Replying to Yash Ved of IIFL, Sanjay Dongre says "As the earnings CAGR growth is expected to be 17-18% during FY14-17, the market may quote at above average valuations during the period of high earnings growth. Hence the Indian market still looks attractive from medium term perspective."
The stock markets, world over, are seeing a lull after a splendid run. What is your view on the Indian stock market?
In the last one year, the Indian stock market has rallied and has delivered a return in excess of 40%. With the sensex at 28000 levels, the market is quoting at 16 times earnings of FY16 and is slightly more than the average valuations at which market had quoted in the last ten year period. Hence the upside from the market in the near term appears to be limited. In the past, we have observed that the higher earnings growth is accompanied by the above average market valuations and lower earnings growth is accompanied by the below average market valuations. As the earnings CAGR growth is expected to be 17-18% during FY14-17, the market may quote at above average valuations during the period of high earnings growth. Hence the Indian market still looks attractive from medium term perspective.
What has changed after the Narendra Modi government has come to power?
In the near term, the government is attempting to kick start the stalled projects by removing constraints related to resource mining, land acquisition, environmental and forest clearances. Cabinet Committee on Investments (CCI) is trying to expedite the processes and improve the ease of doing business in India. With revival in GDP, Indian corporate is expected to undertake capacity expansions (Brownfield and Greenfield) in the capacity constrained sectors. It may lead to revival of investment cycle in the economy. With decline in the inflation, households would be left with higher disposable income which may act as trigger for higher consumer discretionary spending in the economy.
Which sectors are you positive and negative?
With decline in the inflation, improvement in consumer sentiments is likely to precede ahead of recovery of investment cycle. Hence consumer discretionary sector is likely to do well in the near term. From 2-3 year perspective, the NBFCs and Cement sector are looking attractive.
In next 2-3 years, interest rates in the economy are expected to be significantly lower that the existing one. This may lead to lower cost of funds for NBFC which augers well for the loan growth. In cement sector, Demand- supply gap is expected to narrow considerably with lower supply additions. It bodes well for the pricing power of cement sector. Banking sector is likely to be a major beneficiary of the declining interest rates and recovery of GDP growth in the economy.
Investors should exercise their caution towards investment in FMCG and Pharma sector as most of the stocks are quoting at a very high multiple and there has been no significant earnings upgrades in the recent past.
What is the outlook on the Indian and global economy?
Inflation in the major economies such as US, Europe, China and Japan continues to remain subdued and below 2% target.. In terms of growth, US economy has recovered to grow at 2.5 – 3%. Japan is still struggling and Chinese economy is finding it difficult to grow at 7%. Euro region is staring at recession. US FED is expected to initiate tightening cycle in the second half of CY2015 coinciding with stronger US growth. On the contrary, inability of the Governments in Euro zone and Japan to implement structural reforms and presence of deflation means ECB will have no other alternative but to come out with quantitative easing at the earliest while Japan may continue with extended quantitative easing for an extended period of time.
Outlook for Indian economy continue to look bright. Declining crude oil prices and commodity prices means inflation may remain lower for a longer period of time. While US and other economies may look to raise interest rates while Indian economy may experience declining interest rates in next 12-18 months. As the Govt is totally committed to maintaining lower fiscal deficit and current account deficit in the coming years, it auger well for the recovery of GDP growth to 6%+ in the next three years.
What is your outlook on the rupee? What is your outlook on inflation and interest rates?
Rupee is expected to hold on to the support of Rs 60-63 as the central bank is expected recoup part of the reserve it would have lost while defending the currency last year. As the economy recovers, effect of foreign inflows is expected to be neutralized by the rising CAD.
Most of the commodity prices and crude oil prices have declined substantially in the last 12-18 months. With Govt embarking on the path of fiscal consolidation and focusing on keeping the food inflation under control, CPI is likely to stabilize in the range of 5-6% in the next 12-18 month period.
RBI is unlikely to cut interest rates in next 6 months. Maintaining high interest rate differential may allow RBI to attract capital flows thereby strengthening its reserves position. Fear of rapid policy tightening by FED may lead to volatility in the capital flows. RBI hopes to rebuild its forex reserve to guard against the exchange rate volatility. As the CPI is likely to trend in the range of 5-6%, RBI may look at cutting the interest rates in second half of CY15.
How do you see the liquidity situation in the country?
Overall liquidity position is likely to witness significant improvement going forward. In order to maintain inflation at lower levels for a longer period, RBI is likely to keep real interest rates positive to the extent of 1-2%. Positive real interest rates may lead to shift in the household fund flow from non productive sectors such as gold and real estate to banks deposits, debt market and equity market. This coupled with foreign fund flow both in equity as well debt markets may lead to liquidity situation improving in the country. Improving liquidity position is already reflecting in the short term interest rates prevailing in the debt markets.
How should retail investors approach the market?
In the next three years, micro-economic conditions are likely to witness significant improvement and would be accompanied with low inflation, low interest rates, declining fiscal deficit, low current account deficit and higher earnings growth. With the sensex at 28000 levels, the market is quoting at 16 times earnings of FY16 and is slightly more than average valuations at which market had quoted in the last ten year period. In the past, we have observed that the higher earnings growth is accompanied by the above average market valuations and lower earnings growth is accompanied by the below average market valuations. As the earnings CAGR growth is expected to be 17-18% during FY14-17, the market may quote at above average valuations during the period of high earnings growth. Hence retail investors should treat any correction in the stock market as a friend and increase their equity allocations.
Your advice to retail investors who wish to invest in mutual funds? How should they decide on asset allocation?
As equity assets class have far higher volatility compared to other asset classes, best way to even out such volatility is to invest through SIP (Systematic investment Plan). As the valuations are still at average levels and GDP growth has bottomed out, the equity markets are likely register reasonable returns in the medium term. In such case, investors are likely to earn handsome returns on the investment made through SIP. Depending upon the risk appetite, investor should allocate 75-100% of equity investment to diversified equity funds and 0-25% to midcap/thematic/sector funds.
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