Vijay Kumar Gaba

10% of the shares offered for sale are reserved for the policyholders of LIC; and 0.7% shares on offer are reserved for employees of LIC. 31.25% of the offer is reserved for household (retail) investors. Applicants from these categories will get a discount of Rs45 (Rs. 60 for policyholders) on the actual offer price. For all these categories the maximum application is restricted to a maximum of Rs2 lac; implying 230 odd shares at lower price band after discount.

LIC is an important national institution. In fact till the year 2000, it was the only life insurer in the country. Even after 22 years of the entry of private players in the business, LIC still enjoys over 60% market share in the life insurance business. On the basis of gross premium underwritten, LIC is the fifth largest life insurer in the world. Over 1.3million individuals work as agent for LIC, making it one of the largest employment providers in the country. LIC manages over Rs40trn in financial assets, which is more than the combined AUM of the entire asset management industry of India. LIC owns (on the behalf of its stakeholders) about 4% of NSE market capitalization. Besides SBI, LIC is perhaps the only truly pan India financial services brand. In fact LIC is used as a generic term for life insurance in the country. No surprise that LIC has been widely recognized as one of the most trusted Indian brands.

Considering the magnitude of the proposition, the decision to invest in LIC looks pretty simple and straightforward. Numerous reports have been published highlighting the large size, financial details, relatively cheaper valuations, and growth prospects of the LIC. I would not like to delve into these details. In my view, the LIC OFS needs to be evaluated from the following three viewpoints:

1.    Life Insurance Corporation is a statutory corporation established under the Life Insurance Corporation Act, 1956. Besides the nationalized banks, it will be the first non-company to be listed on Indian stock exchanges. The financial market regulators RBI and SEBI have limited jurisdiction over LIC. It is also outside the purview of registrar of companies and NCLT. The affairs of LIC may not be as transparent as other financial services companies. Besides, the accounting methods followed by LIC may or may not be fully compliant with the generally accepted accounting principles (GAAPs).

2.    Like all other public sector enterprises, LIC may also be subject to government intervention in routine affairs like appointment of key managerial personnel, investments, introduction and/or withdrawal of products, pricing of products, etc.

3.    Since 2000, when the private insurers were first allowed in the country, LIC has been consistently losing market share. With the popularity of digital sales channels and expansion of bank branch networks of SBI, HDFC, ICICI, it is likely that this trend may continue for many more years.

I would therefore recount my experiences of investment in Coal India (Coal mining monopoly), ONGC (Oil & Gas exploration and production monopoly) and NTPC (Power generation monopoly) at the time of listing; and also UTI (asset management monopoly) which went bankrupt due to government invention in investments process and pricing of products.

I shall not get influenced by the “cheaper valuation offered” argument; because LIC deserves to be valued cheaply than professionally managed, well regulated & transparent insurers; just like public sector enterprises (including banks).

I will not regret if LIC gets listed at a significant premium to the OFS price, since many institutional investors will be compelled to include it in their portfolios due to sheer size of the corporation and likelihood of inclusion in benchmark indices.

The government on its part has outrightly denied any power or coal crisis in the country. The concerned ministry and related officers have also assured availability of adequate coal stock.

Not surprising, the power sector has been one of the most favorite sectors with investors in the past few months. The stock prices of the power sector companies, encompassing the companies in the business of power generation, power transmission, power distribution, coal production & import, and power trading, have done materially better. In particular, stocks of the companies focusing on renewable and clean energy have performed remarkably.

Surprisingly though, the stocks of power backup companies, including generators, inverters and batteries, have done very badly in recent months despite frequent power cuts.

My understanding of the situation is as follows:

·         Presently the total installed capacity of power in India is 399.5GW. Out of this 59% (236.11GW) capacity is thermal (coal and gas based); 13% (57.5GW) is hydro; 26% (105GW) is renewable (Solar – 54GW, Wind – 40GW and Biomass – 11GW) and rest is nuclear (6.8GW).

·         In the past one decade, most of the new power generation capacities have been installed in the private sector. The addition to the nuclear capacity has been dismal despite the civil nuclear deal having been executed in 2009. The new addition to thermal power has considerably slowed in the past 4years as more and more investment is getting committed to clean sources of energy. The hydro generation capacity is also stagnant, perhaps due to environmental concerns.

·         The current daily demand for electricity is about 191.8GW, less than half of the installed capacity. The current supply is 186.6GW, resulting in about 5.2GW of shortages. Obviously it is not the paucity generation capacity which is responsible for power shortages. It is obviously the availability of fuel (coal & gas for thermal and water for hydro) that is hindering the power supply.

·         Failure in implementing reforms in the coal sector; failure in securing adequate gas supply for gas based plants; failure in securing adequate supplies for nuclear energy; are some of the primary reasons for the frequent power crisis.

·         We have committed to very ambitious clean energy targets. This definitely requires meticulous planning and execution of the transition from the legacy power generation structure. There appears to be a huge lag in managing the transition. The focus appears to have completely shifted to the 2030-2040 clean energy goals. Not enough planning seems to have been done for the transition period (2022-2030) requirements. The consumers are obviously suffering.

(All charts and Data sourced from the National Power Portal)

The reason for the latest US$150 fall in Netflix’s share price is the first ever reduction in its subscribers’ base (which may be largely due to Netflix withdrawing its services from Russia).

Six months ago, numerous analysts and portfolio managers were jostling with each other to justify a PE multiple of over 100x for the stock, citing the exciting business model and growth prospects for the company. Most of them are now rejecting the stock with sheer disdain. The following excerpts from a communication of famous portfolio manager to clients aptly demonstrate the change in sentiments:

“Today we sold our investment in Netflix, which we purchased earlier this year. The loss on our investment reduced the Pershing Square Fund’s year-to-date returns by four percentage points. Reflecting this loss, as of today’s close, the Pershing Square Funds are down approximately two percent year-to-date.

While we have a high regard for Netflix’s management and the remarkable company they have built, in light of the enormous operating leverage inherent in the company’s business model, changes in the company’s future subscriber growth can have an outsized impact on our estimate of intrinsic value. In our original analysis, we viewed this operating leverage favorably due to our long-term growth expectations for the company.”

I draw multiple inferences from this latest popular episode of investment learnings. This episode not only reinforces investment learnings that I have gathered over the past three decades; but also provides some key guidance to the current economic environment. Some of the key inferences are as follows:

(a)   The current business environment is as dynamic as it was during the industrial revolution in the late 19^th century. Most robust of the business models can become redundant in no time. “Long-Term” investing needs to be defined keeping this factor in mind.

(b)   The consumption baskets of consumers are now overwhelmingly aspirational and discretionary. The consumption patterns are therefore susceptible to dramatic change in very short term. Any investment thesis that assumes longevity of the present consumption patterns, without providing for sudden changes, could be ineffective.

(c)    Economics and markets eventually converge. Assuming the divergence between economic fundamentals and stock performance to be sustainable over the long term could be fatal to the portfolio returns.

(d)   The popularity of a portfolio manager, the size of asset under management and past track record in terms of return generated on portfolio is no guarantee of infallibility. It is important to assess a portfolio manager from the robustness of his investment process; ability to differentiate between “market euphoria” and “investment opportunity”; and most important the strength of conviction in the businesses chosen for investing.

(e)    A significant proportion of equity analysts are primarily spread sheet (e.g., MS-Excel) experts. They deftly extrapolate the latest numbers to “long-term” trends and accordingly arrive at their estimates. Their estimates are away from the actual performance in most cases. The investors must learn to distinguish between the “analyst” and “Excelists”.

Netflix is only an example of irrationality in the investment process. There are numerous such stocks in the market that need to return to normalcy. Sooner it happens, better it would be for everyone. Let all the cows return home before it is too dark.

Defense is perhaps the most talked about sector amongst traders. The need to indigenize defense technology and become self-sufficient in weapon and defense equipment production in view of the international sanctions on Russia (our largest defense supplier) is driving the sentiment. The PSUs producing for the defense sector are getting re-rated. Private players are also getting heightened traders’ attention.

The attention towards FMCG and Auto is rising but no meaningful traction has been as yet. The traders seem to like the relative under ownership, short buildup in the derivative segment, potential pickup in rural demand post good monsoon and underperformance of stocks over the past one year especially. The title of a recent ICICI Securities report aptly explains the traders’ sentiment in the sector – “Hindustan Lever - Most ‘knowns’ (concerns!) in price (somewhat!); time to ADD”.

IT Services is now the least preferred sector for traders. It is ironic that IT Services, which is the fastest growing sector with strongest balance sheets and best profitability, is a contrarian play in a market struggling with growth and profitability. In absolute terms, the results so far have been good and the guidance for FY23 encouraging. This is being undermined just because the analysts were over enthusiastic in their expectations earlier.

Infra builders, that have attracted significant market interest post the announcement of union budget, are being slowly deserted. Delay in contractors’ payments resulting in higher working capital requirements and lower profitability; slower ordering in road segment; and fiscal constraints of state governments has dampened the excitement generated by the promises in the budget.

Pharma no one even cares to talk about.

Realty is a curious one. The opinions are divided on this. One group of traders believes that the real estate cycle has just started and may last 5-6years. Second group believes that asset owners should gain in the current high inflationary environment and therefore land bank owners should do well while the developers may lag. The third group is of the view that higher rates will kill the nascent cycle in real estate as well as the lenders to the home buyers and real estate developers. This group is anticipating some asset quality concerns in the housing sector.

Financials, the heaviest weight sector in Nifty, is most confusing. The results have been good. Asset quality concerns are mostly behind. Credit demand is showing signs of picking up. The credit mix continues to shift in favor of more profitable retail loans. But still Bank Nifty has hardly changed for the past one year. Traders are holding on to the positions but the unrest is visible.

Overall, it seems the small and midacp portion of traders’ portfolios (usually 20-25%) is doing very well, while the other part is struggling.

“Favourable demographics” has been inarguably one of the major themes of the Indian economy and markets for the past two decades. The latest round of National Family Health Survey (5th Round - 2019-21) highlights that this theme might soon run out of currency and demographic dividend (income) might get replaced by demographic interest (expense).

India to become older sooner than previously expected

The total fertility rate (TFR) for India is already below the replacement threshold. TFR indicates the average number of children a woman is likely to bear during the age between 15 to 49 years. As per the global standards a TFR of 2.1 is considered the benchmark replacement ratio. At this rate of TFR, the population stops growing and new born children just replace the people completing their lives.

As per the latest survey TFR for India was at 2 (below replacement rate) in 2019-20. The TFR was 1.6 in urban areas and 2.1 in rural areas. This implies that the urban population is not only declining but also growing old fast. (Though, immigration from rural areas may show different numbers for the time being).

Rise in use of contraceptives, lower child mortality, higher institutional births, skewed sex ratio at birth (SRB), older age at marriage, and woman empowerment in most states indicates that TFR is likely to fall even further in next decade. The population of India might peak earlier than previous estimates of 2030-35 and also become older sooner than 2050.

The Survey highlights that the population of children below the age of 15 has reduced to 26.5% in 2019-21 from 28.6% in 2016-15. In urban areas the ratio is even lower at 23.1%.

Poor, infirm and obese population rising disproportionately

Bihar, one of the most poor and less industrialized states in the country, had the highest TFR of 3.0 in 2019-21. Though, the TFR for Bihar also reduced from 3.4 in 2015-16 to 3.0 in 2019-20; nonetheless this indicates that the poor population is growing at a much faster rate. The richer states like Goa, Karnataka, Maharashtra, Telengana, Haryana have TFR much below the replacement rate. This implies that economic inequalities may continue to worsen in the near future.

The worst part is that the malnourishment among children is also worsening in most poor states; implying that the proportion of infirm workers may rise disproportionately.

Incidentally, the proportion of “obese” people is rising in all states, but more so in richer states. In Andhra Pradesh, Goa, Karnataka, Telangana, Kerala and Himachal Pradesh, nearly one-third of men and women (between 15-49 years of age) were found to be overweight or obese.

Less number of girl births, but women outliving the men

The Sex Ratio at Birth – SRB- (number of girls born per 1000 boys) has improved only marginally from 919 to 929 in the five year period from 2015-16 to 2019-21. However, the proportion of women in the total population has increased to the highest ever number of 1020 women per 1000 men.

This implies that though the number of girl children is low, the women are far outliving their male counterparts.

When we juxtapose these findings to the statistics like lower education and labour participation rate, and higher dependence ratio for the women in the country, the future picture gets more worrisome. It is important to note that while the number of women mobile users and bank account holders has increased in recent years, the digital divide remains wide. The literacy rate and access to the internet remains much lower for women as compared to men.

Another area of concern is worsening SRB in the relatively richer states like Goa (838), Telangana (894), and Himachal Pradesh (875). Maharashtra (913) is also pretty low. The most literate state Kerala has seen the worst decline in SRB over the past five years. Sikkim, West Bengal, Tripura, Karnataka and Gujarat have seen some improvement in SRB; but Tripura has managed to attain a SRB of more than 1000.

Household infrastructure improving materially

The survey finds that the proportion of households with electricity and improved drinking water sources has increased across all states. The number of Households with an improved sanitation facility has also increased across all states; though significant disparities still exist state wise. Over 99% households in Kerala have an improved sanitation facility, while only 49% households have it in Bihar. 

Similarly, the proportion of households using clean fuel for cooking has also increased across nearly all states.

Investment implications

The changing demographic trends will have significant implications for the economy and markets.

As the population grows older and the number of dependents (non-working population) rises, the pressure on the fiscal to support the public will rise and the taxable universe will shrink. Obviously, the incidence of tax on the rich and middle classes will increase.

The consumption patterns of the population will also shift with the median age moving higher on the curve.

The work force will shrink and wage rate inflation will become much steeper. The need for greater degree of automation in manufacturing and delivery of services may continue to increase.

The stocks trading at 60-70 PE multiples, assuming a secular growth over next many decades would need to be reassessed. A fast aging and dwindling urban population with slower income growth rates may not be a good sign for sectors like housing, personal mobility, etc.

The flow of data is so overwhelming that discerning the important from the redundant has been a real challenge; especially because important is usually very marginal and underwhelming. The redundant, manipulated and superfluous is forcefully pushed and pursued relentlessly. The lines between the truth and untruth, conscientious and manipulative, data and information, relevant and redundant have been obviously obliterated or should I say brutally violated.

Most of the financial and economic literature I have come across in the past couple of years has focused on analysing the topics like digitalization of economy, modern monetary theory (unsustainability of it and disastrous likely consequences), spectre of hyperinflation, pandemic and its long term economic consequences, geopolitical reset (deglobulisation, ultra nationalism etc.).

The financial and economic literature does not appear to have adequately emphasized on some megatrends that may have far reaching implications for the global economy. I, of course, write this fully acknowledging the limitations of my small knowledge base.

Three of these could be listed as follows:

Rise of new class of feudal czars

The world is now being increasingly dominated by corporate czars. Though, the role of large corporate in policy making was always material; but in earlier days it was mostly limited to the areas of taxation and banking. In recent years these large corporates, especially the digital businesses, have become all pervasive. They blatantly influenced geopolitics, domestic & international politics, fiscal policies, and markets (including household consumption patterns), etc.

The communist China has taken decisive action and curtailed their area of influence. But democratic USA, UK and Europe etc. are meekly surrendering to this new class of feudal lords. The politicians and administrations are happy being subservient to the corporations that have grown much bigger than the entire economy of a large number of countries.

Most of the global population is not only within the sphere of their influence but addicted to their products and services. For example, a one week shutdown of google services could be catastrophic to the world. When was the last time one corporate so important to the world?

This demise of democracy at the altar of corporate feudalism will of course have far reaching implications for the global economy.

Abandoning the basic principles of economics

The principles of classical and neo-classical economics are being violated with impunity; and while doing so no new economic theory is being propounded. It appears that global markets are abandoning the theory of economics per se. Of course, we shall witness chaos in the global markets, till a new framework is put in place, or we decide to revert to the old system.

Some examples of abandoning the basic principles of economics in favour of chaos are as follows:

(i)    The factors of production (man, money, land, machine & technology) are finite and should be used in an optimum manner. The resources should be allocated to the most efficient producer to achieve the economies of scale, optimization of cost and maximization of productivity.

However, diminishing cooperation and growing mistrust between countries is violating this principle. Geopolitics rather than economics is guiding the allocation of scarce resources.

(ii)   Goods or services of economic value must have a price at which it could be exchanged.

But some of the most used services (e.g., Google search) in the world are now free. In some cases, people are even paid to use some of these services (e.g., digital payments). Online trading platforms are selling goods at much lower rates that the cost of procurement. Interest rates have been negative on trillions of worth of bonds for years now.

(iii)  Competition is good for the economy.

Markets for many large products and services are becoming monopolies and oligopolies. Competition is not being allowed to develop.

Distancing of human beings

The trend for the past few decades was shortening of distances. Technology was bringing people closer. However, the past few years have seen the trend reversing suddenly. Technology is increasingly facilitating people to isolate themselves from the outside world. The dictum “Man is a social animal” appears to be becoming completely redundant.

This trend, if it gathers more momentum, shall catalyse reorientation of many things. The businesses, services and administration may now begin to focus more on secluded individuals, rather than families and communities. The concept of cities and villages might need rethinking. The political system which are based on people acting in groups (electoral democracies, participative communism, etc.) may become redundant for lack of participation.

Of course, there is no investment theme in these thoughts. But I feel these are not entirely random or utopian thoughts.

I shall be happy to receive views from the readers.

(i)    The management commentary for FY23 would be important to understand the impact of global growth, inflation and geopolitical conditions on Indian businesses. BY now most of the corporate management would have assessed the impact on their respective businesses and their assessment would be reflected in their guidance for FY23.

(ii)   The present earnings estimates of analysts for FY23-FY24 may not be factoring the latest developments, especially with regard to monetary policy, inflation, and demand outlook. Since the previous result season most agencies have downgraded India’s growth forecast; increased inflation (wage of raw material cost inflation); rates (cost of capital); and currency (import inflation) forecast. The latest results may see analysts rationalizing their forecasts to factor in latest management guidance; macroeconomic forecasts and market (demand) conditions. This shall give a more realistic picture of the current market valuations.

(iii)  Past one year has seen a massive secctoral shift in momentum. The focus has shifted overwhelmingly towards commodity producers (especially metal and energy) from commodity users (FMCG, consumer durable); deleveraging (financials suffered); asset inflation (real estate) and exports (Textile, IT Services, Food etc.). Recently we have witnessed momentum moving away from IT Services (due to margin concerns) and Realty (demand concern as cost of funds rise). The latest quarter results and management commentary would either strengthen the current sectoral preferences of the market or cause a sectoral shift. I shall be closely watching the IT, Financials and Metal sectors for a change in preference. A positive commentary on rural demand may trigger a positive move in FMCG and Auto also.

I have noted the following forecasts of brokers for the current result season. The market participants mostly appear positioned in consonance with these forecasts. I shall be watching the results for any significant deviation that may trigger repositioning in the market, and hence create some trading opportunities.

Overall Results

Q4 FY22 and Q1 FY23 are likely to be challenging quarters for Corporate Inc as they try to strike a balance between rising input costs and demand.  Hike in prices has so far been well absorbed, with demand remaining intact. This can be reflected in revenue projections for our coverage universe, which is likely to grow by 25% y/y despite a higher base effect. In fact, Q1 FY23 revenue growth is also likely to remain robust given the depressed activity in the first quarter of the preceding fiscal year.

Things are not rosy on the operating margins front, which is expected to contract by 27bps sequentially and 97bps y/y basis. As commodity prices continue their surge, companies endeavor to further pass on the costs but remain cautious on the impact on demand. This will likely translate into margin pressure in the quarters ahead. However, we see that the price hikes could be a blessing in disguise in the medium term, especially when sales realisation remains intact even after commodity induced cost escalation subsides.

Adjusted PAT is likely to grow by 32% y/y, largely driven by strong performance from Banks. Automobiles to see steep contraction of 50%, hampered by both supply side issues and rising input costs. (Yes Securities)

IT Services

Margin pressure bites in a seasonally weak quarter. Sequential growth for Indian IT will be moderate in March 2022 quarter and in line with historical seasonal trends. Margins will remain under pressure resulting from elevated wage increases, onsite as well as offshore. Net result is a moderate EPS growth on yoy and moderate growth to decline on sequential basis. Rupee depreciation is essential to bridge the gap between cost increases and moderate price increases in FY2023. Demand trends continue to be robust. While we are constructive on the space, we are surprised with resilient stock prices against the backdrop of increasing risks. (Kotak Securities)

We expect the demand outlook to remain strong in FY23, although the initial guidance may bake in a potential impact on demand from elevated inflation in the US and Europe. Companies will continue to post strong growth numbers on the back of tailwinds for the industry on account of Digital and Cloud transformation initiatives with enterprise clients. Hiring trends in recent quarters indicate continued strength in demand with good visibility. (MOFSL)

IT Services sector is expected to report strong growth in Q4FY22 primarily on account of the new large deal wins and a ramp-up of deals won in the previous quarter despite seasonality furloughs. IT spending in North America and Europe has gained momentum and demand for digital transformation has increased exponentially. Furthermore, improved macro-economic opportunities across the globe are expected to provide further growth impetus to the sector moving forward. However, supply-side constraints are likely to impact revenue growth momentum in the short term. (AXIS Securities)

Financials

We expect a strong quarter on earnings growth for banks in 4QFY22, but driven solely by lower provisions. Operating profit growth for banks would continue to remain weak. We expect further improvement in asset quality ratios. Weak loan growth remains a key concern. We expect strong performance from NBFCs across growth, margins and asset quality. (Kotak Securities)

Our estimates indicate continued traction in earnings over FY22/FY23 even as we expect treasury income to remain modest and near-term opex to remain elevated. Further, this momentum is likely to continue over FY23E as well, as we project Private and PSU banks to report earnings growth of 30% and 36% in FY23, respectively. Overall, our Banking coverage universe is anticipated to report earnings growth of 33% in FY23, after posting strong growth of 46% over FY22E.

Asset quality outlook robust; core credit cost undershooting across banks: We estimate slippages to remain modest, which along with healthy recoveries and upgrades would result in an overall improvement in asset quality – barring the mid-sized banks that could see stable trends. The Retail and SME segments could experience some slippages; however, the Corporate segment is likely to remain resilient. While the performance of restructured book would be important to assess the credit cost trajectory, we nevertheless estimate credit cost to undershoot across banks, thereby enabling further shore up of contingent/restructured / SR provisions. (MOFSL)

Consumers

The 19 Consumer companies under our coverage universe are likely to report muted cumulative growth numbers – revenue/EBITDA/PAT of 8%/7%/5% – in 4QFY22. This is on a cumulative sales/EBITDA base of 26.7%/26% in 4QFY21. Two year average sales/EBITDA growth is expected to be 17.2%/16.3%. Sales growth will largely be led by price hikes as Staples volumes hover in the negative to slightly positive range, impacted by spiraling inflation and a slowdown in rural demand. Inflation has been the theme in 4QFY22, with already elevated commodity costs pushed further upwards owing to the Russia-Ukraine war, which broke out in Feb’22. With most companies having taken steep price hikes in 3QFY22, managements were already apprehensive of raising prices further as it risked affecting demand.

However, spiraling input costs compelled most managements to raise prices further in an effort to protect margins. The recent correction in stock prices has resulted in pockets of opportunities, especially in companies with a lower exposure to commodity cost pressures and strong structural growth visibility. In the case of distribution channels, e-commerce continues to strengthen its salience for most Consumer companies, while general  trade (GT) remains resilient. Recovery in the MT channel, while still not back to pre-COVID levels, is certainly well on its way. However, the recovery in certain categories may not be as strong as consumers tighten their purse strings when looking at discretionary purchases. A few key developments to monitor include: a) a fresh COVID wave engulfing the country, b) further escalation in the ongoing conflict in Ukraine continuing to affect commodity costs, and c) extended slowdown in rural demand. On the positive side, a good Rabi harvest may help boost rural demand. (MOFSL)

Consumer discretionary

We expect the consumer discretionary to report slower revenue growth of ~8% YoY in Q4FY22 mainly due to high base (+41% in Q4FY21) and lower volume offtakes. Volume offtake of coverage companies is likely to decline in the range of 7-12% on account of pre price hikes inventory built by dealers in Q3 and lower demand amid pandemic led restrictions.

Sector wise, paint companies are likely to report revenue growth in the range of 7-9% YoY led by price hikes of ~21% taken during 9MFY22. On the fast moving electrical goods (FMEG) front, the coverage companies are likely to see revenue growth in the range of 5-9% driven by price hikes of about 15-17% in 9MFY22. We believe extended winter and pandemic led restrictions have restricted volume offtake of cooling products.

Key raw materials such as titanium dioxide (TiO2), vinyl acetate monomer (VAM), aluminium, high density polyethylene (HDPE), low density polyethylene (LDPE) witnessed upward movement in the range of 9-60% YoY. We believe limited price hike against the steep rise in raw material prices is likely to weigh on gross margins. (ICICI Direct)

Cement

Our dealer checks suggest that cement off-take improved significantly in the last two weeks of March 2022, resulting in flat yoy (+19% qoq) volumes in 4QFY22 despite a subdued start. We estimate 1% qoq higher realization and costs to remain flat qoq as operating leverage benefits offset commodity cost inflation. We estimate EBITDA to improve by ~Rs100/ton qoq for our coverage universe in 4QFY22. Costs inflation would further accelerate in 1QFY23 and would require 7-8% price hike to pass costs, suggesting significant downside risks to earnings estimates. (Kotak Securities)

In 4QFY22, a sharp divergence in earnings can be expected depending on the ability of the companies to source coal or petcoke at relatively competitive rates. For 4QFY22, we are building in 9.3% YoY revenue growth for the sector, driven by ~9.7% YoY growth in realization whereas volume is expected to remain flat (marginal decline of 0.3% YoY). Average realization on QoQ basis is expected to rise by 2.3% only. On the other hand, operating costs are likely to increase by 21% YoY, largely driven by higher power & fuel costs. As a result, we expect the industry to deliver EBITDA decline of 26% YoY. EBITDA/mt for the industry is likely to increase marginally from Rs900 in 3QFY22 to Rs920 whereas EBITDA margin is expected to remain flat QoQ at 16.5% (down 785bps YoY). PAT is likely to decline by 31% YoY. FY23 appears to be a tough year for the industry as coal prices are expected to remain elevated for a prolonged period given the global tightness in supply and geopolitical tensions. (Nirmal Bang)

Speciality Chemicals

We see the likely hit on demand as well as margins from the supply disruption across energy, fertilizers and chemicals sectors, aggravated by the Russia-Ukraine conflict, cast a shadow on 4QFY22E for NBIE Chemical stocks. The buoyancy in freight rates (up more than 100% YoY) is an added worry. On the brighter side, we see pricing power supporting margins. (Nirmal Bang)

Oil and Gas

We estimate the oil & gas sector’s aggregate EBITDA would increase by 11.2% YoY/3.1% QoQ, given OMCs’/ONGC’s high GRMs and higher realisations. We anticipate CGDs’ EBITDA would dip by 20.5% YoY owing to high input spot prices (~3.5x YoY) and lower margins. (Edelweiss)

Auto

We forecast revenues for the auto stocks under our coverage to remain flat yoy in 4QFY22 led by (1) chip shortage impacting PV production volumes and (2) weak 2W segment demand, offset by (1) recovery in CV segment volumes and (2) higher ASPs. We expect EBITDA for companies under our coverage (excluding Tata Motors) to decline by 10% yoy due to multiple cost pressures. Suppliers will also have a weak quarter with 18% yoy decline in EBITDA in 4QFY22. (Kotak Securities)

For example, the following are some of the red flags I have recently noted from the research reports of brokerages:

BoP almost zero, as foreign flows dry up: 3QFY22 saw a marginal net foreign investment outflow of US$1bn compared with the past five-quarter average of ~US$20bn. This is mainly due to: 1) FPI turning negative with outflow of US$6bn, and 2) FDI dropping to US$5bn compared with the recent quarterly average of US$13bn. FII selling has worsened in 4Q, with our latest estimate putting it at US$15bn vs US$7bn for the whole of 2021. As the US Fed continues tightening, FIIs may not be major buyers for the rest of the year, though they may not sell too much either, after a concentrated burst in 4QFY22.

The Balance of Payment (BoP) was close to zero for 3QFY22, as compared with the average of US$23bn, as CAD widened and foreign-flows investments dried up.

We estimate CAD at 1.6% of GDP for FY22, and believe it will widen to 3% of GDP if crude stays at around US$100/bbl. On the face of it, this could worsen as agri input prices have also spiked. But including India’s non-fertiliser agri exports, we could see a broad CAD impact from agri owing to high commodity inflation turning out to be modest, leaving direct crude imports as the main reason for CAD worsening. (IIFL Securities)

External sector headwinds will continue well into FY2023E: The external sector remains subject to major volatility amid differential monetary policy stance with the Fed and the unrelenting commodity price surge. Adjusting for the FY2022 export and import data, we estimate FY2022E CAD/GDP at 1.5%. If oil prices were to average around US$100/bbl in FY2023E, we expect the CAD/GDP to widen to 2.8% (Exhibit 6). The BOP is expected to remain hugely in deficit given (1) widening trade deficit, (2) the continued flight of capital to safe havens and high yielders due to narrowing interest rate differentials, and (3) persistence of geopolitical risks. Overall, as markets continue to assess the growth-inflation impact from the rapid global policy normalization and geopolitical risks, we expect the INR to remain under pressure. However, India’s FX buffer of US$620 bn should be sufficient to shield the economy against any major external shock. We also note that the direction and magnitude of INR moves will be in sync with the rest of the EM pack. If the risk premia of geopolitical tensions fade quickly, they can provide brief respite to the INR. We see USD-INR trade in the range of 75-77.5 in the months ahead. (Kotak Securities)

21% contraction in P/E valuation versus 14% dip in NIFTY50 index from CY21 high to CY22TD low - NIFTY50 forward P/E ratio hit a high of 22.8x during Oct’21 before reverting back sharply to 18x during the low hit in Mar’22 which is a contraction of 21% in terms of forward P/E valuation. The sharp decline is the net result of a 14% decline in NIFTY50 index price and 8.5% growth in rolled forward EPS. Post the upswing in stock prices from Mar’22 lows, the latest NIFTY50 forward P/E stands at 20x or (~5% earnings yield) which is a drop of 12% from the Oct’21 highs. (ICICI Securities)

Two-thirds of the sectors are trading at a premium to their historical averages: The Nifty trades at a 12-month forward P/E of 19.8x, near to its long period average (LPA) of 19.3x (at 3% premium). P/B, at 3.2x, is at a 21% premium to its historical average. India’s market capitalization-to-GDP ratio has been volatile, reaching 56% (of FY20 GDP) in Mar’20 from 80% in FY19. It has rebounded to 115% at present (of FY22E GDP), above its long-term average of 79%. Healthcare and Oil & Gas now trade in a reasonable range to their LPA valuations, while Technology, after the sharp run, trades at a 52% premium to its LPA. Financials are trading at near to its LPA on a P/B basis.

As we step into FY23, we believe, the next two quarters are going to see a sharp margin impact and corporate commentaries will worsen before it gets better. Secondly, while the Nifty has not seen much earnings downgrade so far (thanks to upgrades in Metals/O&G and neutral to no impact in IT/BFSI), the broader universe is clearly bearing the brunt of commodity cost inflation – a trend we saw even in 3QFY22 corporate earnings season. That said, if the input cost situations do not improve and price increases become inevitable, we are not too far away from some demand dislocation in an already weak economy. And this, at some point in time, will lead to earnings downgrade even for the Nifty, in our view. (MOFSL)

Consumption to remain subdued in FY23: Consumption demand as measured by private final consumption expenditure (PFCE) has been subdued in FY22, despite sales of select consumer durables showing some signs of revival during the festive season. Although the January 2022 round of Reserve Bank of India’s (RBI) Consumer Confidence Survey shows that Current Situation Index increased marginally on the back of better sentiments with respect to the general economic situation, it continues to be in the pessimistic zone. The Expectations Index, which captures one year ahead outlook, moderated due to the surge in COVID-19 infection cases in January 2022. Household sentiments on non-essential/ discretionary spending continue to be subdued. As the consumer sentiment is likely to witness a further dent due to the Russia-Ukraine conflict leading to rising commodity prices/consumer inflation, Ind-Ra expects PFCE to grow at ~8% in FY23, as against its earlier projection of 9.4%. (India Ratings)

Growth moderation in SME and auto to delay credit revival: The recent revival in credit demand (loan growth moving to 8-9% YoY) is likely to be tempered by the expected macro slowdown. CS sees a potential hit to GDP of up to 3%. We believe certain segments such as autos, SMEs and mortgages are more likely to see a dampening in demand and lower our overall bank loan growth estimates by 2-4%. We still expect relatively benign asset-quality outcomes and risks primarily limited to certain pockets, such as autos (particularly CVs if fuel prices increase substantially and sustain) and SMEs, particularly on the restructured and ECLGS books. Asset quality on home loans is unlikely to be materially impacted, as even after a 100bp rate hike, if banks were to increase the tenure by two years, EMIs would be flat. Corporate profitability is likely to get crimped from rising commodity prices but, given the deleveraging, we believe the risks are contained. (Credit Suisse)

Bigger risks loom on top-line, earnings: Earnings recovery has narrowed in FY22, after a broad-based rebound in FY21. While FY23 bottom-up EPS estimates reflect recovery, from top-down basis broad-based slowdown risks have increased as: i) Banks’ earnings will pivot from credit costs (now normalised) to asset growth (yet to pick up). BoP shock and weak demand could delay its recovery; ii) Domestic earnings challenges will broaden from margins to encompass demand, as tailwinds from market share gains, strong formal sector wage bill growth fade. Although, higher food prices may lift rural demand; iii) Strong exports earnings (IT, chemicals) could slow down as oil shock and tightening global liquidity weigh on demand; iv) Commodity earnings could remain stronger for longer, but hawkish Fed will eventually lower it as the war ebbs. (Edelweiss Research)