Stock markets not in comfort zone, future performance to depend on NPA clarity in financial sector

Updated: Jul 15, 2020 7:51 AM

Q1 results are likely to be a washout across most sectors, but that is well known. Management commentaries of companies on the pace of recovery will be more interesting.

Naveen Kulkarni, chief investment officer, Axis SecuritiesNaveen Kulkarni, chief investment officer, Axis Securities

By Urvashi Valecha

While Q1 results for financial year 2021 are expected to be a washout, management commentary on recovery will be more interesting, says Naveen Kulkarni, chief investment officer of Axis Securities. In an interview with Urvashi Valecha, he explains why foreign institutional flows are likely to taper going ahead. Edited excerpts:

FPIs have slowly started buying into the Indian markets again, their June inflows were at $2.7 billion against the outflow of $8.3 billion in March. What is your outlook on flows — both domestic and global?

The flows in the equity markets have become pretty global in nature as they synchronise with global risk on and risk off trends. Globally, we are seeing a risk as flows have increased worldwide and India has been no exception. However, the market levels have now reached a point, which is not in the comfort zone from a valuation standpoint as valuations have breached mean levels. So, from here flows into the equity markets are likely to taper, especially from the foreign institutional investors.

What is your expectation out of the upcoming Q1 results and how, in your view, will the markets react to them?

Q1 results are likely to be a washout across most sectors, but that is well known. Management commentaries of companies on the pace of recovery will be more interesting. At present, the market seems to be factoring in normalisation across multiple sectors.

What would a Covid-19-proof portfolio look like?

Our top 10 ideas at this point are ICICI bank, Bharti Airtel, ITC, Minda Industries, HCL Tech, Mind Tree, Varun Beverages, CCL Products, Manappuram Finance and Biocon.

Indian markets have outperformed most global indices in June, but we are still under-performers year to date. Do you see us covering up going forward or will we remain laggards?

One of the key reasons is that India has a very high contribution to the banking, financial services and insurance (BFSI) sector in the leading indices. As BFSI underperforms, the broader index also underperforms. So, while India has seen a catch-up rally, further performance from here will depend on the clarity on non-performing assets (NPAs) in the BFSI sector. So, if there is clarity in the sector, India will outperform, otherwise it is likely to underperform as bulk of catch up in other sectors has already happened.

Polarisation has been a big theme for the last several years. How will that play out in a post-Covid-19 world?

Polarisation in the market depends on investment options with respect to business performance and valuations. In the post-Covid-19 environment, too, polarisation across a few themes like digital, pharma, consumer, rural is likely.

Banking stocks have underperformed the equity markets in the rally since April, why is it so? Do you envisage a change in leadership of the financials?

The bulk of pain of the lockdown will be seen in the BFSI sector as it is a leveraged play on economic growth. When economic growth turns negative, the leverage in the banking system leads to increased NPA challenges. However, the current challenge will be difficult to assess the system pain, as moratorium in the system makes the level of NPAs quite difficult to quantify. So, management commentary after the quarterly results, provisioning for NPAs and possible restructuring will impact the performance. At this point, the clarity on these aspects is eluding, so BFSI could underperform for some more time

How will consumption and pharma sectors fare six months down the line?

Consumer and pharma sectors are doing well in terms of business normalisation. So, the staples and pharma sector could perform quite okay in this environment

What are your overweight and underweight sectors?

We are overweight on the telecom, IT, consumer and pharmaceuticals sector. We are underweight on financials, infrastructure and commodities

How are you advising investors in the current market?

We are currently advising investors to calibrate risk at current market levels. Reduce portfolio beta, focus on exports, consumer, telecom and IT sectors with better earnings visibility.

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