Equities have been volatile of late. What is your outlook for the year ahead
The equity market has still not priced in the growth and earnings slowdown. The midcap index, which has lost more than 20% in the last six months, is probably a more telling state of the real economy. Sensex and Nifty do not reflect the real slowdown as FMCG, Pharma and IT are still holding on. In this kind of demand slowdown and hostile external environment, the broad markets are expected to remain under pressure. Companies that have undergone cost rationalisation, have strong cash positions, earnings visibility and leaner balance sheets are expected to remain market leaders.
How will the sustained weakness in the rupee impact the market
The rupees weakness is the biggest risk to Indian equities. A sustained weakness in the INR will further aggravate the current account deficit problem. The currency weakness will manifest in rising inflationary pressures as both input and output price rise. Such a scenario may compel the RBI to run a tighter monetary policy or even hike interest rates, severely impacting domestic growth. Tight liquidity in the near to medium term may impact many cash-tight corporates, further impacting the capex cycle. A system-wide asset quality issue in the banking system may aggravate and start a vicious cycle. Besides liquidity, worsening government finances in a pre-election year and global factors will play on the market sentiment.
Are there any positives for the market going forward
The biggest positive for the market in the near term will be the moderation in oil prices, slowdown in gold imports and the resultant reduction in trade deficit numbers, which, in turn, will support the rupee.
A good monsoon is expected to add to the disposable income of rural India and ease food inflation, which would help sustain consumption demand. Higher agricultural growth is expected to have a multiplier effect on the overall GDP growth. Also, the stress of the last 4-5 years has forced corporates to clean up their balance sheets, restructure and embark on cost cutting measures. Besides, the government may take action on prolonged issues highlighted by credit rating or multi-lateral funding agencies.
What is your assessment of the Q1 results
We feel earnings downgrades would continue for a large part of the market. The prolonged slowdown, policy logjam, depreciating rupee, populist measures and recent RBI measures causing liquidity tightness mean that the stress for government finances and corporate balance-sheets would only increase. Banking & finance, oil & gas, industrials, engineering, infrastructure, cement, metals and mining sectors may see earning downgrades due to slower growth, margin compression and rising interest costs.
What is your outlook on FII investment in the year ahead
Equity flows are drying up as large FII flows are headed to developed markets such as the US, Europe and Japan at the expense of emerging countries. Fresh FII inflows in equity markets are expected to be focused on large-cap companies with a strong cash position, healthy market capitalisation, liquidity and earnings visibility. The Feds follow up on the withdrawal of QE3 will be keenly watched by market participants.
Sectors you are betting on...
We are overweight on technology, pharma, media and telecom. Companies from these sectors are showing good revenue traction with better sector fundamentals. Technology and pharma are also benefitting from a weaker rupee. We are maintaining overweight exposure on cement as the sector is a good proxy to infrastructure build-up and balance sheets of companies in this sector are fairly healthy and cash generating.
We are bearish on the PSU banking space due to possible margin compression and rising operating expenses going forward as well as serious asset quality issues. These banks are also undercapitalised with respect to the upcoming Basel-III requirements. We also have negative views towards industrials, infrastructure and metals. We have minimum exposure to the oil & gas sector.