Q2 guide: Amid dull expectations, chase value rather than punt on growth

The second-quarter (Q2) results have just started coming in. It's too early to see trends. If we look at consensus expectations, those are not very high. A combination of adverse macro-trends and sector-specific pressures could have led to low growth. The negatives include high crude prices, a falling rupee, rising raw material inputs due to high petro prices and import tariffs, plus a non-banking financial company (NBFC) crisis that has led to high bond market yields.

Adjustments will have to be made for base effects caused by the goods and services tax (GST) launch last year. The Q2 of 2017-18 saw restocking across many industries, which will cause a high base effect. 

The Nifty 50 had a standalone earnings per share (EPS) of Rs 115 after the April-June results came in for all 50 stocks and the market valuation would currently be about PE 25-26 given the EPS over the last four quarters. The rupee fell from 67 a dollar to 73.5 a dollar during the July-September quarter.

   

While most businesses will suffer an adverse reaction to the falling rupee, this could drive growth in information technology (IT) and pharmaceuticals. Those are the two sectors that seem to have major growth prospects. Other export-oriented stocks may not have done quite so well, given the overall export data for July-September. For pharma stocks, too, the rupee impact will continue to be positive.

Bond yields spiked above eight per cent and the market also faced policy rate hikes in June and August, which elevated the cost of financing. That's over and above debt-servicing issues for corporates that borrowed via the external commercial borrowing (ECB) route. Banks and NBFCs faced a continuous stream of negative news flow, quite apart from the crisis building up in Infrastructure Leasing & Financial Services Ltd (IL&FS). Real estate and automobiles will also have got hit by higher interest costs. 

Bank results will be dissected carefully for signs of improvement in the non-performing asset (NPA) situation and for credit expansion. This is crunch time for PSU banks, in particular. If they cannot stabilise and reduce their NPA exposures now, they will find it very hard to do so in a tighter money environment. Similarly, credit expansion on a large scale is hard to envisage. 

Big commodity players such as Coal India, which will see strong volume growth, Tata Steel, which has protection against imports, and ONGC could be the gainers at least in terms of sales revenues. Refiner-marketers will see top-line expansion but collapsing margins.  

Big ticket consumption may have weakened for several reasons, including the higher price of imported goods (or goods with imported components). Floods in Kerala would have impeded festive season buying. However, transporters continued to add to their fleets, going by monthly despatches. The GST-related distortions make it hard to say this with certainty. 

Cement, traditionally, has a weak monsoon season and project slowdowns centred on the IL&FS collapse cannot have helped the segment and the related construction industry. Infra sectors in general, including roads, power and civil aviation, will have poor workings. 

Rural consumption will have been a key factor. The monsoon was only slightly under-par, and the higher MSP (minimum support price) may have driven higher consumption. Hindustan Unilever's strong results could be an indicator that fast-moving consumer goods (FMCG) demand remained good in rural areas. There could be some speculative buying in the gems and jewellery space, given the ongoing festive season. 

In the energy sector, upstream companies would have done well due to higher crude prices. But the government milking reserves through enforced buybacks and cross-holdings makes all public sector units look unattractive. The reimposition of retail price controls will also have made investors wary. Downstream, retailers are likely to suffer and even the mighty Reliance Industries will have seen refining margin pressure. 

Overall, positive surprises can be expected in IT and pharma, including in tier-II stocks. In other sectors, investors should be cautious and chase value, rather than punt on growth.