in India, then the sector will obviously not hold up to the current valuations.
 

Do you expect robust FII flows to continue?
 

Yes, India will continue to attract more than the fair share. The benefit of lower rates, better demand, and receptive government policy will help to drive earnings growth for the next couple of years.