Expect a sectoral churn in favour of cyclicals: Harshad Patwardhan

Interview with Executive Director & Head of Equities, JPMorgan Asset Management

As the markets gear up for the outcome of the Lok Sabha elections, Harshad Patwardhan, executive director and head of equities, JPMorgan Asset Management, tells Puneet Wadhwa that though the markets will see a knee-jerk reaction in case the outcome isn’t in line with opinion polls, they will return to current levels in a year, given the earnings trajectory of India Inc. Edited excerpts:

On the election outcome in May
Most opinion polls suggest a change of government. This is important, as since August-September 2010; the UPA (United Progressive Alliance) rule was marked by policy paralysis and deceleration in growth. Promoters preferred to invest abroad, rather than in India. If opinion polls prove to be correct, there are expectations many of these negative trends might be reversed. So, in that light, the outcome of the general elections assumes significance.

The next three months
If opinion polls are correct, there could be a significant re-rating of the market. The Bloomberg consensus consolidated estimate for the one-year forward price-to-earnings (PE) ratio (for the Sensex) is 14.1; the long-term average stands at 14.6. So, despite the excitement about the potential election outcome, it hasn’t been fully factored into stock prices, as far as the Sensex PER (price-earnings ratio) is concerned.

Economy and Budget
I don’t think things will change overnight. One must have tempered expectations, rather than believing policy-making and implementation will get into an overdrive mode. I don’t think earnings expectations will drastically change in case we have a new government. The impact of the policies will be felt 12–18 months down the line.

I think one area of focus will be infrastructure. In the last few years, a lot was expected in terms of the road sector, but nothing much materialised. There are issues with the power sector, too. So, these will be the first few areas on which the new government could focus.

Within the broad infra theme, railways and tourism could get the government’s attention. A lot of energy and political capital will be spent on removal of bottlenecks in these infra-related sectors. However, one will have to wait and see what the Budget proposals are.

The Budget could focus on manufacturing, which is job-intensive. Job-creation is another area on which the new government/Budget could focus.

Flows, sectors and stocks
Within emerging markets, India is being looked at favourably. Among BRIC (Brazil, Russia, India and China) nations, there are problems in Russia and Brazil. China, too, is faced with a slowing economy. India seems to be placed better. Having said this, it is not reflected in valuations. In case the election outcome is favourable, we expect a lot of foreign money to come in.

Though it is hard to say which sectors will attract more flows or incremental flows, or even if no new money comes in, I expect sectoral churn in favour of cyclicals; these are high-beta plays.

I expect some incremental money to come in if the election outcome is in line with opinion polls. If this comes though global funds, for which India is not a big benchmark, chances are a lot of that money will flow into large-caps. In case it comes through India-dedicated funds, mid-caps are also likely to get a fair share of the incremental flows.

FII flows
If the election outcome is positive, there will be increased allocation to India. The worst seems to be over for India Inc, in terms of earnings. There is a consensus that economic growth is bottoming out. This is a favourable backdrop for FIIs (foreign institutional investors) to invest in India.