Vijay Kumar Gaba: Indian Equities

Showing posts with label Indian Equities. Show all posts

Tuesday, March 21, 2023

Indian equities sailed the turbulent decade very well

The past 10yrs (2013-2022) have been a period of great uncertainty and turbulence for the global economy, financial system and markets which were considerably weakened by the global financial crisis in the preceding five years.

Supported by abundant liquidity and lower rates, the markets weathered Tapering 1.0; Brexit; Covid-19 pandemic; Sino-US tariff war; remarkable shift in weather patterns; handing over Afghanistan to Taliban; Russia-Ukraine war; out of control inflation; and burst of technology stock bubble rather well. The end of near zero rate regimes and monetary tightening in the past one year has however made the markets jittery.

The current generation of the market participants (investors, bankers, analysts, intermediaries, and policy makers etc.) who are in their 20s and 30s have never practically experienced persistently higher inflation and consistently rising interest rates. They might have read case studies of the 1970s and 1980s era; but that is usually not a good substitute for personal experience. No surprise that their response to the situation, in terms of strategy, has so far not been adequate.

Despite historically low rates and unprecedented liquidity, the economic growth has been dismal and returns on various asset classes are not commensurate with the risk involved. Emerging markets which are usually beneficiary of lower rates and easy liquidity conditions have struggled, in terms of growth, asset prices and price stability.

Commodities performance subdued

Commodities that are considered proxy to growth, e.g., copper and crude oil, have fared poorly over the past decade despite near zero rates and abundant liquidity. Nymex crude oil prices have yielded a negative 2.3% CAGR; while copper has growth at a CAGR of 2.5%.

During 2020 we saw a massive anomaly in crude markets when Crude Oil futures traded at a massive negative US$37/bbl price for a day. Similarly, the Russia-Ukraine war and subsequent NATO sanction on Russia, created massive uncertainty over availability of gas to major European countries, sending them on a gas hoarding spree. Natural gas prices rose over 100% within 6months of the beginning of war; only to correct 80% from the recent highs closer to 2020 Covid lows.

India has held well

In all this turbulence and mayhem Indian economy and markets have held up strong and steady. Though things have been challenging in the past six quarters; over the past decade Indian assets (Equities, INR gold, bonds and USDINR) have yielded decent returns, outperforming most emerging markets and developed market peers.

The benchmark Nifty50 yielded an 11.3% CAGR in local currency over the past 10yrs. Even in USD terms, it yielded a decent 7.7% CAGR, much better than Chinese, Japanese, and European equities. USDINR depreciated at a CAGR of 3.4% over the past decade, making it one of the most stable currencies amongst larger emerging economies.

Cryptoes emerging as popular asset class

Cryptocurrencies have emerged as a major asset class over the past one decade. The value of the top cryptocurrency, BITCOIN, has grown at a CAGR of ~75% over the past one decade. Of course, given the poor understanding, still lower acceptability and strong challenges from governments, central bankers and traditional bankers, the volatility in prices of cryptocurrencies has been extremely high. Of late we have seen gradual rise in acceptability of Bitcoins.

A number of unscrupulous and untested business models emerged in trading, custody, and/or otherwise transfer of cryptocurrencies; causing tremendous losses to the unaware and greedy investors. This may reduce over a period of time as acceptability and awareness about cryptocurrencies improves.

Trend may continue in medium term

Currently a number of developed economies are struggling with demographic challenges; massive monetary overhang; unsustainable public debt; geopolitical tensions, and leadership vacuum. On the other hand, the Indian economy is gaining strength on the back of a favorable demography; disciplined fiscal; exemplary monetary policy; a decade of massive investment in capacity building, especially in physical infrastructure and import substitution (also see Time for delivery is nearing). It is therefore likely that Indian assets may remain steady and offer decent returns over the next decade also.

Friday, March 10, 2023

Some notable research snippets of the week

Agriculture: Tight supplies from Australia (ING Bank)

In its first estimates for 2023/24, ABARES estimates Australia’s agriculture supply to drop significantly next year due to dry weather as a result of El Nino.

Among major crops, the department expects total wheat output to drop from 39.2mt in 2022/23 to just 28.2mt in 2023/24 whilst exports will also decline from 28mt to 22.5mt. Among other crops, sugar exports could fall 6% YoY to 3.5mt whilst canola exports could fall from 6.9mt in 2022/23 to 4.9mt in 2023/24.

The latest trade numbers from Chinese Customs show that cumulative imports of soybean in China rose 16.1% YoY to 16.17mt over the first two months of the year, a record high for this time of the season. Healthy demand for soybean and concerns over a delayed harvest in Brazil pushed up imports of soybeans in the country.

Meanwhile, the latest data from Ukraine’s Agriculture Ministry shows that the nation exported around 33mt of grains as of 6 March so far in the 2022/23 season, a decline of 27% compared to the 44.8mt of grain exported during the same period last year. Total corn shipments stood at 19.1mt (-6% YoY), while wheat exports fell 38% YoY to 11.4mt as of Monday this week.

Aluminium outlook healthy but limited price upside in FY24E (BoB Capital)

Aluminium price has fallen 9% since Jan’23, with industry experts attributing the correction to the need for a more aggressive US Fed and the possibility of higher interest rates for longer.

H1CY23 pricing to be range-bound...: Our channel checks suggest global aluminium prices will remain in a tight range of US$ 2,300-2,500/t amid a continued surplus in China which is facing a sluggish demand recovery and the risk of below-mandated supply cuts. Outside China as well, demand is likely to be under pressure in H1CY23 even as exports from China are likely to fill any supply gaps. The levy of higher import duty on Russian aluminium by the US will not affect market flows much.

...with similar trends through CY23 as markets regain balance: Key drivers for potentially flattish aluminium pricing through CY23 include (a) the return of modest demand growth across both China and the rest of the world, (b) adequate Chinese supply with the likelihood of lower production cuts, (c) slower return of curtailed European production, and (d) easing of energy inflation.

Long-term price expectations softer but still healthy: With demand in China maturing, the need for new primary aluminium capacity beyond the government’s mandated production cap of 45mt decreases. The focus is likely to shift to more scrap generation to increase secondary production of aluminium. Outside China as well, new smelters with coal-based power generation sources are unable to arrange financing. Hence, the probability of pricing breakeven for a new smelter from a high-cost existing producer is reducing, lowering the potential price range in the long run.

Implications for Indian aluminium players: With aluminium price movement likely to be limited in the near-to-medium term, we believe margins for Indian aluminium players will be dependent upon domestic coal availability and international coal prices. Given Coal India’s concerted efforts to raise coal production and the allocation of coal blocks to producers, the competitive position of Indian aluminium players is likely to improve over the medium term, in our view.

IT Services: Cuts to Client Estimates Suggest Further Risks 9Jefferies Equity Research)

Top-clients an important indicator for growth in IT services firms: The top-10 clients constitute 19-36% of revenues for Indian IT firms, and have been an important growth driver for Indian IT firms during 9MFY23. IT services firms with lower growth in Top-clients have also lagged in-terms of overall growth. The aggregate revenue growth of top clients we have identified have a strong 84% correlation with aggregate revenue growth of our covered IT firms.

Stabilizing growth expectation but profitability pressures for CY23: At an aggregate level, CY23 revenue estimates for top clients of IT firms have not seen any meaningful changes YTD, with only a 20bps moderation to CY23 revenue growth. However, concerns around profitability have persisted and aggregate margin/PAT estimates for CY23 have been downgraded by 50bps/4%. At a company level, CY23 revenue estimates for top clients of TechM, Wipro & LTIM have been downgraded by 1-2%. However, CY23 revenue estimates for top clients of Infosys, Coforge & HCLTech has been revised upwards by 2% each.

Concerns seem to be shifting towards CY24: At an aggregate level, CY24 revenue estimates of top clients have been cut by 1% YTD with CY24 growth forecast witnessing a cut of 45bps. Among companies, consensus revenue growth estimates for CY24 have been lowered for top clients of all IT firms, barring Wipro, with the highest cuts of 80-180bps for HCLT & TechM. Additionally, profitability pressures are visible in CY24 as well, with aggregate margin/PAT estimates for top clients being revised downwards by 30bps/3%. Downward revisions in CY24 estimates suggests that concerns are now shifting towards CY24.

Client weakness despite improving macro trends: While macro expectations for CY23 seem to have improved YTD, evident from upward revision in GDP estimates of US/EU/UK, the corresponding impact does not seem to have reflected into the CY23 outlook of top clients of Indian IT firms. Unless the improvement in macro expectations flows into improvement in expectations of revenues of top-clients, IT firms could see pressures on growth in FY24.

Consumers: RM softens; searing summer; early days for rain deficit (Nomura Securities)

After four years of normal monsoons, there could be a possibility of El Nino in 2023. Various meteorological agencies have increased the probability of El Nino to over 50% for 2023 which can potentially lead to a deficit monsoon.

However, it is also highlighted that apart from El Nino conditions and its timing, India’s monsoon also depends on other factors like: (1) Indian Ocean dipole; (2) Eurasian snow cover; and (3) local weather given India is a tropical country. Further, experts suggest it is still early days to call out an El Nino, a deficit monsoon and impact on FMCG volumes / rural demand. A more accurate forecast will be made available by April.

Over the past 20 years (2002-2022), there have been six instances of El Nino, of which only in three instances there were below normal rainfall in India. Indeed, despite El Nino occurrence in 2007 and 2019, rainfall in these years was above the Long Period Average (LPA) levels.

Over the past 70 years, there have been only 16 instances of El Nino, of which only in nine instances there has been a case of deficient monsoon, as per IMD.

1. The correlation between deficient monsoons and high food inflation has been weakening over time with the rise in irrigation.

2. The correlation of El Nino leading to low FMCG volumes (HUL as a proxy) is not so strong. FMCG industry volumes still grew in low single-digit in two out of three severe El Nino years over the past 20 years (2002-2022).

3. There is a strong correlation between high food inflation and low FMCG volume growth.

4. Nonetheless, what is more certain, experts suggest, is a searing summer in 2023 with heat waves / elevated temperatures likely from March to May which could potentially have an impact on rabi crop output.

RGO: Government’s supply side boost to renewables (JM Financial)

The government continues to take policy and regulatory measures to incentivise both demand and supply of renewable power; this has been a key driver of rapid growth of the sector.

The latest incentive that it has announced for RE is on the supply side, in the form of mandatory Renewable Generation Obligation (RGO). This notification makes it compulsory for coal/lignite-based power plants with COD on or after 1^st Apr’23 to establish/procure 40% RE capacity within a certain timeframe or procure and supply RE power equivalent to such capacity within the specified period. Around 28GW of thermal capacity is currently under construction and is expected to be progressively commissioned over the next 2-4 years. As per the terms of the RGO, this translates into around 12GW of addition/procurement of equivalent renewable capacity. The RGO is thus a shot in the arm for India’s energy transition to renewables.

A captive coal/lignite-based thermal generating station will be exempt from the requirement of RGO subject to its fulfilling Renewable Purchase Obligations (RPO).

Cement: Price hikes not supported; 4Q prices flat QoQ (IIFL Securities)

All-India average cement price was flat MoM in Feb’23, despite price-increase attempt by companies during mid Feb’23. Regionally, except for the Central region (+2.6% MoM), prices were largely flattish elsewhere.

Compared to 3Q average prices – highest decline is seen in southern markets (down 5.6% QoQ) followed by Eastern markets (down 2.1% QoQ). We note that these two regions also saw the highest in 3Q, based on our dealer checks; and to that extent there is some price normalisation. Price increase in other regions varies from 1-2% QoQ.

Per channel checks, commentary on pricing remains underwhelming for Mar’23, as dealers expect temporary weakness due to Holi festivity (especially in North and Central India) and focus on pushing volumes in second half of March, to meet year-end targets. Dealers suggest prices to increase from April’23 onwards.

On demand, although dealers commentary was mixed, the overall bias was positive (we note that monthly cement production run-rate in Jan’23 is up 5% YoY and 10% vs 3Q23). In fact, dealers are optimistic on the near-term demand outlook and are confident to achieve their annual targets in March’23. Robust housing and large infrastructure project — aided by increased government spending —is driving overall volumes in a seasonally strong construction period.

In periods of such robust demand, we believe that companies are targeting higher volumes rather than price hikes. As such, we believe profitability would be supported by operating leverage benefits and falling fuel prices (petcoke and international coal prices are down 1% and 5% QoQ; – benefits would accrue based on inventory levels).

Power: Growth Endures (Emkay Equity Research)

Strong power generation pre-summer: Power generation in the past two months (Jan-Feb ’23) has seen double-digit growth (10.6% YoY), though some moderation has happened in Feb ’23 (8.3% YoY). On a three-year CAGR basis, it stands at ~5% CAGR. Demand continues to grow from January to June of the year, owing to summer demand.

Generation from thermal units for the months (Jan-Feb ’23) was up 8.7% YoY, while RE generation was up 31.3% YoY, leading to overall generation growth of 10.6%. On a three year CAGR basis, generation increased by 5.1%, with thermal/RE growth at 4.5%/15%, respectively. No major growth is seen in hydro generation during the three-year period.

On 11M basis, power-generation growth stood at 10.3% YoY, supported by 9.1%/22% growth from thermal/RE sources.

Data for several years suggest that H2 is usually favorable for thermal units because of a typically-strong Q4. Thermal generation in any H2 in the past has been 106% of the H1, while RE/Hydro H2 generation has been 77%/58% of the H1. We believe that as demand sees traction, companies with large under-utilized capacity (such as NTPC) would benefit

Manufacturing Growth at 4 Months Low (Centrum Economic Research)

India’s manufacturing PMI data released on Wednesday showed a slowdown in the index from 55.4 in January to 55.3 in February. This pointed to the 20th straight month of expansion in the manufacturing activities in the economy. This was largely attributed to significant increases in new orders and output, reflecting resilience in demand, though the input costs seem to be on the higher side.

The new orders and output rose sharply, which indicates that the underlying domestic demand still strong. The index for the month of February continues to remain above 55 for the 7th consecutive month. Firms continued to hire people for the 12th month in a row, as production levels ramped up in the month of February.

On the other hand, China’s manufacturing PMI expanded at the fastest pace in more than a decade for the month of February. The country’s Manufacturing PMI rose to 52.6% from 50.1 in the month of January. India’s PMI continues to be on an expansion track and outshines compared to ASEAN economies.

On the other hand, recently released GST collections for the month of February remains robust and continues to be above 1.4 lakhs crore for the 12th straight month on the back of increase in I‐T filings and high inflation.

Hope floats for Sweltering Summer (Elara Capital)

Ceiling fans in a wait-n-watch mode; cables & wires on high We recently met representative of consumer electricals companies, including Polycab India, RR Kabel, Finolex Cables, KEI Industries, Cords Cables, Symphony, and KWW electricals at ELECRAMA 2023 exhibition.

The following are key takeaways:

Demand stagnates in the FMEG space (ex-cables & wires) Post strong pent-up demand over April-May 2022, fast-moving electrical goods space (ex-cables & wires [C&W]) remains soft to date, due to 1) inflationary environment, 2) lower spend on discretionary goods, and 3) consumer spending in travel & healthcare. Currently, FMEG companies (ex-C&W) are cautiously optimistic on demand recovery. The only variable which can drive demand is a good Summer while price hikes are largely ruled out. It implies continued margin pressure in Q4FY23. In terms of differentiation, Polycab India (POLYCAB IN, CMP: INR 2,996, Not Rated) showcased a green portfolio of electrical goods, in fans, water heaters, wires, switchgears, lights, and home EV chargers, which consumes less energy.

Capex bazooka in the works by states (Antique Stock Brokers)

FY24 state capex likely to grow at 17% YoY: Eleven states (comprising ~57% of state GDP) have announced their budgets so far. Key takeaways are: a) Expect state fiscal deficit to consolidate from 3.3% to 3.1% of GDP driven by Uttar Pradesh, Telangana, and Bihar; b) Tax revenue is expected to grow at 15.4% YoY, looks aggressive, especially for Uttar Pradesh, Rajasthan, Telangana, Kerala; c) 17.4% YoY growth in capital expenditure driven by Gujarat, Haryana, Telangana, Jharkhand, and West Bengal; and d) 10.1% growth in revenue expenditure mainly driven by Telangana, Uttar Pradesh, and Bihar.

Macros favor rural revival, barring...: We believe that rural recovery is likely in near term given a) Improvement in farm income due to rise in food grain production on a high base and higher price growth (namely wheat and rice); b) Higher agriculture exports; c) Uptick in rural wages; d) Accelerated government capital spending; e) Pick-up in remittance as Covid-19 related disruptions are behind us; f) Easing inflationary pressures; g) Receding rural stress as is evident from declining MGNREGA employment; h) Resilient tractor demand; and i) Low base as is evident from two-wheeler registration.

...rising risk of El Nino: Australian metrological department’s latest climate update suggests weakening of La Nina with estimate of being near El Nino by July with neutral Indian Ocean Dipole. Our analysis suggests that the past four events of El Nino has resulted in deficient rainfall in India (thus impacting agriculture income with no conclusive evidence on prices). Also, the current heat wave (especially in North and Central India) may impact yields of wheat crop.

All eyes on the upcoming US macro data before Fed’s March meeting: Recent US growth parameters remain strong along with higher than expected inflation, which resulted in the narrative of interest rate being “higher for longer”. Current market expectation in terms of rate hike is equally divided between another 75 bps and 100 bps. All focus will be on upcoming US macro data points namely CPI, retail sales, payroll addition, and consumer sentiment before the next US policy meet (21–22 March) in which economic forecast will also be shared.

Friday, March 3, 2023

Some notable research snippets of the week

3QFY23 GDP: Slowdown in private consumption alarming (MOFSL)

Real GDP expanded by 4.4% YoY in 3QFY23: Real GDP/GVA grew 4.4%/4.6% YoY in 3QFY23 (v/s our forecasts of 4.5%/4.1% and the Bloomberg consensus of 4.7%/4.6%). It implies that real GDP/GVA rose 7.7%/7.2% in 9MFY23. Importantly, there were upward revisions in FY21/FY22 growth to -5.8%/9.1% from -6.6%/8.7% earlier.

The CSO expects 5.1% YoY growth in 4QFY23, which means full-year growth of 7% in FY23. Anything between 4.7% and 4.9% in 4QFY23 implies 6.9% growth in FY23 and 4.6% or below implies 6.8%. We believe that real GDP growth could be ~4.5% in 4QFY23, implying full-year growth of 6.8% in FY23. We maintain our forecast of 5.2% growth in FY24, led by weak consumption and some moderation in investments.

Consumption growth collapsed, though investments grew decently: Details suggest that total consumption growth weakened to just 1.7% YoY in 3QFY23, dragged down by much weaker-than-expected growth of 2.1% YoY in PFCE and the second consecutive contraction in GFCE. In contrast, real investments (GFCF + change in inventories) grew 8.1% YoY in 3Q. External trade deducted only 0.2pp from real GDP growth in 3QFY23, compared to more than 3pp each in the previous two quarters.

Domestic savings fall sharply: India’s investments fell to 28.4% of GDP in 3QFY23, the lowest in more than a decade, except in 1QFY21. However, net imports of goods & services were still elevated at 4% of GDP. It suggests that implied GDS declined to 24.3% of GDP, lower than 25% of GDP in 3QFY22 and the lowest in more than a decade (except in 1QFY21).

Infrastructure: Project awarding accelerates after Nov’22 (MOFSL)

Project awarding activity has picked up pace after Nov’22, with 4,290km of projects awarded till date in FY23 (v/s only 1,549km awarded in the first eight months of FY23). Road construction by NHAI till date in FY23 stood at ~3,150 km. With a target of 6,500 Kms in FY23, the remaining part of FY23 would require further acceleration in project awarding to achieve the targets.

Toll collections have been improving, with FASTag-based toll collections of INR444b as of Jan’23 with a daily run rate of ~INR1.5b.

Asset monetization is the key focus area for NHAI to raise funds outside of budgetary resources. The National Highways Infra Investment trust (NHAI InVIT) is planning to raise up to INR80b in the third tranche of asset monetization by Mar’23. NHAI InVIT successfully raised INR14.3b in the second tranche to partly fund three road assets stretching 246km. Additionally, NHAI InvIT raised INR15b from the issuance of non-convertible debentures (NCDs) in Oct’22.

NHAI has prepared a pipeline to monetize 1,750km of assets in FY23, but a faster execution is required to meet the monetization target.

DFCCIL has revised the timeline for Dedicated Freight Corridor projects and they are now expected to be completed by mid-2024.

Farm Input & chemicals: Challenges visible across pockets (IIFL Securities)

Domestic agchems saw limited revenue growth, owing to excess inventory in channel. While Rabi acreages progressed steadily, inventory liquidation would be critical for the ease of working capital. SRF, NFIL, PI and ANURAS are seeing tailwinds from buoyancy in global agchems.

Fertiliser companies witnessed elevated finance costs as subsidy receipts are lagging behind. As anticipated, several chemical companies reported sluggish 3Q earnings at the outset of 2023. Comments offered by several companies reiterate our cautious view on the sector, with a prolonged recovery.

Rabi season a flop show: Despite remunerative crop prices and higher wheat sowing, excess channel inventory affected agchem volumes. Few companies took price hikes to pass elevated input costs. Domestic growth was the strongest for BESTAGRO, CHMB and UPL (includes Advanta Seeds). Domestic businesses of RALI and PI were muted during the quarter. The exports of ANURAS and PI grew significantly YoY. ASTEL and CRIN saw challenges in exports.

Mixed quarter for Chemicals: SRF’s Chemicals business, NFIL (driven by CDMO), AETHER and NEOGEN were outperformers in 3Q. However, FINEORG and bulk chemical companies like TTCH (India business) and DFPC experienced moderation in profitability. Despite this, global supplies for refrigerants (SRF, NFIL, FLUOROCH) and soda ash (TTCH) remain tight. Re-opening of China would be critical for PVC (CHEMPLAS), caprolactam (GSFC) and phenol (DN).

Capex slips into FY24: Ongoing projects for ATLP, DN, PI, FINEORG, TTCH and GNFC are lagging, and appear to be distant from their original timelines. This could possibly lead to downgrades for the expected growth pegged in FY24/25. Nevertheless, several companies are scouting new land parcels to safeguard future requirements. New projects announced in 3Q: SRF – specialty fluoropolymers, DN - polycarbonates complex, CHEMPLAS – CSM capex, and NEOGEN - greenfield unit for electrolytes.

Monsoon fear looms amid good rabi (Nuvama)

Domestic agri input industry to benefit from bumper rabi crop (output up by 6% YoY) coupled with stable crop prices (wheat up 20% YoY) leading to strong cash flows for farmers. However, fear of poor monsoon looms, emanating from El-Nino conditions, while the industry is focused on collections offering attractive cash discounts. We remain cautious on domestic agrochemicals players given concern on monsoon and increasing competitive intensity with new players targeting to gain market share. Domestic fertiliser players to continue gaining momentum while global agrochem players witness strong growth.

Textile #QFY23 hit by higher input costs (Elara Capital)

The Textile value chain was hit by volatility in cotton prices, which corrected significantly in Q3FY23. Use of older high-cost inventory in the quarter led to margin strain, as input costs remained high for most of these players whereas output was pushed at corrected spot prices.

Going ahead, expect the cost structure to turn favorable with exhaustion of older inventory and with companies cautiously procuring raw material in batches at lower prices. We expect cotton prices to remain firm this season, led by expected demand improvement, downward revision in cotton production in key countries (India and the US) and weaker arrivals. We opine that a mild recession is already priced in cotton prices and prices can correct in a scenario of severe global recession.

Demand from the export market was muted for large part of Q3, with signs of improvement towards the end, led by subsiding inventory pile-up. Most retailers reduced inventory positions through promotional/discounting sales in Q3 but inventory was still elevated. Expect the benefit of such reductions to reflect in Q4, with order flow improvement. However, any aggressive buying is unlikely as the stance remains cautious.

Despite inflationary pressure squeezing consumer pockets, overall domestic sentiment improved in the first half of the quarter, led by festival/wedding season. However, sales were muted post the festive season amid delayed winters and lesser number of wedding days in Q3FY23. Domestic brands/retailers launched ‘end of season’ sale earlier than normal to retain the shopping momentum and reduce higher-cost inventory. Thus, expect Q4FY23 to be stronger as the wedding season is falling predominantly in Q4, which will likely revive demand.

Revisiting Developer Valuations (Jefferies Equity Research)

A potentially delayed pause in the rate hike cycle and risk-off sentiments, particularly for leveraged cos has led to significant property stock underperformance. We find the 40% valuation contraction since late'21 is already near past cycle levels. Valuations are now at pre-RERA reform levels; ignoring the much improved sector discipline and also the strong housing cycle. Developers with valuations at/below average include Lodha, GPL, PEPL and DLF.

Observations from past rate-cycles: Even though we have seen limited evidence of mortgage rates impacting physical property sales (link); the property stock valuations demonstrate a reasonably high correlation (0.7 correlation coefficient over pas 14 years) with the mortgage rates. Higher mortgage rates of ~225bps over the last 12-mths have led to the residential heavy developers (Lodha, GPL, Sobha) decline by 18-32%; and the average valuations (Price-to-book basis) of the developers with long history having declined by ~33% to 2.2x. Past rising mortgage rate cycles (2011/12 & 2013/14) also coincided with a de-rating of property stocks; although the broader property cycle conditions were much different (late-cycle) during those periods.

Derating already near prior risk-off episodes: General periods of risk-aversion / low-liquidity have also seen property stocks correct significantly. The 2018 NBFC crisis and partly the 2013/14 EM risk-off / sharp INR depreciation period was also derating event for realty sector. Overall, peak-to trough derating in the current episode (~40%) has already reached levels similar to the ones in prior (~45%).

Cement: EBITDA fall Arrested; sector awaiting growth (Jefferies Equity Research)

3QFY23 saw sharp moderation in total EBITDA (YoY) decline to single digit (-3% YoY vs est -6%) for coverage vs 20-40%+ decline in past 4 qtrs. Unit EBITDA/T (avg) improved Rs190/T QoQ, on px hike, cost decline and Vol led oplev. Improving trends should continue in 4Q with small QoQ price inc in 4QTD, better FC absorption coupled with lower fuel cost. While recent slump in Coal costs is comforting, +ve pricing action in next 3-months critical to meet FY24 estimates.

Double-digit volume growth again: Aggregate volumes grew ~11% YoY in 3Q (9MFY23 growth at ~12% YoY). 3-yr/5-yr Cagr for 3Q is 5-6%. Most of the players indicated that a strong pickup in government projects is driving volume growth for the industry; few players indicated increase in share of non-trade segment; urban housing and rural housing also showing reasonable growth. Most of the players expect strong volume growth to sustain in 4QFY23 and extend for FY24.

Ebitda/T improves QoQ: Aggregate Ebitda/T (coverage) for 3Q was at ~Rs780 (JEFe Rs760) a decline of Rs120 YoY and inc of Rs190 QoQ. YoY fall in Ebitda/T was driven by continuing lag in passing cost inc by industry. Highest QoQ uptick in EBITDA/T was reported by ACEM/ ACC (on profit normalization), DALBHARA and TRCL. JKCE and HEIM reported QoQ decline.

Trends in IT Services (Kotak Securities)

Slowdown for sure but with no incremental pockets of weakness: The demand environment has stabilized with weakness in mortgages, capital markets (some segments), discretionary retail, hi-tech, medical devices and some segments of telecom. Possibility of outlasting the inflationary environment with just a slowdown/mild recession and continuous prioritization of tech spending has led to optimistic outlook on tech spending by some clients even in the current weak macro. Growth is likely to be back-ended.

Expect considerable growth divergence in FY2024: Gap between leaders and laggards will widen in FY2024. Among Tier 1, TCS and Infosys offer a full suite of services, robust delivery and excellence in multiple digital competencies. Both are well-positioned in cost take-out deals and will likely emerge net gainers in vendor consolidation exercises. HCLT is confident of industry-leading services growth in FY2024 aided by healthy deal win and a good order book. We expect TCS, Infosys and HCLT (services) to perform better than industry growth in FY2024. Wipro and TM are vulnerable.

Cost take-out deals entering pipeline; both mid-tier and Tier 1 have plays: Discretionary spend is slowing down and so is the flow of smaller projects that was a key driver of growth for the industry in FY2022 and FY2023. Cost take-out deals are increasing in the deal pipeline but they tend to have a higher tenure, longer deal cycles and longer time to ramp up – essentially slower revenue conversion. Mid-tier IT can address a few cost take-out themes ranging from simple offshoring to complex IT operating model transformation deals in areas where they have strong domain understanding, capabilities and client relationships. Tier 1 IT is better-positioned in larger and more broad-based cost take-out programs that require strength in multiple domains and services, a global delivery model and ability to offer competitive pricing across a whole range of competencies. A deep recession can see more such deals being signed but that is not the base case currently.

White goods & durables (ICICI Securities)

Steady increase in copper prices: Copper, a key raw material (>35% of raw material cost) is back in inflation zone after remaining in deflation zone over July’22-Dec’22. While it is likely to affect the entire sector, we expect white goods to get impacted the most. Cable and wire companies have raised the prices to pass on the impact.

Other raw materials are still in deflation zone: Other key raw material prices such as aluminium, steel and HDPE have remained in deflation zone. Prices of aluminium, steel and HDPE have declined 16.3%, 1.3% and 7%, respectively YoY in Feb’23.

Margins to inch upwards steadily: We model gross and EBITDA margins to inch upwards YoY as well as QoQ in Q4FY23 with correction in input prices. Freight prices have also corrected with reduction in fuel prices. While we model most companies to increase ad-spend YoY, we believe there is a strong scope to see EBITDA margin expansion of 100-300bps YoY in Q4FY23.

Friday, February 24, 2023

Some notable research snippets of the week

FY24 Economic Outlook (India Ratings)

India Ratings and Research (Ind-Ra) expects GDP to grow 5.9% yoy in FY24. Although National Statistical Organisation’s (NSO) first advanced estimate (AE) of FY23 GDP is 7.0%, it does not expect the growth momentum witnessed in 1HFY23 to sustain in 2HFY23. NSO estimates GDP growth to drop to 4.5% in 2HFY23 from 9.7% in 1HFY23. The pent-up demand which had provided thrust to the growth is normalising, exports which had been buoyant are facing headwinds from the global growth slowdown and credit growth is facing tighter financial conditions. The International Monetary Fund expects the global GDP growth to fall to 2.9% in 2023 from an estimated 3.4% in 2022.

Ind-Ra expects PFCE to grow 6.7% yoy in FY24 (FY23: 7.7%). Yet, it may not lead to a broad-based consumption demand recovery, because the current consumption demand is highly skewed in favour of the goods and services consumed largely by the households belonging to the upper income bracket. The goods and services of mass consumption have yet not shown a sustained pick-up. This to some extent is reflected in the way the recovery in consumer durables and non-durables in terms of Index of Industrial Production has so far panned out in FY23. While consumer durables grew 3.4% yoy during 9MFY23, non-durables contracted 1.2% yoy.

After PFCE, GFCF is the second-largest component (FY23AE: 29.4%) of GDP from the demand side. Ind-Ra expects GFCF to grow 9.6% yoy in FY24 (FY23:11.5%), due to the sustained government capex. Expenditure on the capital account and grants-in-aid for the creation of capital assets together in the union budget FY24 have been pegged at INR13.71 trillion. This is INR3.17 trillion higher than FY23 revised estimate (RE), an increase of 30.1%. This will push the government capex (including grants-in-aid for creation of capital assets)/GDP to 4.54% (FY23RE: 3.86%). GFCE had been providing the much-needed support to the economy for a while, averaging 7.9% growth during FY16- FY20. However, due to the government’s focus shifting towards capex, the size of the revenue expenditure in the union budget FY24 has been kept at INR35.02 trillion, only INR0.43 trillion higher than the FY23RE of INR34.59 trillion. Ind-Ra therefore expects GFCE to grow at 2.5% yoy in FY24 (FY23: 3.1%).

The fourth demand-side driver - net exports (exports minus imports) - has been negative over the years and thereby not contributing positively to the aggregate demand. Thus, a reduction in the size of negative net exports would be a positive for aggregate demand. However, with merchandise exports losing steam due to the global growth slowdown and merchandise imports not moderating proportionately, Ind-Ra expects the share of net exports to GDP to increase to negative 9.2% in FY24 from negative 7.1% in FY23.

On the supply side, the agricultural sector has been doing well, and Ind-Ra expects it to grow 3.1% yoy in FY24 (FY23: 3.5% yoy) on the assumption of a normal monsoon in 2023. However, industrial growth is expected to remain tepid because of the ‘K-shaped’ recovery, which is neither allowing the consumption demand to become broad based nor helping the wage growth especially of the population belonging to the lower half of the income pyramid. Ind-Ra therefore expects the industrial sector to grow 3.9% yoy in FY24 (FY23: 4.1%). Services, the largest component of GVA, is estimated to grow 7.3% yoy in FY24 (FY23: 9.1%). Services sector may face some headwinds from the tightening financial conditions, but some upside may come from the roll-out of 5G which is expected to increase the reach of online commerce, education and telemedicine to remote regions, and create new-age business and associated employment.

Ind-Ra expects the current account deficit to narrow down to 2.5% of GDP in FY24 (FY23: 3.3%) in response to the evolving domestic and global demand conditions. Due to the uncertain external demand, merchandise exports are expected to grow just 0.5% yoy in FY24 (FY23: 1.8%).

Insolvency Cases Rise by 25% in Q3, but Recoveries Still on Downtrend (CARE Ratings)

After slowing in the pandemic period of FY21 and FY22, the number of insolvency cases increased by 25% y-o-y in Q3FY23. However, despite the increase, the number of cases admitted to the insolvency process continued to be lower compared to earlier quarters in FY19/20. The distribution of cases across sectors continues to remain broadly similar, compared to earlier periods given the extended resolution timelines.

The overall recovery rate till Q3FY23 was 30.4% implying a haircut of approximately 70%. The cumulative recovery rate has been on a downtrend, decreasing from 43% in Q1FY20 and 32.9% in Q4FY22 as larger resolutions have already been executed and a significant number of liquidated cases were either BIFR cases and/or defunct with high resolution time, coupled with lower recoverable values.

The status of the cases has largely remained constant compared with the previous period. Of the total 6,199 cases admitted into CIRP at the end of December 2022:

· Only 10% have ended in approval of resolution plans, while 32% remain in the resolution process vs. 35% as of the end of March 2022.

· 1,901 have ended in liquidation (31% of the total cases admitted). Meanwhile, 76% of such cases were either BIFR cases and/or defunct. These cases had assets which had been valued at less than 8% of the outstanding debt.

· Around 14% (894 CIRPs) have been closed on appeal /review /settled, while 13% have been withdrawn under Section 12A. A significant number of withdrawn cases (around 54%) were less than Rs.1 crore, while the primary reason for withdrawal has been either the full settlement with the applicant (306 cases) or other settlement with creditors (210 cases).

3QFY23: New quarter, old challenges (BoB Capital)

Q3FY23 was a tepid quarter which saw Nifty 50 earnings rise 11% YoY led by the BFSI sector. Investment-led sectors such as capital goods and cement posted a healthy topline while consumption-driven sectors such as FMCG and durables found their pricing abilities put to the test. BFSI had a good quarter with margin expansion and improved asset quality. Exports were steady in both services and manufacturing sectors led by tier-I IT and electronics manufacturing services (EMS) players, though the pharma sector saw continued generics price erosion in the US.

Capital goods and cement spring topline surprises: We note clear outperformance among investment-driven sectors, such as capital goods which posted strong numbers and robust order inflows. The recent capex-heavy budget lends a further fillip to these sectors. Cement saw 18% YoY topline growth but muted margins and profits.

Consumption sector slows: Staples and durables players had a dull quarter as inflationary pressures weighed on demand. Rural consumption remained sluggish though commentary points to some respite in Q4, a view echoed by auto majors.

Exports shine: Tier-I IT companies posted 1-5% CC growth despite a seasonally weak quarter due to furloughs and also reversed their underperformance vis-à-vis tier-II players (seen over the past 4+ quarters).

Agriculture – Sugar spread strength (ING Bank)

There are reports that the Indian government has decided not to allow further sugar exports this season beyond the already approved 6mt. There have been growing concerns for several weeks now that the government would not allow further exports, given worries over the domestic crop. The government will once again evaluate the domestic balance in March, at a time when cane crushing nears its end before deciding on exports. The move does raise concerns over tightness in the global market, which is reflected not only in the strength in the flat price, but also the March/May spread, which is trading in deep backwardation of more than USc1.60/lb. Worries over tightness should ease once the CS Brazil harvest gets underway in the second quarter.

Indian Pharma (IIFL Securities)

Although pharma companies and the government are focusing on NCDs mainly cardiac, diabetes and respiratory through new launches as well as price caps through NLEM, volume growth in the domestic pharma market is not picking up meaningfully given the limited coverage of quality healthcare infrastructure for the diagnosis of these diseases and subpar availability of doctors in several rural markets. While the India Pharma Market (IPM) has grown consistently at 10-11%, volume growth currently drives only 2-3% of market growth vs 6-7% growth 10 years ago.

The doctors in India have been prescribing a higher no. of products in supporting therapies (such as vitamins, nutraceuticals, etc.) vs 10-15 years ago. This, along with price hikes, is driving a meaningful portion of the overall market growth, thereby masking weak volume growth in many of the underlying core diseases.

While lower prices can supposedly drive higher volume growth, NLEM-led price caps have not aided IPM’s volume growth meaningfully, given that there have been very limited initiatives by pharma companies and government to expand the accessibility of essential medicines across all pharmacies and hospital formularies.

However, the government and pharma companies have been focusing on driving penetration beyond Metro/Tier-1 towns, where the availability of qualified doctors seems to be an issue. A strong OTC policy could make the most commonly used medicines widely available in such smaller markets and towns. Additionally, innovative portable, digital point-of-care diagnostic testing devices can help accelerate the detection of NCDs and diagnose early conditions of NCDs (such as pre-diabetes). These two initiatives, along with focus on patient awareness and counselling, can aid accelerating volume growth in the IPM.

Banking sector (JM Financial)

Given the substantial rate hikes since May’22, it is imperative to look at the benefits that have accrued and incremental gains left from NIMs perspective. For large banks (ICICIBC, AXSB, HDFCB, SBIN, KMB, BOB, CBK, IIB), the average increase in loan yields has been 109 bps (vs RBI’s repo rate hike of 250 bps – and time weighted repo rate hike of 119bps between Apr22-Dec22). Avg NIM expansion for the above set has been 37 bps with CoF increasing by 63bps.

Avg floating rate portfolio of above banks is 69% (~38% Repo/EBLR-linked and ~31% MCLR-linked). As a result, ~3/4^th of yield increase on the portfolio can potentially be attributed to repo/MCLR changes. While repo/EBLR linked loans reprice almost immediately, avg 1-yr MCLR hike for large banks was 123bps (as of Dec22) which implies that a sizeable upward repricing of MCLR-linked loans is likely to come through incrementally as well, thereby supporting NIMs. This implies continued tailwinds on yields aiding NIMs (or ability to attract deposits by offering higher rates). We note that PSU banks’ share of floating rate portfolio is reasonably higher than private banks (~80% vs ~62% for pvt banks). As a result, we expect most large banks to sustain health NIMs – though it is desirable that incremental yield gains should be passed to drive deposit growth.

With regards to NBFCs, the NIM performance has been relatively healthy (avg NIMs +34bps ex-NBFC-MFIs), contrary to expectations of meaningful negative impact of the rate hikes on NBFC margins. Avg yield expansion for NBFCs in our coverage has been 111bps (though 68bps excluding NBFC-MFIs wherein yield increases have been quite sharp at 240bps). Of these, HFCs and diversified lenders have seen yield increase of 94 bps and 120bps resp., while vehicle financiers have seen lower hike of 46bps given higher share of fixed rate portfolio. Cost of funds increase has been 53bps over this period. Incrementally, as banks re-price their MCLR-linked loans higher, the pass through to NBFCs should see stabilization of NBFCs NIMs – which would still be a healthy outcome in light of the sharp rate upswings.

Asset Quality Improvement Continues in December 2022 (CARE Ratings)

Gross Non-Performing Assets (GNPAs) of Scheduled Commercial Banks (SCBs) reduced by 19.7% y-o-y to Rs.6.1 lakh crore as of December 31, 2022, due to lower slippages, steady recoveries & upgrades, write-offs, and transferred to Asset Reconstruction Companies (ARCs). SCBs GNPA ratio reduced to 4.5% as of December 31, 2022, from 6.6% over a year ago and is likely to reach the pre-Asset Quality Review (AQR) levels. Robust growth in advances by 18.5% y-o-y is also supporting this reduction.

Net Non-Performing Assets (NNPAs) of SCBs reduced by 32.5% y-o-y to Rs.1.5 lakh crore as of December 31, 2022. The NNPA ratio of SCBs reduced to 1.1% from 2.0% in Q3FY22 which is significantly better than pre-AQR levels of 2.1% (FY14).

SCBs credit cost stood at 0.7% in Q3FY23. Besides, it has been ranging 0.7-0.9% over the last six quarters with improvement in overall credit quality and level of economic activities.

Overall, the SCBs stress level has reduced as their outstanding SMAs and restructuring book have reduced significantly in Q3FY23, indicative of improving asset quality. This comes after covid pandemic and associated business disruptions have led to an increase in restructured standard assets over the past two years.

Liquidity: Can it be a devil in disguise? (BoB Capital)

Liquidity has been quite a pertinent issue of late when financial conditions remained stringent on account of tightening policy response to higher inflation. In this context, we look at how banking system liquidity is going to evolve in the coming year. In India’s context, relatively well placed macro fundamentals and pent up demand contributed to faster pace of credit growth, which outpaced deposit growth where transmission to rates have been relatively slower as the new rates apply to fresh or renewed deposits while the existing ones remain unaffected. This has widened deficit significantly in context of liquidity in the current fiscal.

Even in the coming year, with anticipation of moderation in pace of nominal growth, we expect a considerable gap between demand and supply of funds to the banking system. Further, significant quantum of LTROs/TLTROs are maturing in FY23 and FY24, which will put additional strain on liquidity.

This can be corrected through conduct of RBI’s long term variable rate repo operations, with the frequency being increased. Or there could be OMOs to induce liquidity in the system on a permanent basis if required. Also, since Banks’ net profit have improved significantly they are well placed in terms of capital. Thus, to continue with the higher pace of lending, they could consider digging into their own capital or reserves and surplus going forward.

Friday, January 20, 2023

Some notable research snippets of the week

Logistic sector (Jefferies Equity Research)

Formalisation of the logistics sector is a multi-year theme that should play out. We adjust our numbers for lower international cargo volume growth seen in 3QFY23, but believe that follow-ups to the National Logistics’ Policy (NLP), continuing GST driven organised players’ share gain, Dedicated Freight Corridor (DFC) traffic increase, Concor privatisation should play out in 2023.

NLP targets dropping logistics costs to less than 10% of GDP from the current 14-15% with initiatives including 1) Integration of Digital System (IDS) 2) Unified Logistics Interface Platform (ULIP) 3) Ease of Logistics (ELOG) and 4) Network Planning Group (NPG) and System Improvement Group (SIG). Under the IDS, thirty different systems of seven departments will be integrated and will include data of the road transport, railways, customs, aviation and commerce departments. We believe results will take time but systematically the government will reduce red tape and put in processes that ensure organised sector gains share vs the unorganised disproportionately.

Public sector banks (Motilal Oswal Investment Services)

Over the past few years, PSBs have focused on strengthening their balance sheets and consequently the GNPA/NNPA ratio for PSBs improved sharply to 6.5%/1.8% in Sep’22 from the peak of 14.6%/8.0% in FY18, respectively. PCR over similar period also improved markedly to ~72% from 45% in FY18. With the NPA cycle being largely over and no large ticket corporate accounts under stress we expect PSB’s asset quality to strengthen further over the coming quarters. Further, SMA book across top seven PSBs stands modest at 19-50bp that augurs well for incremental slippages. This will keep the credit cost benign and support overall profitability.

Margin trajectories for PSBs have revived and expanded ~8-31bp over 2QFY23 for top seven PSB’s. We, however, note that bulk of the loans for PSBs is linked to MCLR (6-12m tenure), which will drive the lagged re-pricing even as MCLR rates rise gradually. We note that against a 225bp rise in repo rate, MCLR rates across these PSBs have risen 85-100bp (barring SBIN at 130bp) thus leaving room for further expansion.

We believe that PSBs are on track to undergo complete earnings normalization, aided by lower credit costs. We expect average credit cost of top seven PSBs to moderate to 1.2% by FY25 from 3.3% over FY18–21. Overall, we forecast top seven PSBs under our coverage to report a PAT of INR1.3t in FY25 v/s a loss of INR594b in FY18. Thus, we expect 29% earnings CAGR over FY22–25 and estimate these PSBs’ RoA/RoE to improve to 0.9%/14.2% in FY25, respectively.

We note that the current RoA despite a lower treasury income forecast stands significantly lower than the average seen over FY04-13. Our current credit cost estimate too stands 14-35bp higher than the 10-year average for most banks barring BoB, BoI and SBIN. Thus, the quality of earnings also has improved which will enable PSBs to sustain ~1% RoA and possibly improve further to 1.1%-1.2%.

We continue to believe that sustained and consistent performance on delivering healthy return ratios can result in further re-rating of the stocks. We note that while the improvement in RoE’s has been encouraging, a sharp moderation in NNPA ratio has resulted in a much higher increase in ABVs. Thus, ABV for top seven PSB’s is likely to grow at 12-23% range over FY22-25E v/s 14-19% for top private banks. Valuations thus appear attractive considering the growth/profitability outlook.

WPI at 22months low (BoB Capital)

WPI inflation slipped down to 5% in Dec’22 from 5.8% in Nov’22. This was led by moderation in food (0.7% from 2.2%) and manufactured product inflation (3.4% from 3.6%). However, fuel inflation inched up (18.1% from 17.4% in Nov’22). Within food, prices of fruits and vegetables, especially tomato pulled down the prices. However, there is an uptick in cereal inflation. Improvement in rabi sowing bodes well for wheat prices. Core WPI softened to 2-year low of 3.2% in Dec’22 from 3.5% in Nov’22 owing to the dip in manufactured inflation. Going ahead, we expect further easing in WPI inflation on account of base effect in H1FY24.

Banks: New provisioning norms (Kotak Institutional Equities)

The RBI has placed a discussion paper which would ask banks to shift to Expected Credit Loss (ECL) based provisions from the current norm of building provisions after an occurrence of default. Provisions have to be built on the basis of self-designed models that capture the regulatory guidance and would have to be approved by the regulator. Banks shall measure ECL of an applicable financial instrument by classifying the loans in three stages (Stages 1, 2 and 3). It would have to look at (1) probability of default by evaluating a range of possible outcomes, (2) time-value of money, and (3) past events, current conditions and forecasts of future economic conditions. There is no timeline for the implementation, but the regulator is likely to give a (1) one-year transitioning period from the time of final implementation to place the necessary infrastructure and (2) a one-time five-year adjustment period to capture the initial cost of transmission. This would be captured through a relaxation in the CET-1 calculation.

The initial reading suggests that the RBI probably wanted banks to complete their provisions from the previous corporate NPL cycle before migrating into a new regime. We are seeing provisions come off sharply and are likely to reach historical lows that we saw in FY2004 in FY2024-25. A five-year transitioning period of the initial migration costs should make it comfortable for most banks. The previous cycle (2004-22) saw credit costs at 200 bps annually, with the cycle showing higher provisions for FY2014-20. The challenge: quality of the data is not sufficient to build these models.

A key challenge is the data that goes behind these assumptions. Estimating default probabilities or losses requires rich data sets that capture various cycles. We have had two long credit cycles in India in the past three decades. Both these cycles were characterized by large defaults in the corporate sector. The first cycle (1994-2002) was mostly with public banks, while the next cycle had the impact visible in a few large private banks. The retail cycle was probably tested once during Covid and the regulatory dispensation provided at that time masks the probable performance post default. While ECL is the best way forward, we need to acknowledge that we are also moving with less quality of data as well.

Electricals & Durables: Better days ahead after last year of pain (Axis capital)

Just when the industry was seeing a silver lining in the clouds (after multiple waves of Covid-19), the Russia-Ukraine war outbreak in Feb’22 led to global spike in commodities, which impacted margins for the sector over the last 4 quarters. The storm clouds have receded somewhat now through a mix of fall in commodity prices, price hikes, cost cutting and industry consolidation. Hence, we are more constructive on the sector given double-digit growth opportunity over next 5 years still exists.

China reopening boosts copper outlook (ING Bank)

Beijing has released a raft of policy measures in recent weeks which have increased confidence that the economy is stabilising, improving the outlook for industrial metals, including copper. For almost two decades, China’s property sector growth and the country’s rapid urbanisation have been the key driver of growth for copper demand.

China will return to “normal” growth soon as Beijing steps up support for households and businesses, Guo Shuqing, party secretary of the People’s Bank of China, told state media recently. The world’s biggest consumer of copper is expected to quickly rebound because of the country’s optimised Covid response and after its economic policies continue to take effect, Guo said.

In its most recent move, China is planning to allow some property firms to add leverage by easing borrowing caps and pushing back the grace period for meeting debt targets. The move would relax the strict “three red lines” policy which had contributed to a historic property downturn, hitting demand for industrial metals. The easing would add to a raft of policy moves issued since November to bolster the ailing property sector, which accounts for around a quarter of the country’s economy.

Credit Offtake Moderates on Base Effect, Deposit Growth Stays Slow (CARE Ratings)

· Credit offtake rose by 14.9% year on year (y-o-y), for the fortnight ended December 30, 2022. The growth has been driven by a healthy rise in NBFCs, retail credit, and working capital demand driven by inflation and capex.

· Deposits saw a slower growth at 9.2% y-o-y compared to credit growth for the fortnight ended December 30, 2022. The short-term Weighted Average Call Rate (WACR) has increased to 6.36% as of December 30, 2022, from 3.33% as of December 31, 2021. Further, deposit rates have already risen and are expected to go up even further due to rising policy rates, intense competition between banks for sourcing deposits to meet strong credit demand, widening gap credit & deposit growth, and lower liquidity in the market. Over the last couple of years, (i.e., from March 27, 2020) credit offtake has almost reached the Covid-induced lag, rising by 29.6% in absolute terms compared to 30.7% of deposit rates.

· The credit growth has continued to be in double digits and has been broad-based across the segments and is likely to remain strong in FY23. Meanwhile, this reduction would have to be monitored in the coming fortnights to determine if the credit offtake has peaked and is returning to a lower growth rate.

OMCs: Low oil and strong refining ease pain (Kotak Institutional Equities)

We believe as oil demand recovers, oil markets will get progressively tighter in 2023. We moderate our FY2023 oil price assumption to US$95/bbl (earlier US$105/bbl). We assume oil price of US$90/bbl for FY2024/2025E, and US$80/bbl for LT (earlier US$90/bbl for FY2024, US$80/bbl for LT).

OMCs: Concern on under-recoveries ease; full compensation looks unlikely With lower oil prices, strong refining margins (particularly middle distillates), and exports tax (OMCs negotiate lower refinery transfer price, and effectively pass on some marketing losses to refiners), the worries on marketing losses are now lower. Also, with weakness in gasoline cracks, OMCs now have over-recoveries on petrol. Compared to nearly Rs1.1 tn under-recoveries in 1HFY23, we estimate only ~Rs150 bn under-recoveries in 2HFY23E.

In our view, unlike the past when OMCs were near-fully compensated for fuel under-recoveries, the compensation will be much lower. As such, with petrol/diesel officially deregulated and OMCs having freedom to price, the compensation is difficult. For past LPG losses (June-2020 to June-2022), government had given one time compensation of Rs220b in 1HFY23. Recently, the media has reported that OMCs are seeking further compensation of Rs500 bn. For our forecasts, we do not assume any further compensation.

Preview of Union Budget 2023 (Axis Capital)

FY23 performance: Total receipts is likely to be higher than budget by INR 3.3 trillion due to strong nominal growth and tax buoyancy on the back of consumption recovery. However, this gain in receipts is fully spoken for via higher food and fertilizer subsidies of INR 1 trillion each. The government’s cash outgo in the recently announced supplementary grants is also ~INR 3.3 trillion. We expect fiscal deficit in FY23 to slow to 6.1% of GDP from 6.7% in FY22 and 6.4% budget target.

FY24 budget expectations: Central government’s fiscal deficit is likely to fall further to 5.7% and will be on track to achieve 4.5% of GDP by FY26. The 0.4% of GDP fiscal consolidation is supported by INR 1.5 trillion drop in food and fertilizer subsidies due to merging of food subsidy under PMGKAY with NFSA and correction in global fertilizer prices. This outcome along with modest tax buoyancy (12% YoY growth) should give the government space to target low double digit spending growth in rural development and capex.

Key expectations in the budget

· Tinkering with personal income tax slab to provide relief on real disposable income.

· Expand scope of Production Linked Incentive (PLI) schemes and green hydrogen.

· Bump-up allocation for rural development and social welfare to ensure outcomes don’t suffer due to cost inflation.

· Target double digit capex with increase in capital allocation to new DFI and special long-term loan to states for capex.

· Increase scope of asset monetization pipeline.

Tuesday, January 17, 2023

Indian Equities – A secular trend; no froth

If we cut the noise and overcome our recency bias, Indian stocks have given a decent return over the past five years; though this period had been particularly eventful. We witnessed the worst pandemic in over a century crippling the world. A variety of economic and geo-political conflicts impeded the global economy. The financial markets witnessed unprecedented liquidity deluge that led to over US$20trn bonds trading at a negative yield; followed by sharp monetary tightening. The world moved from severe deflationary conditions to sharp inflationary spikes. Central banks cut the policy rates close to zero (even below zero in some cases) and then hiked the rates at the fastest speed in five decades.

In the domestic economy, we saw macro parameters like inflation, fiscal deficit, current account deficit etc. worsening sharply. We witnessed a monetary easing and tightening cycle. Banks went through a massive credit cycle.

The benchmark Nifty50 has yielded an 11.4% CAGR over the past five year (January 2018- December 2022). IT Services (19.6% CAGR) is the only sector that has meaningfully outperformed Nifty50 over the past five years. The sectors that should have theoretically benefitted from abundant liquidity and low rates like Auto (1% CAGR) and Realty (4.5% CAGR) were actually amongst the worst performers, failing even to match bank deposit returns.

The market breadth has not been great. The broader indices like Nifty 500 (10.2% CAGR) actually underperformed the benchmark Nifty50 (11.4% CAGR). In fact Nifty Next 50, that represents the set of 50 largest stocks next to Nifty50, underperformed massively with just 6.4% CAGR. Banks (11% CAGR) and Metals (11.3% CAGR), that many might think to be massive outperformers have performed just in line with the benchmark Nifty50.

If we observe only the benchmark indices, the situation appears calm and simple. However, the story beyond benchmark indices is quite revealing. For example, consider the following facts:

Only 384 stocks (out of 1428 actively traded stocks on NSE), have outperformed the benchmark Nifty50 over the past five years.
54% stocks (770 out 1428) gave a positive return during the past five years, while 46% (658 out of 1428) yielded a negative return over the period of five years.
The top 100 stocks gained 267% to 6299% during the past 5 years. These include a variety of stocks, largecap, microcap, midcap, chemicals, textile, infra builders, power, metals, FMCG, ERD services, entertainment, NBFCs, pipes, cables, industrials, pharma, etc. The list however excludes banks, top IT services, and PSUs.
Over 270 stocks lost more than 50% of their value during these five years.

The primary idea of this analysis however is to assess two things:

1. Do we have a secular trend in the Indian equities?

2. Do we have significant pockets of froth in the markets?

The answer is:

We may have a secular trend in the Indian equities. The trend is deepening and widening of growth. A large number of sub sectors from the economy – Materials (metals, chemicals, building material, energy, textile, paper, sugar etc.); industrials; utilities (power, telecom); infra builders and owners; consumer (discretionary, durable, staples and internet); healthcare; financials (lenders, non-lenders and service providers); IT services (engineering, digital, cloud, conventional software, BPO) etc. are now participating in growth together. The market is neither sector specific nor segment (large cap, midcap etc.) This had happened briefly in the early 1990s only. This trend could actually be reflective of some structural changes in the economy per se. Of course an intensive research would be required to confirm this.

There does not appear to be froth in any pocket of the market. Though there may be cases of some individual stocks that are still in the process of normalization post the bubble burst.

The latest correction therefore could be a good opportunity to increase exposure to the Indian equities.