Budget proposals bring in some incremental comfort, says Abhinav Khanna

Despite the sharp run up seen in the domestic markets, which was mostly aided by foreign flows, ABHINAV KHANNA, head of equity at Citi India tells Puneet Wadhwa that foreign investors remain constructive on India from a medium-to-long term perspective and the Budget proposals are likely to reinforce this view. However, the absence of an immediate growth stimulus or any major ‘pump-priming’ in the Budget proposals, he says, has disappointed growth-oriented investors. Edited excerpts:
 

What are your key takeaways from the Budget proposals? What are the ‘hits & misses’?

The Budget strikes a good balance between growth support, fiscal consolidation and addressing the near-term challenges in the financial sector. On the key hits, I would first list the fiscal deficit target of 3.3 per cent and largely unchanged borrowing number. Recapitalisation of public sector banks (PSBs) to the tune of Rs 70,000 crore, NBFC (non-bank finance companies) partial credit guarantee, revisiting foreign direct investment limits (FDI) limits for Insurance, aviation and media, top-down focus on manufacturing and infrastructure and the mention of know your customer (KYC) simplification for foreign portfolio investors (FPIs). On the other hand, the absence of an immediate growth stimulus or any major ‘pump-priming’ has disappointed growth-oriented investors.

Are the measures enticing enough for FPIs and FIIs to invest in the debt offerings, especially from the NBFCs?

Yes, in my view, the FPIs would want to explore the opportunities to invest in these debt offerings, and from the perspective of NBFCs, this would be effective in partially reducing the current stress they face. These are steps that the government could build upon going forward in further widening and deepening the involvement of FPIs in bond markets. Separately, the fact that the Government will raise part of its gross borrowings in external markets in external currencies has also been liked by the market, leading to softening of bond yields.

There has been a proposal to rejig the public shareholding norms? Your views.

The intended increase in public float to 35 per cent from 25 per cent currently should help boost liquidity in the stocks which fall in that category. It’s a step in the right direction for improving market depth and reducing impact costs. Eventually, all else being equal, this should also lead to an increase in India weightage in the global benchmark indices where ‘available free float’ is a key criterion. In the short-term though, this could create a supply overhang for those particular stocks.

How should one approach equity markets as an asset class now?

For the next few months, the near-term fundamental challenges on earnings may persist. However, the budget proposals do bring in some incremental comfort, which when combined with favourable global liquidity conditions and expected inflows in Emerging Markets (EMS) could help equity valuations remain elevated. 

For March 2020, we have a Sensex target of 41,000 – hence, we are looking at limited upside from here. It’s possible that we may overshoot if FPI inflows ($11.3 billion during Jan-Jun 2019) continue driven by favourable global liquidity conditions. Fundamentally though, the market looks expensive at 18.5x March20 price-to-earnings (P/E), which is 1.5x standard deviation above five-year mean. Indian valuations are currently at 50 per cent premium to EM average, compared to 10-year average premium of around 40 per cent.

What will be your investment strategy in this backdrop?

On the sectoral preference, financials remain one of our key overweight. In terms of our global strategy, we have recently turned bullish on global credit and are incrementally more positive on global equities – in our view, the markets are still under-positioned for renewed quantitative easing (QE) from the US Federal Reserve (US Fed) and the European Central Bank (ECB).

Do you think the Budget has done enough to revive the slowing economy and aid corporate earnings growth?

We expected the post-election agenda from the Government to be a good balance between social welfare and economic / industrial growth oriented policies – this budget is a step in that direction. At a strategic level, this budget works towards the vision of making India a $5 trillion economy in five years with thrust on investments and infrastructure, MSMEs, digitisation, FDI, streamlining labour laws, among various other initiatives. 

GDP (five-year low in FY19 at 6.8 per cent; we expect 7 per cent in FY20) and corporate earnings growth should revive, albeit at a gradual pace. Improvement in the consumer sentiment and the revival of lending by NBFCs as they recover will eventually help boost demand in autos and consumer – though the consumer stocks could still see a combination of earnings cuts and de-rating over the next few months.

How are you looking at the developments within the financial sector over the past few months and in the light of Budget proposals?

The PSB recapitalisation as well as the measures for the NBFCs announced in the budget come as a shot in the arm for them. There were investor worries that the liquidity crisis could worsen into a solvency crisis – if we can avert solvency risk, the confidence in the financial  system and revival in lending growth can happen much faster than what the street is factoring currently. This would then have a multiplier effect on the wider economy – across consumption and investments.

Do you see a higher allocation by foreign investors to India over the next six - 12 months?

Foreign investors are constructive on India from a medium-to-long term perspective and the budget proposals are likely to reinforce this view. My interaction with several FPIs in Singapore, many of whom run Asia or EM portfolios, was good and they hold a positive view on India relative to other markets. They could increase their India overweight given the political stability and the fact that India is less impacted by trade war. The revival of ‘carry trade’ on expectations of weak US dollar and falling yield gather momentum is another positive.

What are your estimates for corporate earnings for FY20? Which sectors, in your view, can surprise positively and negatively?

We expect around 20 per cent earnings growth for the Nifty for FY20. Importantly, around 75 per cent of this growth is expected to be contributed by the financial sector (led by significantly lower credit costs) – hence any disappointment here could have a big impact on Nifty earnings. On the other hand, the commodities sector could swing materially either way given its global cyclical nature.