Do it yourself

After hearing the finance minister (and Hindi translations of what she says by her Deputy) many times in past 7 months on the issue of stimulus for economic recovery, most market participants now appear disinclined to hear her anymore. I actually found many market participants wishing that the government actually does nothing and lest the economy recover on its own.

When the RBI governor comes out to brief media about the outcome of last Monetary Policy Committee’s (MPC) meet of the current financial year at 11:45Am today, most market participants shall be praying for a very “brief statement” and “No Action” by RBI. Not many would be expecting any further easing from the RBI, given the facts that—

(i)    Food inflation has remained rather sticky and non-food inflation has also started to rear its head higher;

(ii)   Liquidity in the system has surpassed the comfort level, leading to unsustainable fall in short term rates; and

(iii)  the real rate have now turned negative and are threatening to inflate a bubble in asset prices;

The questions before RBI/MPC therefore would be—

(a)   Maintain status quo;

(b)   Change the presently accommodative policy stance to neutral but refrain from doing anything; or

(c)    Change the policy stance and tighten the liquidity through market operations (Fx sale, short term bond sale etc) and/or policy action (CRR, SLR, MSF etc.).

Besides, one of the factors in the dismal export performance over past many months is out performance of INR over other emerging market peers. RBI might have to change its stable INR policy also sooner than later.

The market participants would obviously like to hear a “status quo” decision. Anything else may dampen the animal spirits driving the markets. Also, the market participants would not like the governor to speak for long (Governor Das is known for making long statements). The fear is that is speaks long, he will leave more material for (mis)interpretation.

A recent article published in Bloomberg Quint, summarized the present money market situation and quoted some money market participants as follows:

“The Reserve Bank of India may have cause to review its ultra-easy liquidity policy when it meets this week, as short-term corporate and government borrowing rates have remained below its policy benchmark rates for an extended period.

Yields on commercial paper have traded not only below the policy repo rate, the rate at which the RBI lends overnight funds to banks, but also below the reverse repo at which banks park funds with the central bank.”

“If this (surplus liquidity situation) continues, it would lead to a persistent mispricing in the commercial paper market as the existing yields are becoming unsustainable for investors. Even the policy rates are losing relevance due to the abundant liquidity scenario. So, there needs to be an immediate intervention from the RBI.” (Rajeev Radhakrishnan, Head - Fixed Income, SBI Mutual Fund)

“A quarter of the 274 companies that tapped the commercial paper market for borrowing funds via short-term bonds, with maturity below or equal to 90 days, raised funds below the reverse repo rate of 3.35% in November.”

“The mutual funds do not have access to interbank rates, as they cannot park their liquidity with the RBI in the reverse repo market like banks can, they don’t have a choice but to keep on buying these short-term commercial papers. Because of this, the rates have compressed so much that investors are buying CPs even below the RBI’s reverse repo rate.” (Parag Kothari, Associate Director, Trust Capital)

My personal view on RBI policy stance is that RBI may continue to take a pragmatic approach and change its policy stance to neutral and let INR weaken over next few months.

The excess liquidity may have already started to inflate financial asset prices beyond sustainable levels. If left unchecked, this would result in inflation of bubbles that invariably cause avoidable pain when they eventually burst.

The policy rates are already at level that is supportive of growth. Any further broader easing may not be warranted at this stage when the investment & consumption demand growth is not accelerating. Some targeted easing may however be considered to promote investment and exports in specific areas.

The fears of 2008-09 like market freeze shall materially abate in next few months and RBI may not need to augment the Fx reserve any further. It may actually consider selling some reserve accumulated over past 6 months to fund growth and higher borrowing needs of the government.

 I remind myself of this narration almost every market cycle. I think, it is the time to reiterate once again.

Have you ever been to vegetable market after 9:30PM? The market at 9:30PM is very different from the market at 5:30PM.

At 5:30PM, the market is less crowded. The produce being sold is good and fresh. The customer has larger variety to choose from. The customer is also at a liberty to choose the best from the available stock. The vendors are patient and polite, and willing to negotiate the prices. As the day progresses, the crowd increases. The best of the stuff is already sold. Prices begin to come down slowly. The vendors now become little impatient and less polite and mostly in "take it or leave it" mode.

By 9:30PM, most of the stuff is already sold, and only inferior quality residue is left. The vendors are in a hurry to wind up the shops and go back home. The prices are slashed. There is big discount on buying large quantities. Vendors are aggressive and very persuasive. Customers now are mostly bargain hunters, usually the small & mid-sized restaurant, caterers and food stall owners. They buy the residue at bargain price, cook it using enticing spices and oils, and serve it to the people who prefer to eat out instead of cooking themselves, charging much higher prices.

The cycle is repeated every day, without fail, without much change. No one tries to break the cycle; implying, all participants are mostly satisfied.

A very similar cycle is repeated in the stock markets.

In early cycle, good companies are under-owned and available at reasonable prices. Market is less volatile. No one is in a hurry. Smart investors go out shopping and accumulate all the good stuff.

Mid cycle, with all top class stuff already cornered by smart investors, traders and investors compete with each other to buy the average stuff at non-negotiable prices. Tempers and volatility run high.

End cycle, the smartest operators go for bargain hunting; strike deals with the vendors (mostly promoters and large owners) to buy the sub-standard stuff at bargain prices. Build a mouth-watering spicy story around it. Package it in attractive colours and sell it to the late comers and lethargic, at fancy prices.

The cycle is repeated every day, without fail, without much change. No one tries to break the cycle; implying, all participants are mostly satisfied.

If my message box is reflecting the market trend near correctly, we are in the end cycle phase of the current market cycle. I daily get very persuasively written research reports and messages projecting great returns from stocks which no one would have touched six months ago, even at one third of the present price.

The stories are so persuasive and the packaging so attractive that I am tempted to feel "it's different this time." But in my heart I know for sure, it is not!

In past one month, the set of businesses commonly referred to as “cyclical” in stock market jargon has outperformed remarkably. This one month outperformance has resulted in this set of stocks outperforming the benchmark Nifty on past 12 month performance basis also. Though, on three performance basis these stocks continue to lag substantially.

If I go by the media reports and the messages and report in my inbox, there is still “huge” value left to be realized in these set of stocks. The arguments are varied and quite persuasive.

·         A former CIO of a fund recently tweeted that “Deeply negative rates with excess liquidity getting cleared at zero rates is like cocaine to asset markets. We are in midst of a blow off top rally and if RBI does not mop this liquidity then stock prices in India could rise beyond imagination.

·         Another prominent fund manager, reputed for his stock picking skills, argues that so far the liquidity has gone into financial assets. From here on liquidity may move to real economy and fuel demand for infrastructure building and capacity creation. Components of cost like power, labor and interest rates are favorable for Indian businesses hence profitability should improve. There is strong case for investing in cyclicals which will benefit from capacity building in infrastructure and manufacturing.

·         The global brokerage firm Goldman Sachs (GS), in a recent report, highlighted that global Copper prices are now at highest level in past seven years. GS forecasts that “the world’s most important industrial metal was in the first leg of a bull market that could carry prices to record highs.” The report further emphasizes that-

“Against a backdrop of low inventories and net zero carbon pledges from countries including China, Japan and South Korea, Mr Snowdon believes significantly higher copper prices will be needed to incentivise new supply and balance the market.

We believe it highly probable that by the second half of 2022, copper will test the existing record highs set in 2011 [$10,162],” he said. “Higher prices should ultimately help defer peak supply and ease market tightness, but this first requires a sustained rally through 2021-22.”

·         A report by Motilal Oswal Securities highlights that Indian steel spreads have risen ~25% in 3QFY21 and are at a three-year high. Brokerage expects the spreads to stay strong on the back of a domestic demand recovery and higher regional prices.

It is further noted that Despite domestic iron ore prices rising to a five-year high, spot steel spreads are at a multi-year high due to higher steel prices and subdued coking coal prices. While iron ore prices from NMDC have increased by 30% YTD in FY21, imported coking coal prices have declined by ~35% YTD, keeping total raw material cost in check. As a result, domestic steel spreads are strong at INR33,000/t for flats (HRC) and INR30,000/t for longs (rebar).

·         Nirmal Bang Institutional Equities notes that Automobile sales continued its growth momentum in November’20 amid rise in preference for personal mobility on the back of good festive demand, upcoming wedding season, soft base due to overlapping of Diwali in November this year and continued positive sentiments in rural & semi urban markets. Barring 3Ws, all the segments reported YoY volume growth.

·         Emkay Global highlighted in a recent report that Chemical prices are firming up. The report mentions that In Nov’20, prices for key products such as Phenol, Benzene, Acrylonitrile, Butadiene, Toluene and Styrene jumped over 20% MoM in international markets. Rising container freight costs (~2x) on dedicated Asian routes due to a capacity crunch have pushed prices higher for certain chemicals. Freight costs within Asia are also likely to see an uptick in Dec’20 as carriers are prioritizing long-haul routes over shorter ones as a result of better economics. PVC prices have increased 10% MoM and are likely to swell further next month.

On the other side of the spectrum are people like Peter Chiappinelli of GMO, who are convinced that this liquidity fueled rally is about to end anytime now. In the latest GMO Asset Allocation letter, Peter emphatically advised his clients as follows:

“Currently, we are advising all our clients to invest as differently as they can from the conventional 60% stock/40% bond mix, just as we were advising them in 1999. Back then, we were forecasting a decade-long negative return for U.S. large cap equities. And that is exactly what happened. Today, the warning is actually more dire. U.S. stock valuations are at ridiculous levels against a backdrop of a global pandemic and global recession, and CAPE levels are well above 2007 levels, within shouting distance of the foreboding highs reached in October 1929. But it gets worse. U.S. Treasury bonds – typically a reliable counterweight to risky equities in a market sell-off – are the most expensive they’ve been in U.S. history, and very unlikely to provide the hedge that investors have relied upon. We believe the chances of a lost decade for a traditional asset mix are dangerously high.”

My personal view is that it’s 9:30PM in the stock markets. I believe that in post pandemic era, many of the traditional businesses may even not survive. Besides, in Indian context, the present capacity utilization levels may not warrant any significant capacity addition in next couple of years at least. The so called “Atam Nirbhar” capacity building trade may mostly be limited to soft commodities (like chemicals); electronics and defense production. Unlike 2003-10 infra capacity additions, it may not trigger any life changing opportunity for many engineering and capital goods companies.

The logistic constraints and paranoid inventory building by some economies may cease in next six months as vaccine is made available to more and more people. The Central Banks, especially RBI, may look at containing liquidity in 2021, before it can actually cause an inflationary havoc. The hyperinflation which many analysts, economists and fund managers are secretly praying for since QE1 in 2009 may actually not happen at all. I am also convinced from my own research that stress in unsecured credit segment has increased materially in past few months and banks will have to bear the brunt of this. I shall therefore let this trading opportunity in financials, commodities and cyclicals passé.

 The statistics for economic growth during 2QFY21; consumption, investment, exports and financial indicators etc. for the month of October were announced last week. The data has been received very enthusiastically. The general commentary is that the growth is “surprising”, and the recovery is much quicker and superior that previously estimated. The “buoyant” data and further encouraging news on vaccine development & launch kept the momentum in the stock market busy yesterday.

Since, most of the “surprised” reports are basing their arguments on the “Pre-Covid” and “Consensus Estimate” benchmarks; I find it pertinent to note the data with the usual year on year comparison.

1.    The production in eight core industries has contracted for eight consecutive months. In October 2020, the index of core industries fell by 2.5% compared to October 2020. It is important to note that in the base month October 2019, index had also contracted 5.5%.

While coal, fertiliser, cement and electricity recorded positive growth, crude oil, natural gas, refinery products and steel registered negative growth in the month of October 2020.

During April-October 2020, the index of core industries has now declined 13% as compared to a growth of 0.3% in the same period of the previous year.

2.    After witnessing an uptick in the overall export segment in the month of September, India's exports faltered back into the negative territory, contracting by 5.12% YoY in October.

The worrisome part however is that India has lagged its peers materially in exports growth in past many months. Comparative data of export growth on a three-month moving average basis showed that Vietnam, China and Taiwan have seen the strongest revival, followed by Bangladesh. India and Indonesia have lagged.

3.    India’s GDP contracted for second consecutive quarter on year on year basis. In 2QFY21 India’s GDP contracted 7.5% as compared to the same period in previous year. It is relevant to note that NSO has admitted data availability limitation and recognized a possibility of downward revisions to the GDP data for 2QFY21.

Nominal GDP contracted 4% on account of higher inflation in the quarter. Overall, H1FY21 GDP stands at -15.7%, worse than most of our peers.

I find the standalone growth statistics, independent of “pre-covid” and “consensus estimate” benchmarks, not very encouraging. Though one can certainly draw comfort from the fact that we may not deteriorate materially from the current level of economic activity. But we must recognize that the latest statistics implies two things:

 

2.    The potential growth rate for India’s economy which was bordering 9.5-10% a decade ago, may itself have fallen to 7-8% in these two years. Remember, even this “less contraction: is happening on the back of massively negative interest rates.

 

The increase in value of equity portfolio in recent days is causing more discomfort to me rather than giving any satisfaction. For all practical purposes I am discounting my portfolio by 20%.

“Generation gap” has perhaps been a subject of study, discussion and debate ever since beginning of civilization. The new generations have been adopting new ways and methods of living, and the older generations have been rejecting these ways and methods as degeneration. The human civilization has evolved, regardless of this persistent conflict between experience and experiment.

It could be matter of debate whether experience is good as a guide or driver. But in my view, there is no doubt that the innovation (experiment) of new ways and methods of living and doing things has been the primary driver of the human civilization so far.

With the advancement in science and technology, the life span of people has increased materially in post WWII era especially. This expansion in life span has material impact on the dimensions of “generation gap”. The gap which was historically visible mostly between grandfather and grandsons is now sometime visible even in siblings born 5-6yrs apart.

In Indian context, the people who grew up in the socialist ear of 1970s had a very different mindset from the Maruti generation of 1980s. The star war generation of satellite television era of 1990s abandoned the 80s mindset; was soon rejected as outdated by the Google generation of 2000s. The people growing up in post global financial crisis era skeptical about the idea of globalization and free markets, but are free from the constrained mindset of thinking in local terms. They are at ease with creating global corporations and thinking in terms of billion dollars. The generation that will grow up in post COVID-19 era, may have a very different outlook towards life and work.

In this context it is interesting to note the results recent study conducted by Bank of America (BofA) Securities’ Global Research. The key highlights of the study could be listed as follows:

·         The Zillennials or ‘Gen Z’ (as BofA refers to the current generation) have never known a life without Google, 40% prefer hanging out with friends virtually than in real life, they will spend six years of their life on social media and they won’t use credit cards. They’re the ‘clicktivists’: flourishing in a decade of social rights movements, with 4 in 10 in our proprietary BofA seeing themselves as ‘citizens of the world'. The Gen Z revolution is starting, as the first generation born into an online world is now entering the workforce and compelling other generations to adapt to them, not vice versa. Thus, about to become most disruptive to economies, markets and social systems.

·         Gen Z’s economic power is the fastest-growing across all cohorts. This generation’s income will increase c.5x by 2030 to $33tn as they enter the workplace today, reaching 27% of global income and surpassing Millennials the year after. The growing consumer power of Zillennials will be even more powerful taking into account the ‘Great Wealth Transfer’ down the generations. The Baby Boomer and Silent generation US households alone are sitting on $78tn of wealth today.

·         Gen Z could be EM’s secret weapon. APAC income already accounts for over a third of Gen Z’s income and will exceed North American and European combined income by 2035. ‘Peak youth’ milestones are being reached across the developed markets – Europe is the first continent to have more over-65s than under-15s, a club North America will join in 2022. In contrast, India stands out as the Gen Z country, accounting for 20% of the global generation, with improved youth literacy rates, urbanisation, and rapid expansion of technological infrastructure. Mexico, the Philippines and Thailand are just a few of the EM countries that we think have what it takes to capitalize on the Gen Z revolution.

·         Gen Z is the online generation: nearly half are online ‘almost constantly’ and a quarter of them will spend 10+ hours a day on their phone. In our survey, over a quarter of Gen Z’s top payment choice was the phone, while credit cards weren’t even in their top 3. This generation is the least likely to pick experiences over goods, and values sustainable luxury – choosing quality over price as their top purchase factor.

·         Only half of US teens can drive, while our survey finds that less than half of Gen Z drink alcohol, and more than half have some kind of meat restriction. A third of them would trust a robot to make their financial decisions. Gen Z’s activist focus filters into their interactions with business, too – 80% factor ESG investing into their financial decisions, and they have also driven consumer-facing sustainability campaigns, such as single-use plastics. Harmful consumer sectors, such as fast fashion, may be the next focus.

SEBI relaxes cash segment margin norms for non F&O stocks

SEBI has increased the margining requirement for the non F&O stocks traded in cash segment, vide circular dated 20 March 2020. SEBI had also tightened the rule regarding market wide limits for individual stocks available for trading in F&O segment. The objective of increasing the margin requirements and tightening the exposure limits was to control the volatility, ensure market stability and orderly conduct of the market in view of the COVID-19 related concerns.

With effect from today, the enhanced margining norms for non F&O stocks traded in cash segment stands withdrawn. The restrictions on exposure to F&O stocks have also been relaxed. This implies that the market regulator now see lesser risk of market disruption due to COVID-19 related events and news.

The move has generally been received as positive for a rally in mid and small cap stocks. In past couple of weeks, many brokerages have published report favoring investment in mid and small cap stocks. For example, Edelweiss recently revised its outlook for small and mid cap stocks. A note from brokerage stated:

“The Q2FY21 earnings as well as the outlook beat expectations for most Small- & Mid-caps (SMIDs). Importantly, this led to 5–20% earnings upgrades for FY22 for nearly 63% of our coverage SMIDs; another 10% of SMIDs wallowed in 20%+ earnings upgrades. We like category leaders and—so far—this has helped our model portfolio outperform SMID indices by ~4% (over the past 12–15 months). We now include more recovery plays as sequential improvement plays through, having a bearing on stock performance.”

 The classical Bollywood blockbuster Mother India (Mehboob Khan, 1957), was one of many Indian movies of that era that exposed the ugly realties of Indian society, especially feudal dominance, repression of destitute, and exploitation of women. But made Mother India a classic was the courage and grit of a destitute woman, who stood not only against the oppressor but also against her own son who decided to rebel and take the path of crime and violence. One particular instance from the movie that has stuck to millions of minds is about the pledge of gold bangles by the protagonist Radha (played by Nargis) to the unscrupulous money lender Sukhi Lala (played by Kanhaiya Lal) to repay an old debt. In the end, the rebel son of Radha, Birju (played by Sunil Dutt), attacks Sukhi Lala’s household and forcibly takes the bangles and kills Lala to avenge the atrocities done by him to his family, especially his mother. The pair gold bangles thus became the symbol of feudal repression, women exploitation, rebellion by poor and oppressed, and revenge.

Traditionally, gold has been an important means of social and financial security for rural and semi urban population in India, due to poor availability of banking facilities. The success of financial inclusion program in past one decade (especially in past 6years) has however changed the things in many respects. Gold has emerged as key collateral for working capital and emergency credit in past one decade. Though still there is no dearth of exploiters like Sukhi Lala and oppressed like Radha in hinterlands, but conditions have improved materially from 1950s and 1960s. Especially in past one decade, the business of gold loans in organized sector has recorded remarkable growth. Lower rates, easy access, convenient and fast disbursal has made gold loans popular amongst the middle and lower middle class households.

A recent report published by World Gold Council (WGC) highlighted how gold loans are helping Indian households to weather storms, like global financial crisis (2008-10) and Covid-19 (2020).

The following points highlighted in the report are noteworthy for investors, especially the investors in gold loan companies.

·         As of 3Q2019, 52% of investors owned some form of gold, with 48% having invested in the 12 months preceding 3Q2019. The average Indian household holds 84% of its wealth in real estate and other physical goods; 11% in gold and rest 5% in financial assets. Dependence of rural households in physical assets such as gold has been a result of not just love of gold, but also poor banking penetration till lately.

·         Digitalisation of economy and e-commerce penetration are fundamentally altering the age-old scenario, so an element of option beyond gold and real estate in asset portfolio is setting in – though this may take time and may need some catalyst to show tangible results. As of now, love for gold and a window to accumulate wealth without much of the disclosure that financial assets ensue, keeps gold central in rural wealth.

·         Gold loans are popular in both urban and rural areas. They compare favourably with personal loans regarding quicker processing time, no requirement of income proof or prior credit history, and low processing fees. With such advantages, the overall gold loan market has grown from INR 600bn (US$12.6bn) in FY 2009-10 to INR 9,000bn (US$122.6bn) in FY 2019-20, a compound annual growth rate (CAGR) of 31.1% over the last decade.

·         Unorganised gold loan market still accounts for 65% of the gold loan market but organised gold loan market has grown with the market penetration and geographical expansion of financial service institutions and financial inclusion.

·         Gold jewellery kept as a collateral against gold loan by top three gold loan NBFCs (Muthoot Finance, Muthoot Fincorp and Manappuram Finance) totalled 298.8t at end of FY20. The combined gold holdings of these three NBFCs would rank in the top 20 gold reserves of central banks and supranational organizations.

·         Gold loan NBFCs became a de facto choice of consumers during 2006-10 due to their convenience, quick disbursals of loans, and lower interest rates. The growth was also supported by rising gold price during the period.

The organised gold loan market has opportunity to grow with collateralised gold holdings of 1,280t, equivalent to approx. 5% of the total outstanding gold stocks in India. The organised gold loan market can continue to provide lending against gold jewellery both to individuals and small businesses, potentially helping to meet their financing needs. Technology has also become a key enabler in spreading the reach of gold loan business, increasing the penetration of financial inclusion through gold loan industry. The digital offerings in the form of online gold loan (OGL) scheme had become popular since inception.

·         Technology can become a key enabler in the growth of the gold loan market in India. Gold loan NBFCS have already embraced online gold loan scheme which has increasingly become popular since its launch. But more can be done in this area with launching of self-servicing kiosks in branches and public location, launch of gold valuation machine. e-KYC and loan disbursement and repayments using e-wallets and prepaid cards.

S&P expects NPAs to rise

The rating agency S&P Global, has cautioned that the Indian bank NPLs will rise to 10%-11% of gross loans as forbearance is phased out. The rating agency however believes that Top-tier private sector banks and finance companies have sufficient capital buffers but public sector banks would need more capital to tide over the crisis.

“India financial institutions will likely have trouble maintaining momentum after the amount of new nonperforming loans (NPL) declined in the first half to Sept. 30, 2020. S&P Global Ratings believes forbearance is masking problem assets arising from COVID-19. With loan repayment moratoriums having ended on Aug. 31, 2020, we expect to see a jump in NPLs for the full year ending next March.”

Monetary policy at critical juncture

In past few days the weather in India has changed rather swiftly. The winter has set in couple of weeks of early. The higher mountains are already covered with snow. North of Vindhyachal, the air has distinct chill; in South the weather is pleasant. The atmosphere is generally hazy, with heavy cool air not letting the pollution fly away.

In political troposphere also, the heat has subsided with conclusion of intensely contested elections for Bihar assembly. However, the political stratosphere continues to remain hot and dusty, as the political leaders move further east towards West Bengal with their retinue.

In financial markets also the season has changed. Past couple of months has not seen any noticeable disaster in corporate debt sphere. Hopes of recovery have been rekindled with many beleaguered borrowers (DHFL, IL&FS, Jet etc.) showing some encouraging signs. The suspended debt schemes of Franklin Templeton have also given hopes to investors that a significant part of their money may be returned in next 6months.

In stock markets, the quarterly result season has just ended. The market participants were keenly watching the financial results of companies for the July-September quarter, as it was the first quarter after the state of total lockdown imposed in March ended and the economy began to open up. The corporates have mostly surprised the market participants positively. The results and commentary for the forthcoming quarters have been mostly encouraging. The markets have not only warmed upto the idea of normalization in growth in 2021, buy heated up significantly, rising to new highs.

I find the following views and opinions of various brokerages noteworthy:

GDP in 2QFY21 to decline, farm sector to do well

There is near unanimity amongst analysts and economists that the GDP data for 2QFY21, to be released this Friday, will show a negative YoY growth; though there is no consensus on the extent of GDP contraction. The estimates vary widely between 5% and 11%. It is also a consensus that farm sector has done remarkably well in 2QFY21.

I find the following views of Nirmal Bang Institutional Equity Research nearest to my own estimate:

GDP in 2QFY21 is likely to decline by 8.2% YoY. Agriculture & Allied sector is likely to do well with a growth of 4% YoY in 2QFY21. Industry (excluding Construction sector) is likely to witness a decline of 4.6% YoY. The Services sector (including Construction sector) will likely decline by 11.2% YoY in 2QFY21 with the sharpest contraction of 25% YoY in Trade, hotels, transport and communication sector. We expect a sharp improvement in the Construction sector, which will decline by 6.5% YoY in 2QFY21 after declining by 50.3% YoY in 1QFY21.

We continue to factor in a protracted economic recovery. For FY22, on a low base, we are working with a GDP growth of 6%. In our view, containment measures may well get extended into 1HCY21, making us maintain our cautious view on growth.

On top of a bumper Kharif (monsoon) crop that has likely aided the 2QFY21 GDP growth, the latest sowing data indicates that Rabi (winter) crop is also likely to be doing well. As per Prabhudar Liladhar research Fertilizer and farm chemical growth data for Rabi crop is quite encouraging. There is 18% growth in total sales in October driven by 34%/8% growth in Urea/NPK. SSP placements up 21% YoY. Sale of domestically manufactured fertilisers are up 13% while that of imported fertilisers are up 34% YoY, driven by Urea.

IIFL securities recently wrote, “…the sudden recent rally in crop commodities could prove a significant tailwind for CY21. In the broader specialty chemical industry, Indian companies reported mixed results, but still far better than their leading global counterparts, who remained under serious pressure.”

2QFY21 earnings, broadly buoyant

As per Motilal Oswal Securities - The Sep-quarter (2QFY21) corporate earnings season was a blockbuster one, with big beats and upgrades across our Coverage Universe. With an upgrade (>5%) to downgrade ratio (<-5%) of 4:1, this has by far been the best earnings season in many years. 63%. Nifty sales declined 6.7% YoY (est. -5.2%), while EBITDA/PBT/PAT reported growth of 8%/14%/17% YoY (est. -0.3%/-7%/-5%). 62% of Nifty-50 companies reported a beat on our PAT estimates, and only 18% posted results below our expectations.

HDFC Securities, also confirmed this view. A recent note by the brokerage stated - Q2FY21 was a strong quarter. Key highlights of the quarter: (1) Q2 margins beat estimates across multiple sectors due to sharp cost-cutting initiatives and improved pricing power in the wake of lower competition; (2) positive management commentaries on Sep/Oct exit run-rate of revenues as unlocking led to sharp demand rebound in multiple sectors; (3) market share gains for the larger companies; (4) much improved collection trends for lenders; (5) continued uptick in capital markets activity, leading to strong performance for brokers and exchanges.

Consensus turning bullish on markets

As the benchmark indices regain the entire loss from January – March 2020 and trade at their all time high levels, the brokerages seem to be turning bullish on Indian equities.

Morgan Stanley write in a recent note: “COVID-19

infections appear to have peaked, high-frequency growth indicators are coming in strong, government policy action is beating expectations, and Indian companies are picking up activity through the pandemic. Thus, we expect growth to surprise on the upside, rates trough to be behind, and real rates to remain in negative territory for several months. We lift our F2021,F2022, and F2023 EPS estimates for the BSE Sensex 15%, 10%,and 9%, respectively – we are now between 6% and 7% above consensus estimates. By our estimates, the market will be trading at 16x forward earnings at our new BSE Sensex target of 50,000 in December 2021 (our old index target was 37,300 for June 2021).

Sector wise outlook

Motilal Oswal Securities published a compendium of management commentary post 2QFY21 results. The key highlights of the commentary are as follows:

Banking: Commentaries of banks suggest there was an improvement in growth and asset quality. The asset quality outlook is much better than initially feared as collection efficiency picked up sharply in 2QFY21. Collection efficiency in the Top 4 private banks was above 95% and for SBI it was 97%, excluding the Agri segment.

Consumer: Rural demand continues to outperform urban demand. Some of the cost-saving measures implemented by companies during the lockdown are likely to sustain going forward.

Auto: A preference for personal mobility, pent-up demand, and normalization of the supply chain have led to demand recovery. However, most companies mentioned being cautious due to uncertainty regarding demand sustainability post the festive season.

IT: management commentaries indicated the pandemic has acted as a tailwind for the sector - as enterprises are undertaking cloud adoption at a faster pace and digital transformation at the workplace has accelerated.

Cement: companies have informed that cement prices have firmed up across regions in Oct'20 and were up by INR10/bag over Sep'20 on average - despite the quarter being a seasonally weak one.

Healthcare: Despite the COVID-led impact on the Domestic Formulation (DF) segment, the intensity of YoY decline is gradually reducing in Acute therapies with an increase in patient-doctor-MR connect. Operational cost-saving benefits are expected to continue over the medium term.

Capital Goods: Managements across the board attributed to recovery in the Products business being faster v/s the Projects business.

Textile sector outlook

As per a recent note by Motilal Oswal Securities, earnings visibility has improved across players in the textile sector. The Home Textile industry witnessed a strong demand revival during 2QFY21 on high demand from big retailers. Apparel/Fabric/Yarn players are tail-riding on an industry revival: These players may benefit from a paradigm shift in demand to India, huge build-up of pent-up demand and benign raw material prices. The USD:INR is depreciating at a faster pace than the USD:RMB, which has made Indian exporters competitive v/s the Chinese. demand, Indian manufacturers are increasing capacities and focusing on increasing utilization levels.

Production linked incentives (PLI) seen as game changer

The recent measures taken by the Indian government to promote manufacturing in India as structural positive for Indian economy. Goldman Sachs in a recent note mentioned—

“We see the “Make in India” (MII) initiative potentially having a profound impact on India’s economy. Plans to make India more self-reliant could see the share of manufacturing in GDP rise from 17% to 25% over the next few years, creating 100mn new jobs. Knock-on impacts could see India better develop its consumption potential, boosting earnings for domestic companies over time.

In a scenario of full implementation, our Macro team expects real GDP growth to pick up to 8% in the next five years, vs their base case of 5-6%. The team does not bake full implementation of MII into their numbers, given the undoubted challenges: improvements in manufacturing competitiveness, implementation of production-linked incentive (PLI) schemes, better infrastructure, reforms in labour/land laws, more private sector participation, continued political will, and growth in exports. In a recent note, the team noted that Vietnam and India were the most mentioned destinations as alternates to China for manufacturing.”

Global Macro

USD Outlook: Goldman Sachs featured views of three experts in a recent note about the outlook for the US Dollar.

It’s not just the rate of global growth that matters for the Dollar's value, it’s how global growth compares to US growth. Even if the global economy is recovering, if US growth outpaces global growth, the Dollar will remain supported. - Barry Eichengreen (UC Berkeley)

The Dollar’s value surged at the beginning of the coronavirus recession… but it has lost ground since as the global recovery has gained traction. This pattern will likely persist... with good news on the global economic recovery probably weighing on the Dollar… almost regardless of how the US economy is performing relative to key trading partners. - Zach Pandl (Goldman Sachs)

By all logic, the Dollar’s dominance in the global monetary system should be declining… But the reality is that the Dollar’s position remains as dominant as ever. - Eswar Prasad (Cornell)

Bitcoin: JP Morgan in the meanwhile admitted its mistake in rejecting Bitcoin as a scam. From there recent notes however it appears that the brokerage is now inclining towards accepting the cryptocurrency as an attractive asset.

Eric Peters, CIO of Hedge Fund One River Asset Management, reportedly proclaimed (about Bitcoin) that "There Is A Vague Sense That Something Powerful, Apolitical, Transnational, Is Emerging".

Gold: After major underperformance of Gold ETFs in past three months, many analysts have started questioning the rally in gold.

Regulation

RBI: Over weekend, a committee set up by RBI submitted its report, suggesting major changes in the regulatory framework for private banks, including the ownership structure and promoter holding norms. The market seem to have received the recommendation as a major positive.

A dissenting note however came from none other than the former RBI Governor (Raghuram Rajan) and Deputy Governor (Viral Acharya). The duo, who are now academicians in the USA, questioned the very rationale of the proposal. As per them, allowing Indian corporates into banking sector would be a bombshell. They argue that in the present times, it is even more important to stick to the tried and tested limits in corporate involvements in banking.

SEBI: SEBI is reportedly targeting analysts meets and conference calls hosted by various listed companies to apprise the participants about the latest developments in their respective company. SEBI feels that this creates some sort of information asymmetry as the managements many share some unpublished price sensitive information with the analysts and large investors participating in such calls or meets. SEBI is considering making it mandatory for the companies to share transcripts, notes and details of all such calls to the public withjin stipulated time in the interest of investors.

Some food for thought

“One can know a man from his laugh, and if you like a man's laugh before you know anything of him, you may confidently say that he is a good man.”

— Fyodor Dostoevsky (Russian Author, 1821-1881)

Word for the day

Fidelity (n)

Loyalty

It is a tradition amongst local brokerage houses, which primarily cater to the domestic household clients, to present a list of their top stock ideas to their clients on every Diwali. The ideas are presented usually with one year investment period, i.e. till next Diwali.

Reading through the presentations of various brokerages this year, I found the following key messages:

Kotak Securities

As we advance towards getting the vaccine (by middle of next year) and economy gets back to normalcy, we can expect the economy driven sectors to outperform the defensives in Samvat 2077. Banks, NBFCs, automobiles, oil & gas, telecom, utilities, capital goods, cement and metals could come into focus in Samvat 2077. The potential upside in most of these sectors based on our one year price targets ranges between 20 & 39% (Vs single digit potential upside in Nifty50). Since most of the economy driven sectors are prone to market correction one should have an accumulation strategy in them rather than investing at one go.

ICICI Direct

Given the scenario, we see value emerging across the market cap spectrum with the key filter being quality. We continue to advise investors to utilise equities as a key asset class for long term wealth generation by investing into quality companies with strong earnings growth and visibility, stable cash flows, RoE and RoCE.

Motilal Oswal Securities (Retail)

As we enter Samvat 2077, the markets have seen a complete recovery from the Covid lows. We expect Nifty EPS growth of 4% in FY21 while expecting a sharp rebound in FY22. Thus, the overall structure of the market remains positive. At 18x FY22 earnings, Nifty valuations is also not very expensive as it is trading closer to its long-period averages. With the economic activity recovering fast, more earnings upgrade cannot be ruled out. Further strong global markets can keep the liquidity abundant in the system, thus providing support to the overall market. However, intermittent corrections cannot be ruled out as there is a risk of second wave of Covid-19 and thus sustenance of economic recovery holds the key. From next 12 months perspective, we are positive on IT, Healthcare, Rural-Agri, Telecom, Consumer along with select Financials. We believe another round of fiscal stimulus could help elevate sentiment further.

HDFC Securities

India still is not out of woods as far as the Covid pandemic is concerned or its impact on macro or micro is concerned – though latest macro and micro data are encouraging.

In the new Samvat, investors need to look at asset class diversification, sector diversification, spreading investments over time (by way of SIP or staggered investments). Also going by the way Global investing has picked pace, MNIs and HNIs need to look at this asset class to check whether this suits their risk profile and skillsets.

All in all after a turbulent past year, we can look forward to a relatively sedate but selectively rewarding year.

Sharekhan (BNP PARIBAS)

Stepping into Samvat 2077, the threat of the pandemic is not over yet and the fear of a second wave in big geographies is a potential risk. Further, the overhang of US election outcome will keep equity market on its toes.

For Samvat 2077, we have hand-picked 12 quality stocks to create a portfolio, which is a mix of both large-caps and quality mid-caps. All the 12 companies in the portfolio have all the ingredients to outperform the broader market indices over the next 12 months and at the same time withstand volatility and emerge stronger.

SMC Global

It is an opportune time for the investors to tweak and tighten portfolio for the next Bull Run, by embracing buy on dips strategy in frontline quality stocks. Quality stocks with structural story will be the right recipe for a good investment and wealth creation.

Reliance Securities

In Samvat 2077 we recommend the investors to focus on sectors, which are considered to be defensive or prone to prolonged economy slowdown. Further, the companies having sound execution expertise, brand equity, quality management, lean balance sheet with consistent cash flow generation, sound corporate governance, healthy return ratio and better margin of safety are likely to deliver better alpha for the investors.

Axis Securities

Our themes for Samvat 2077 are:

·         The small and midcaps are picking up steam and they should deliver solid returns in 2021 as economic uncertainties will reduce and volatility will decline.

·         Housing and banking will be major themes to watch out for in 2021 because of correction in real estate prices and lower interest rate regime.

·         Digital and telecommunications will continue to remain major long term structural themes.

·         Growth is now a more certain theme, but growth at a reasonable price will be an even bigger theme to invest which will deliver solid returns over the next one year.

Yes Securities

The year 2020 is largely about survival, both health‐wise and finance‐wise. It is also an opportune time to tweak and tighten your portfolio for the next bull run. Vikram Samvat 2077 could well be akin to the year 2003, from a market standpoint.

As is evident from the above cited views of various brokerages, the consensus view is generally buoyant, with a few words of caution here and there. There appears to be a consensus that growth will pick up in 2021.

However, there are strong differences about the ideas that may work in next 12 months. Brokerages like Kotak are advising investors to accumulate cyclical; HDFC, ICICI and Reliance etc are suggesting investors to focus on high quality defensives; while Motilal is advising a diversified portfolio of sectors that worked in 2020, e.g., IT, healthcare, rural/agri an select financials etc.

Some like Axis Securities are forecasting strong midcap outperformance; and some like ICICI Direct are advising focusing on quality large caps; most other have suggested a multicap strategy with a judicious mix of large and small cap.

One striking feature is the disconnect between the broader view and the suggested stock ideas. For example, Axis Securities is bullish on Housing, but the list of recommended stocks does not include any real estate company.

Bharti Airtel, HCL tech, L&T, ICICI Bank, are some of the most common ideas in the list of stocks presented by most brokerages.

 For past many years, it has become a tradition for popular market participants (brokers, fund managers, large investors, analysts etc.) to don finest attires and appear on special Diwali shows hosted by various TV channels to announce their prophecies for the traditional Indian New Year. In the spirit of the festivals of light, they enthusiastically speak about their outlook about the economy, financial markets, and investment opportunities.

In earlier years, these prophecies were taken seriously by the audience, mostly household investors. However, based on my interaction with several people from the targeted audience, I feel, now days most people listen to the experts for validating their own positioning rather than for guidance. Whether in consonance of their positioning or otherwise, these prophecies are drowned in the noise of firecrackers on Diwali night itself.

However given the mobility restrictions and popularization of digital media due to Covid-19 this year, most experts have presented their views from their homes (instead of TV studios) rather early. Therefore the audience has got 4-5 days, against the usual 2 days, to digest the expert views and react to these, even though there is no change in these views for past 15years.

Besides, the experts draped in fine silk Kurtas spreading the message of positivity and hope, another thing that has dominated the financial media in past one week is the state of automobile sector in the country.

First, the CEO & MD of Bajaj Auto Limited, rattled the markets with his rather despondent commentary about the state of economy in general and the state of automobile industry in particular. He categorically stated that the retail sales this Navratri have been disappointing this year, and even the present level of sub optimal demand is not sustainable after the accumulated demand post “unlocking” is met.

The rival Hero Honda management however calmed the ruffled feathers, presenting a buoyant picture saying that demand has remained robust during the festival season and is likely to sustain in coming months.

The management of the commercial vehicle major Ashok Leyland appeared confident that demand shall pick up steadily from hereon. Both the tractor majors, M&M and Escorts, also continue to show robust growth and margins.

One of the large non banking lenders, Mahindra & Mahindra Financial Services, recently said that the market for cars is limited by supply and not demand. They told analysts that against 39000 cars in September, they financed 50000 cars in October.

The Federation of Automobile Dealers’ Associations (FADA), in a press release issued on Monday, advised caution for OEMs and dealers. The apex body of auto dealers categorically stated that “Dealer Inventory for both 2W and PV are at its newest highs in this Financial Year. FADA requests all OEMs with a special request to 2W OEMs to assess the on-ground inventory level and curb production accordingly.” The near term outlook of FADA, as stated in the said press release, is extremely cautious. It reads as follows:

“As we enter the last leg of festivals and with Covid getting into its 3rd wave in many cities, there is a sense of cautiousness amongst customers. Due to the lockdown announced in few European Countries, procurement of spares will also be a cause of hinderance for smooth supply of vehicles in Indian markets. This will create a supply and demand mismatch thus affecting the passenger vehicle sales.

FADA once again cautions both OEMs and Dealers to keep a check on vehicle inventory as post festivals, demand may remain subdued. Since Inventory levels are at its highest during this Financial Year, it may impact Dealers financial health thus leading closures and job losses.”

In my view, the divergence of views in Auto sector, aptly reflects the state of overall economy as well. At this point in time it is extremely difficult to make a correct assessment of the state of Indian economy.

The general view that rural economy is resilient to the slow down while the urban economy continue to struggle may not be relevant for one year perspective. The fiscal challenges of the government ought to eventually reflect on the support extended to the rural sector also. But as I said, it is very complex at this point in time. Making a prophecy about the economy and market for next 12 months requires a certain degree of both audacity and apathy. Unfortunately, I have none.