Tides in the market

SMARTSHARE

For the past month, the market has been liquidity-driven. This is results season and no big company has produced extraordinary Q1 results though most big companies have delivered growth at around expected levels.

Yet the market has surged upwards. The isolated bits of bad news have been shrugged off, the good news has been greeted with yet another burst of buying.

At current levels of 7600, the Sensex isn't overvalued. It's average PE is around 16, which is perfectably acceptable for a basket of stocks seeing EPS growth at an average of 20 per cent plus.

But the Sensex has rarely moved above the 17-18 level in the past 10 years so, it isn't undervalued either. In the mid-caps and small caps, exuberance has increased to the point where tiny stocks with minuscule floats and barely acceptable stories are finding enthusiastic buyers.

In two key sectors, the uptrends don't make sense. Why should bank stocks move up in an environment where rates are hardening? Credit offtake has already hit a point where there is not much excess liquidity. Even spectacular volume growth is difficult to envisage.

Then again, IT stocks are running at PE ratios, which can only be justified by sequential quarterly growth of 12 per cent plus over the next three quarters. IT majors have actually registered 3-4 per cent sequential growth in Q1. None has offered guidances that leads one to expect a sudden improvement in business.

It's dangerous to make judgement calls on the basis of the first financial quarter. April-June is the silly season "" when one doesn't even know about the monsoons. But if the results of Q1 2005-06 are any indicator, the year will be short on positive surprises. There aren't many new sector calls apparent from Q1 results.

The impact of the Mumbai rains and the ONGC fire will not be easy to shrug off in the short term. The former caused unassessable damage to the financial capital while the latter will affect ONGC's production through Q2 and Q3.

These two events might trigger a switch in sentiment and a fall in equity prices. Such a fall is likely to be temporary "" unless the firangis, who have brought in Rs 6,600 crore during July, decide to seek better fortune elsewhere.

Rather than tertiary businesses, 2005-06 seems more likely to be the year of commodities. It isn't only oil prices that are at record highs. Non-ferrous metals like copper, zinc and aluminium have hit new peaks in the last seven-10 sessions. Steel prices have stabilised after softening in the past 6 months "" iron and steel stocks delivered decent Q1 results as a group.

Prices of agro-commodities like coffee and sugar will remain high until the next crop is harvested because of classic demand-supply gaps. A significant proportion of the coffee crop was wiped out by the tsunami and demand for sugar is projected to exceed supply in India until at least mid-2006.

Commodities thus seem the best places to go for an equity bull. Examine metal plays like Sterlite, Nalco and Hindalco, coffee producers like Tata Coffee and CCL products, sugar companies like Bajaj Hindustan, Balrampur Chini and the relisting Triveni.

In comparative terms, most commodity stocks offer valuations lower than the major indices and that means a welcome measure of safety.