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The Indian Association of Investment Professionals (IAIP) and CFA Institute conducted a survey amongst its India members (which include many of India's best known market minds). Amongst, other things the survey results suggest a meaningful correction in commodities and bets on equities being the best asset class for the current financial year. Jayesh Gandhi, CFA President of the Indian Association of Investment Professional, the India CFA Society and ED at Morgan Stanley Investment Management in an interview with Sachin P Mampatta talks about the survey, the outlook for equities and which sectors he expects to outperform in the days ahead. Edited excerpts:
Equities are said be the best bet for the year ahead with the Sensex level in excess of 22,000. Would earnings support such valuations?
The IAIP survey has voted for equities as the best asset class for FY15, with a forecast that Sensex could give meaningful positive returns even from the current market levels. Valuations currently are fair and in-line with long term average, anticipating some pick up in earnings. Corporate earnings, for the large companies, are forecast to grow in mid-teens, which is significantly better than the growth rate achieved in the last two years. While in the past couple of years, there has been downward revision in initial earnings estimates, the recent trend suggests bottoming out of earnings growth. With pick-up in economic growth and stabilisation of macro-economic factors such as inflation, interest rates, currency volatility, etc it is quite likely that the actual earnings come in line with expectations, support valuations and provide upside to investors.
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Which are the sectors that could outperform? Which are the sectors that could underperform?
Pickup in GDP and economic activities should benefit all companies and sectors in general and hence it is difficult to predict sector returns. Nevertheless, a stronger case can be made for cyclical sectors dependent on domestic economy, such as Banking, industrial products and capital goods, cement, consumer discretionary etc. These sectors have seen material head winds in business environment in the last two years, not only from slowing economy but also from rising cost due to high interest rates and inflation. On the low base, the companies in these sectors can see significant uptick in their earnings, when there is a meaningful rebound in the domestic economic activity. Restarting of investment activities would be critical to sustain economic growth and here the key would be to unclog the key infrastructure projects and the resources/mining sector which is today stuck due policy inertia by the government and crony capitalism. The power and infrastructure would be the key beneficiary of the new government’s initiative in this area.
What is the outlook for the mid-cap segment?
The survey results clearly suggest that risk taking is coming back, mid-cap and small-cap companies are expected to outperform large-caps. During the last 3 years, particularly period starting early 2011 to mid-2013, mid and small cap stocks saw significant value erosion. While the large-cap index BSE Sensex is at all time high, the mid and small cap indices are substantially below their peak. The IAIP survey suggests that the trend seen in the last couple of years is likely to reverse soon. Pickup in economic activity and better sentiment for equity markets should all contribute to higher returns for mid and small cap companies.
What are the biggest risks to your equity forecasts?
The biggest risk comes largely from domestic factors, which are also seen as key drivers for equities. National Election results and expectation of stable government is part of the bullish equity view. Over 60% of the surveyed participants expect a stable government and the new government to initiate policy reforms that would boost economic growth. Also important could be the new government’s economic agenda and flow of reforms. Last 12 months have seen a slew of reforms and policy initiative. However, more policy action and stronger movement in reforms is required from the new government.
Foreign institutional investor holdings are at an all-time high. What is the outlook for inflows? Is foreign ownership a risk in the absence of domestic liquidity to absorb sell-offs?
Foreign Institutional Investors continue to add Indian equities, as they find India attractive, with well run companies with sound business models at reasonable valuation in India. The absence of domestic investors into equities is a cause of serious concern which needs to be addressed soon by the government and authorities. One of the possible reason for absence of retail investors could be the poor returns from equities, post 2010. However, in the last one year Indian equities have seen strong comeback, posting double digit returns beating all asset classes. Better returns should drive Indian investors back to equity markets.
How big a factor would tapering be in the days ahead?
Fears that US Fed’s decision to taper (slowly reduce) its QE Bond buying program would lead to sell-off in Emerging Markets like India have been unfounded. Many experts and strategist still continue to expect adverse impact on emerging markets from strengthening dollar and higher US interest rates. However, what is missed out in these concerns is the fact deflation is a bigger concern for developed economies, US in particular. Stronger dollar could very well lead to imported deflation into US, which the central bank there is keen to avoid. While many emerging market equities and currencies have underperformed, India has stood out as its external balance, CAD situation has improved significantly, over the last 6-7 months. India could very well remain relatively less impacted by the global volatility in the currency and bond markets, as long as its domestic fundamentals show stability and improvement.
Both gold and oil, India's biggest imports, are expected to fall in the days ahead. What would this mean for the deficit situation?
Over the last 6 months, moderation in non-oil imports, reduction in gold imports and pick-up in exports has resulted in significant improvement in India’s external trade and Current Account Deficit (CAD). Over the near term, CAD is likely to remain benign and is expected to be more than adequately funded by capital inflows, substantially reducing the pressure on the currency. Stable currency outlook in an environment of global volatility is an important contributor to the overall stabilisation of the macro-economic parameters for India.
When do you expect to see a pick-up in primary market activity?
During the last 6 months, when the primary market fund raising by companies has not been significant, the equity markets have been quite supportive. This is clearly demonstrated from the fact that the entire divestment program of the government, including the SUUTI sell off of Axis bank and PSU ETF has been completed in a short time quite successfully. Difficult to pin point the time lines, but healthy equity market returns would definitely be positive for primary market activities and they should revive soon.
