Each time the global markets give a leg up, banks as a cluster have underperformed. Is NPAs and lack of clarity on what the NPA picture is going to be like in its true form the big overhang which is keeping banks at bay?
Yes, that is true. The NPL outlook and the kind of restructuring numbers that the banks will come out with is definitely a big variable to keep in mind. The other variable which is not getting talked about a lot is the margin outlook, given that the spread for the private banks are significantly higher than their PSU counterparts. These are the couple of things which are weighing at this point in time in my view.
A bullish view on the banking sector can be taken only once we know for sure that these NPLs are going to be much more contained and at a more broader level, we need to see what is the economic outlook is going to be beyond the immediate Covid unlock related recovery. We need clarity on these two fronts to take a substantially constructive call on the banking sector.
As an investor is this not the time to buy banks because you always buy the dip and sell the high?
Yes, true, a long-term investor can possibly take this call but I just feel that there are a few other pockets in the market which have also underperformed in the recent Covid related market performance and I would like to bring out real estate developers as a class. I know it is a very small part of the market, but that can give substantially positive returns and I would be much more positive on that.
In some way or the other, I feel that the banking sector recovery, the sentiments and the stock recovery will also be linked with how Indian property markets behave because in the first part of my answer, we clearly need visibility on economic recovery beyond the Covid related recovery and that can come through only if the property markets recover. It is a very large part of the economy which has done quite badly over the last several years and we are seeing very initial signs of that segment bottoming out. But unless we get a conclusive direction on that, I would wait to turn constructively bullish on the banking and the lending space as of now.
Are you saying stay away from even the property stocks?
No, no. As I said, if you are just looking at the laggards which you mentioned, banking sector is one. I just wanted to highlight that if you are looking at the stocks or the sectors to pick up at this point in time and which have been laggards, I would say property developers is the first name that will come to my mind from a buying perspective. In fact, that sector will be my top pick today.
Do you think the time is right to bet on autos? I am talking of the non-rural segment, and ex of Escorts and M&M, are ancillaries and tyre stocks a better way of playing the auto revival story?
I would say that even the OEMs in the four-wheeler space look quite attractive within the auto space. I would agree that some of the names which are linked to the rural recovery, especially the tractor segment, is not looking particularly attractive at this point in time given the way it has had a run. Also the incremental positive news is going to come more from the urban side and the discretionary consumption side. So the four-wheeler segment appears to be a better bet within the four-wheeler space in my view.
I believe that there may be some kind of positive expectations built around the GST rate cut on two-wheelers. I don’t think it is likely and on the contrary, it can weigh down on the volumes from the end-user perspective. Four-wheelers definitely appear to be a better bet within autos.
Even though your outlook is positive, are you still sticking to the safer frontline names?
Our view is that the market view is definitely constructive. We believe that a combination of global liquidity which is keeping the risk-free rates depressed globally and in India and in the context of these lower risk-free rates which we think is sustainable, the market multiples and the stock multiples appear reasonable.
Secondly, we are seeing economic recovery shaping up nicely, responding well to the government moves on opening up the economy and from the Covid-related restrictions. Our proprietary Jefferies recovery tracker is indicating that the economy has now recovered to more than 93% of the pre-Covid levels. These two factors make us constructive on the market outlook going forward.
Within that, we are taking a more recovery stance and therefore the stocks and the sectors that we like are more geared towards the recovery side. The only space within the recovery side where we are keeping on hold at this point in time is banking, but apart from that, real estate or cement or materials or consumer discretionary including auto are the ones we favour now. We would in fact be neutral to underweight on some of the so-called safe bets like consumer staples and pharma.
And what about IT then, where does that fit on your radar?
So we have been quite positive on IT for some time because as I said, it is the best way to play the global recovery. When we talk about recovery, there is a global recovery and then there is a domestic recovery and the best way to play global recovery has been IT services or select metal names globally. While we continue to have a positive view on IT services, given the way the stocks have moved over the last few months and the valuations is clearly getting to a level where the expectations are rising. In that context, metals could be a better space to look at to play the global recovery.
What is your view on the telecom sector? For Bharti Airtel, there has been the benefit of market consolidation, a rise in ARPUs. How are you playing this space?
I would not be able to comment on stock specific details but what I can say is that the much awaited return of the pricing power for the sector seems to be getting delayed a bit and that has resulted in the sector underperforming of late over the last one or two months. My sense is that till the time we get the signs of pricing power coming back, it is not going to be an outperforming sector. I will hold my horses on that one as well at this point in time.
Are there any spaces that you would be confident to play as a rural theme?
The rural part of the economy did pretty well. It was the least impacted during the Covid-related downturn and the stock prices are already reflecting that strength in my view. When you talk about the rural plays, it is like staples or two-wheelers or tractor names and those are the names I am still going to. As I said, I keep a neutral to negative view. Maybe there could be some niche plays like some of the pipes or the pipe related sectors or stocks, those are smaller parts of the segments. At this point in time, my focus is more on the recovery which we feel is going to be urban driven, specially by the property sector. Therefore our top picks at the sector level and the stock level is more geared towards the potential property market recovery and the allied sectors.
Why are you underweight on staples?
We are clearly more constructive on the recovery side. Staples is a sector which has not really had a downtime or a downturn as such even during the Covid period as well and that has been a sector which has been like a favourite hiding place for many investors because there was a lack of growth, lack of visibility in other segments of the market and therefore the valuations on that segment on the staple side went up quite materially. But we are taking a more positive stance on the economic and also the global recovery and our overweight is more on the recovery side. Staples is not a recovery play and that is the reason why we are underweight.
We have got a big event ahead of us, the US prudential elections. Global markets only worry about the $2.2-trillion stimulus package and that is what they are awaiting. How are you tactically positioning yourselves on the eventuality of a Republican or Democrat win?
It is difficult to take a call on political outcomes, especially in the US when the contest is so close. What the market will really like is some kind of balancing of power rather than concentration of power. For the sake of argument, if US gets a Democrat president, then the markets would like to see some kind of strength for Republicans in the Congress or the other way round. My belief is that the global markets and therefore also India, would like a splitting of power between Democrats and Republicans. If it just goes one way, that is not likely to be a very positive outcome in my view.
So yes, all that we can do is wait and watch how those developments unfold. But having said that, going into calendar 2021, the outlook for US recovery still remains optimistic whether it is a Republican president or Democrat president and we continue to believe that the US government will be taking a loose fiscal stance. Also the Fed, which has already been a big supplier of global liquidity over the last six months will continue to be that way.
So whichever way it goes, we still believe that economically speaking, the outlook should still be positive. There are some tax-related issues which the parties have spoken about and we can see those tax-related changes impacting certain stocks and certain sectors in the US and maybe that has a negative impact on the rest of the world, basically on the tech side but outside of that, I would still remain constructive on the economic recovery in the US and therefore on global recovery as well.
Purely on a fiscal year basis, would you believe that on a PE basis, we have already played out the best for the markets?
PE basis appears to be expensive but actually it is not. If you compare it with the risk-free rates that we are looking at, my favourite valuation indicator is earnings yield minus bond yield. The market is at 20 times one year forward. The earnings yield is 1/20 which is like 5% and the 10-year G-sec rate is at 6%. The gap between the two is 1% and if we look at the last 10-year average, it has gone up, it has come down but by and large, the average is at about 1%.
From the valuation perspective, we are not really stretched if you put it in the context of where the risk free rate is. In fact, one can take a much more constructive view that it is not the 10-year but maybe it is like the five-year or three-year or something like that which is a better reflection of risk-free and then one can justify further rerating as well.
The conclusion is that the PE multiples or the valuation is not really out of the whack and therefore the market returns from here on should be in line with how the earnings will be. Obviously this year is going to be a bad one and next year will be a very good year on the low base of FY21 and we are looking at almost a 35-40% kind of earnings growth for the Nifty in FY22 on the low base of FY21.
So long as those expectations stay on course and my sense is it will. However, many times in the past, we have seen the earnings expectations having been revised downwards.
So to answer your question, if we look at the fiscal year outlook, in the next six months I would still be on the optimistic camp, maybe not as optimistic as before but definitely on the positive side. From a 12-month perspective, the market should easily deliver a double digit return.