HDFC sees financial, auto, metal stocks underperforming
05:02, 23 December 2021
Indian equity indices are headed for their best annual gains in four years but are way off the record-high level touched barely two months ago. Trade has turned choppy in the past few weeks as fears of inflation hardening and the Omicron variant spreading at a pace not anticipated is keeping investors on the fringes.
Deepak Jasani, head of retail research at HDFC Securities Limited, part of India’s HDFC financial conglomerate which includes fund and wealth management, advisory services, tells Capital.com that company earnings in the October-December quarter hold key in determining near-term market trend.
Following are Jasani’s responses to questions from Capital.com about the underlying sentiment, direction and expected trends in India’s equity markets.
Capital.com: What is the market undercurrent after Omicron discovery, spread?
Deepak Jasani: While the concern in the market for Omicron remains, it has got more to do with the spread abroad and its impact on global growth rates and global equity markets as the numbers in India are still quite small.
CC: How much of the situation has been factored in?
DJ: India has achieved a great feat in covering a large portion of their population under vaccination despite several practical difficulties and slower ramp up in supplies. This has prevented a third wave in India and the spread of the latest variant, so far, has also been slow. However, it is too early to become complacent about this as the vaccine may not prevent another infection as per studies conducted abroad though the severity may be lower. Indian markets had outperformed other markets till early December and one of the reasons for this was the apparently lower infection rate in India.
CC: Will the slide intensify or is it a correction or more fundamental? Have the bears taken over?
DJ: While the initial weakness due to Omicron fears and monetary tightening/rate hike expectations (accelerated due to calendar year-end profit-taking) seems to be discounted in the current prices, markets could look forward to further cues on pace of tightening and exact time of beginning of rate hikes. In case of any preponement is seen in these, then we could see one more round of sell-off across the globe. Also, adverse development on the Covid variant front could also impact investor sentiments. We also have the two local events that is the union budget and state elections ahead of us which could also impact the direction and momentum of the markets.
CC: What are your views on the valuations?
DJ: Indian markets were overvalued at the peaks seen in October, going by historical standards. Now that they have come down, however, going forward will depend on corporate earnings growth/Nifty EPS growth. In case we see a good upward momentum in these, then India could still continue to enjoy premium valuations, being one of the preferred emerging markets traditionally. One will have to maintain asset allocation for equities at the planned level and in case it has fallen, gradual rise in the allocation can be undertaken. On the other hand, if the current allocation has exceeded that plan, then one can sell equities to bring it down to the planned level.
CC: What are the sectors you would advise entering, exit?
DJ: Given the uncertainties mentioned elsewhere, one can focus more on defensives (fast-moving consumer goods, pharmaceutical, IT services) till there is more clarity on the economic growth and inflation across the globe. This is despite the fact that defensives may not be cheap. In case markets continue to underperform, these sectors may provide downside protection as they may fall less than the market or other sectors.
On the other hand, the over-owned sectors (financials, auto, metals, etc) may keep underperforming for some time even as investors re-weight their portfolios in favour of emerging/safer sector and stocks.
CC: What has transpired in IPO and what sentiment does it reflect
DJ: Pricing in most new age IPOs (initial public offering) was not in sync with the prospects of the company.
Indian companies have tried to ape similar IPOs in the US where also the post-listing experience has not been great. Also the fact that the IPO investors have been allotted shares at a much higher price than the last round of funding by PE (private equity)/VC (venture capital) investors a few quarters back also leaves a bad taste and IPO investors end up taking a much higher risk than the so called risk investors (PE/VC).
Greed and fear play alternately in markets. Boom and bust in IPO markets have been seen in the past and may be repeated even in future. High valuations based on reported institutional commitments led to high pricing. The valuations of new age companies have been on the higher to excessive side. This has been aided by multiple rounds of funding by VC/PE investors who raise the valuation of the entire company by putting incrementally smaller sum at high valuations in each subsequent round. A very large part of the potential upside over the next 3-5 years is already in the IPO price.
The listing/trading at a discount post listing could result in future valuations by new age companies being more modest. Though retail memory is short, the IPOs expected in the next few months will attempt to leave something on the table for investors.
Investors who put money in such IPOs should restrict the amount to be invested in each such IPO and keep a stop loss in terms of absolute loss per IPO if they do not have any medium-term conviction on the business prospects of the company.
Investing in such high priced IPOs pay off only in times of bubbly market conditions; hence investors should keep this in mind.
CC: What is your assessment of the July-September corporate earnings?
DJ: Q2FY22 (second quarter of financial year 2022) earnings season saw more companies beat at revenue, but higher miss at EBITDA (earnings before interest, taxes, depreciation, and amortisation) and PAT (profit after tax) levels as material inflation impacted gross margins and companies deferred passing on the full impact of the increase. Corporates across sectors were faced with input price pressure which impacted their operating profit margins despite robust sales growth. Corporate earnings in Q2FY22 were largely led by cyclical sectors such as O&G (oil and gas) and metals, improved asset quality in the BFSI (banking, financial services and insurance) sector, and strong top-line growth in the technology sector. Corporate deleveraging has boosted balance sheets. Going forward, the corporate sector growth will remain healthy (especially at margin levels) despite headwinds related to Covid as listed corporates have been gaining market share and have undergone rounds of cost cutting to become lean and mean.
CC: Is holding cash going to be reasonable soon?
DJ: Monetary tightening and rate hikes has an impact on equity markets for a limited period of time. We are probably half way through this. Going by past experiences, periods following the commencement of rate hikes have not necessarily been bad for equity markets. Raising cash to a high level could mean loss of opportunities in case of an upward reversal of markets, if the cash is not deployed in time. At the same time one should review their equity holdings to try and spot stocks that will have tendency to fall more than the market and reduce holdings.