After hitting all-time highs, the markets are now consolidating. Lakshmikanth Reddy, executive vice-president and head (equity), ICICI Prudential Life Insurance, in an interview with Tulemino Antao, talks about market trends and the outlook on various sectors and mid-caps. Edited excerpts:
The markets have been coming off their recent highs, amid profit-taking at high levels. With the earnings season coming to an end, what are the key triggers from here?
The market is driven by both global forces, as well as the domestic cycle. For a sustainable, broad-based increase in the market, the domestic economic cycle has to be revived from the current lows. While the economic performance in the second half of this financial year is likely to be better than in the first half, which is partly seasonal improvement, for the market to move higher, we need to see signs of a cyclical revival next year. On the global front, the sustenance of the current momentum of improving outlook is important if our export or external sectors are to continue to do well. As such, there is no single trigger or event, but we need to see signs of a cyclical revival.
Mid-cap banks have been trending upwards, amid attractive valuations and better-than-expected quarterly earnings. What is your call on the mid-cap banking space?
We only own one or two in that space and continue to have a cautious stance. We believe the stress in the banking system is far from over, and mid-cap banks with weak liability franchises as well as mid-tier corporate exposure will continue to face headwinds. The recent rise in the market values of mid-cap banks was less fundamental than it appeared; we continue to remain cautious on this space.
Fast-moving consumer goods (FMCG) majors Hindustan Unilever and ITC, which had surged recently, seem to be consolidating in a narrow range. What is your outlook on FMCG majors and the mid-cap FMCG space?
In general, there is a slowdown in the consumer sector, with pockets of strength in rural demand and weakness in urban demand. Volume growth and earnings growth is slowing in the consumer space. We have been underweight in this space for about a year, and continue to remain so.
During the recent rally, automobile shares gained sharply, along with other shares. Are auto shares looking overvalued at current levels? What is your outlook on the sector for this financial year?
In recent months, the demand for automobiles, though weak in an absolute sense, has surprised on the upside, owing to a good monsoon, festive demand, etc. The positive surprise in demand, as well in the margins for the second quarter, led to an upward movement in share prices. We think headwinds for the second half remain high. Having said that, we expect the cycle to turn next year. The auto sector has been slowing for the last three years, and we expect a revival as and when confidence improves and interest rates fall, given the likely pent-up demand in the system. We do not think the sector, as such, is overvalued; though some segments such as domestic two-wheelers could be.
Information technology (IT) majors were one of the major contributors in the recent rally. What strategy can long-term investors adopt for IT majors? What is your outlook for the mid-cap IT space?
The IT sector is doing well, owing to the depreciating rupee and the improving economic outlook in the US. We think this sector will outperform, at least modestly, from here, notwithstanding a big surge in the market values and valuations of leading IT services companies. In mid-cap IT, we have a positive opinion on only one or two differentiated players, as we believe in generic business IT services, they will find it difficult to compete with bigger companies, given the rising size and complexity of projects.
Investors seem to have turned their attention on fundamentally sound mid-cap shares, which are available at attractive valuations. What is your take on the mid-cap sector and which would be your top three picks for a two-three year period?
Mid-cap indices have underperformed large-cap indices for quite some time, and there are many companies that are very attractively valued in this space. We hold substantial positions in the mid-cap companies in our portfolios, wherever we find good opportunities and undervalued companies. For sustained outperformance in the mid-cap segment, we need to see a cyclical revival because a bulk of mid-cap companies are in the manufacturing sector and that, too, in capital goods, auto or commodity-type industries. We are positive on mid-cap capital goods companies, auto ancillaries and IT services companies.
