 "Results lag expectations so far this season: Jyotivardhan Jaipuria")
Boosted by an unexpected rate cut in January by the Reserve Bank of India and policy action by other global central banks, Indian markets have seen a steady start to calendar year 2015. Jyotivardhan Jaipuria, India head of research, Bank of America Merrill Lynch, tells Puneet Wadhwa the markets will continue to be strong as long as expectations of reforms and recovery are intact. Edited excerpts:
What is your reaction to the statements by various central banks across the globe? How soon is the US Federal Reserve likely to raise key rates and are the markets factoring that in?
We are no longer in a world of synchronous central bank action. So, we are seeing loosening by central banks in many parts of the world, at a time when we will probably see a tightening by the US Federal reserve. Our house view is that the first rate rise by the US Fed will be in September.
Domestically, we have seen the markets rally sharply but earnings and economic recovery are lagging. So, the risk might come if the market loses patience with a delay in the recovery. This can be accentuated by the foreign investors’ huge overweight position. FIIs’ (foreign institutional investors’) ownership of the Indian markets is at an all-time high. Additionally, supply of paper could be another reason for the near-term weakness in the Indian markets. But we believe the biggest risk to the market is global, with a likely rise in the US interest rates, accompanied by slow growth in Europe and China.
Flows to the EMs, especially India, have been fairly strong for the past few months. Is there still an argument for valuation premium for Indian equities?
Flows will continue to chase growth, and the consequent market returns. India will continue to attract flows till the time the promise of expected growth is being met. What makes India particularly attractive to investors is the trifecta of three ‘R’s — recovery, rates and reforms. However, given the current valuations, India will need to ensure reforms continue, so that FIIs are not disappointed.
Have the markets run ahead of fundamentals and could they correct sharply in case expectations from the coming Union Budget are not met?
The markets would continue to be strong as long as expectations of reforms and recovery are intact. While the reform process has already started, the capex cycle will revive only in the next 12-18 months. However, there are some indications of revival, such as coal supply, power supply, rail freight cargo, port and container volumes and LNG consumption, all witnessing growth over the past few months, indicating a pick-up in business momentum.
We think a lot of reforms will happen outside the Budget and, so, do not believe we should focus too much on the Budget. But we think we are in a range-bound consolidation phase of the market in the near term.
Which markets are on a par with or better placed than India?
Over a longer term, we think India is uniquely placed as a large, domestic economy where the monetary easing has just started and earnings could see a sharp recovery. At present, we are also overweight on China’s equity markets.
In the Indian context, how do you think the government will contain the fiscal deficit? Will it wield the axe on crucial increases in Plan expenditure, nixing hopes of a revival in the capex cycle? Do you expect the government’s disinvestment programme to sail through?
The additional excise duties on petrol and diesel will help the government net Rs 78,000 crore in 2015-16. Additionally, due to lower crude oil prices, petroleum subsidy is expected to come down to Rs 30,000 crore. These savings, coupled with higher tax revenue collections on pick-up in growth, should allow the government to stick to its fiscal consolidation path. The success of the Coal India stake sale has raised hopes of the government achieving a reasonable chunk of its disinvestment target.
What are your sector and stock preferences?
Our sector strategy is overweight on rate-sensitive, operating leverage plays (we are overweight on automobile, banks, cement and oil as a reform play). We think infra and capital goods are a late-cycle play and we have a small overweight currently. But we expect to get more positive on the sector over the next 12 months as the capex cycle takes shape.
How has the result season panned out so far?
The result season has lagged expectations and led to earning downgrades. Companies have already shown some gross margin gains due to lower commodity prices and more such gains will follow in the coming quarters. However, companies have so far shown slower-than-expected volume growth leading to lower-than-expected profit growth.
What is your reaction to the statements by various central banks across the globe? How soon is the US Federal Reserve likely to raise key rates and are the markets factoring that in?
We are no longer in a world of synchronous central bank action. So, we are seeing loosening by central banks in many parts of the world, at a time when we will probably see a tightening by the US Federal reserve. Our house view is that the first rate rise by the US Fed will be in September.
More From This Section
What are the key risks to the global market rally, and that in India, one of the best performers?
Domestically, we have seen the markets rally sharply but earnings and economic recovery are lagging. So, the risk might come if the market loses patience with a delay in the recovery. This can be accentuated by the foreign investors’ huge overweight position. FIIs’ (foreign institutional investors’) ownership of the Indian markets is at an all-time high. Additionally, supply of paper could be another reason for the near-term weakness in the Indian markets. But we believe the biggest risk to the market is global, with a likely rise in the US interest rates, accompanied by slow growth in Europe and China.
Flows to the EMs, especially India, have been fairly strong for the past few months. Is there still an argument for valuation premium for Indian equities?
Flows will continue to chase growth, and the consequent market returns. India will continue to attract flows till the time the promise of expected growth is being met. What makes India particularly attractive to investors is the trifecta of three ‘R’s — recovery, rates and reforms. However, given the current valuations, India will need to ensure reforms continue, so that FIIs are not disappointed.
Have the markets run ahead of fundamentals and could they correct sharply in case expectations from the coming Union Budget are not met?
The markets would continue to be strong as long as expectations of reforms and recovery are intact. While the reform process has already started, the capex cycle will revive only in the next 12-18 months. However, there are some indications of revival, such as coal supply, power supply, rail freight cargo, port and container volumes and LNG consumption, all witnessing growth over the past few months, indicating a pick-up in business momentum.
We think a lot of reforms will happen outside the Budget and, so, do not believe we should focus too much on the Budget. But we think we are in a range-bound consolidation phase of the market in the near term.
Which markets are on a par with or better placed than India?
Over a longer term, we think India is uniquely placed as a large, domestic economy where the monetary easing has just started and earnings could see a sharp recovery. At present, we are also overweight on China’s equity markets.
In the Indian context, how do you think the government will contain the fiscal deficit? Will it wield the axe on crucial increases in Plan expenditure, nixing hopes of a revival in the capex cycle? Do you expect the government’s disinvestment programme to sail through?
The additional excise duties on petrol and diesel will help the government net Rs 78,000 crore in 2015-16. Additionally, due to lower crude oil prices, petroleum subsidy is expected to come down to Rs 30,000 crore. These savings, coupled with higher tax revenue collections on pick-up in growth, should allow the government to stick to its fiscal consolidation path. The success of the Coal India stake sale has raised hopes of the government achieving a reasonable chunk of its disinvestment target.
What are your sector and stock preferences?
Our sector strategy is overweight on rate-sensitive, operating leverage plays (we are overweight on automobile, banks, cement and oil as a reform play). We think infra and capital goods are a late-cycle play and we have a small overweight currently. But we expect to get more positive on the sector over the next 12 months as the capex cycle takes shape.
How has the result season panned out so far?
The result season has lagged expectations and led to earning downgrades. Companies have already shown some gross margin gains due to lower commodity prices and more such gains will follow in the coming quarters. However, companies have so far shown slower-than-expected volume growth leading to lower-than-expected profit growth.