Mkts to see new lows before year-end: Religare Aegon AM
Published on Sunday, September 14th, 2008 at 3:53 AMAuthor: admin (5507 Articles)
Vetri Subramaniam of Religare Aegon Asset Management said the markets will most probably see new lows before the year-end. “We could see a further 20% shave-off in the next 2-3 months.”
He feels earning estimates are still high. “Earnings are the most important criterion for markets. Consensus sees FY09 and FY10 earnings growth at 15% and 20% respectively. We feel this earnings estimate may be at risk and needs to be revised downward. We see earnings growth slow to 8-10% CAGR in FY09 and FY10. Credit, interest, and depreciation costs will start weighing down on the bottomlines of companies.”
According to Vetri, global credit deleveraging, and fall in commodity prices is marginally positive for India. “Falling oil prices and peaking of interest rates are positives, while slowing economy, weaker rupee, and tight capital are negatives.”
Vetri said one needs confirmation from the Reserve Bank that the tightening cycle is ending. “It is tough for RBI to start cutting rates over the next six months.”
Valuations will be a concern as long as growth trends down, he added.
Pankaj Vaish of Lehman Brothers said sentiment in markets has turned negative. “Global events have worsened and risk appetite is waning. Hedge funds want to preserve their gains. We are starting to see some value emerge in the medium-term. So, investors can buy at lower levels in case the market slides further as interest rates and inflation may have peaked.”
Vaish feels there is still a lot of issues for global policy makers. “Housing sector pressures may take longer to resolve.”
According to Vaish, the Indian economy is broadly decelerating. “Valuations in some sectors are stretched. We are likely to see 7-7.5% GDP growth. The July IIP number shows healthy capital goods numbers.”
Excerpts from CNBC-TV18’s exclusive interview with Pankaj Vaish and Vetri Subramaniam:
Q: Are we going back to July lows?
Vaish: Sentiment has turned quite negative. Global situation has made sentiment marginally worse. Below 4,300, it has opened up this possibility. We are starting to see some value emerge in the medium-term. Within sectors, there is a lot of differentiation. Some careful selection is taking place. But for the Nifty as a whole, that door has now been opened. It is a good backdrop with interest rates having peaked, so it would be a good buying opportunity if we were to test the lows.
Q: Are you a bit surprised that the markets are breaking down again after what crude has done?
Subramaniam: The medium-term perspective continues to trouble me. Earnings estimates in India are way too high and need to be revised lower. Falling oil prices and peaking of interest rates are definitely positive. However, the economy is still showing signs of decelerating, global risk appetite is waning, capital availability is a problem, and the currency is currently depreciating. All this put together is not a positive outcome for equities.
Q: Earlier, there were expectations that as Brazil and Russia tank, we will be the recipient of some flows. But that has not worked out at all. So, what is going on with global flows?
Vaish: It has not worked out yet. There has been a global risk aversion. Hedge funds are in the fourth quarter and want to preserve whatever gains they might have had. A lot of them have had rough years. There is also the high watermark phenomenon for hedge funds.
The risk appetite is clearly harder to find in this cycle. That is just a function of what the performance for the year has been. For some of those players, it could take sometime before it comes back. It is actually a great entry point because the rupee is at an 18-months low. One is now getting a price to earnings of 14-14.5 which might even be at a slight discount to the S&P 500. From those points of views, it is somewhat of a diametrically opposite position from 9-10 months ago.
Q: Is the rupee unnerving a few investors with the sharp depreciation that it has seen?
Vaish: It is unnerving some investors. One should look at the Trade-Weighted Index which our economists have created. That is not as high as the dollar-rupee and is about 9-10% weaker year-on-year. It does concern some investors. The Korean Won has shot up to about 1,200 which is a concern for a lot of investors. It brings back bad memories of 1997. However, this is remarkably different from that. Now, all countries have much better forex reserve positions.
Q: What is the big problem for this market? Is it just FII outflows and global sentiment or is it really earnings worries starting with the next quarter which is leading to this downslide?
Subramaniam: The most important criteria for the markets is earnings. The consensus is still calling for 15% earnings growth in 2009 and 20% in 2010. I think those numbers are at grave risk. If one compares multiples at which India is trading relative to the rest of the region, we are still trading at a fairly handsome premium with a growth rate which is no longer looking significantly different. If anything, it is actually sliding. A year back we used to talk about how India could trade at a much higher valuation because China was trading at a huge premium to our markets, but now China is trading at a discount to us. So, there really is no standing for the markets in terms of valuations, as long as their growth prospect continues to trend down.
Q: Crude is down about 35% from its peak, but the Index is just 10% away from its 2008 low. So, has that come as a surprise?
Subramaniam: If one looks at history, it shouldn’t come as a surprise. If one studies 16-17 years of data, the Sensex and the CRB Index were actually pretty much correlated. Typically, strong commodity prices are associated with a strong global growth environment. That is the kind of environment in which both the Indian economy and those markets have done very well, either because of strong underlying growth trends or due to greater willingness of capital to take on risks. That’s the environment in which we are positively correlated with commodities. In the short-term or over the last 4-5 months, there was a negative correlation between how oil and Indian stock markets behaved. But the longer term trend is very different. It’s that trend which is reasserting itself and is now far more concerned about the health of the global economy and outlook for capital flows.
Q: What happened to the theory that as crude collapses, India will be a rocket of a stock market?
Vaish: I would disagree with Subramaniam. Even now, we are 10% from the lows, but did rally about 20% in excess. We can’t have it both ways. We can’t say crude is rising so it is bad for the Indian stock market. When crude falls, it’s a sign of a global slowdown, which is also bad for the stock market.
In the last several months, the nation had this panic obsession with WPI on a weekly basis. We have gone from 3% to about 12% over nine months, and everyone has got panicky about it. A lot of that has to do with global commodity prices passing through a lag effect and some capacity constraints. The RBI was concerned and hiked interest rates. Time will tell whether that was the right thing to do or not. I feel it is not the right medicine for the problems at hand. We did see a 20% rally and are now selling off because of other global issues and risk aversion. I feel falling crude prices is ambiguously good for Indian corporates.
Q: Would you say that as commodities cool off and inflationary pressures ease, it is positive for markets or does one need to scale back earnings for commodity stocks now? Would Nifty earnings be at serious risks next year?
Subramaniam: A large part of earnings comes from oil and oil-related stocks and commodities. About 40-50% of earnings come from those kinds of companies. In addition, a lot of growth which has been built into 2009 and 2010 actually comes from this set of companies. So, earnings are definitely at risk. The flla in commodity price is a bullish factor for India compared to the rest of the world. But you need to take that with a pinch of salt. Currently, investors are de-leveraging. With money vanishing and banks not willing to create credit any more, whatever credit there is de-leveraging globally. The size of the pie is shrinking. In that smaller pie, arguing about money shifting and a relative trade away from commodity exporting nations to commodity importing nations does not much difference.
Q: What do you do with commodities this week? Do oil or commodity heavy stocks need to correct or adjust downward further from here?
Vaish: They have corrected to a decent amount. WTI crude futures have seen good support at USD 100 per barrel. We bumped way up a couple of times and then had an about 15% correction from there. At least for the first time, USD 100 per barrel has held quite nicely. We are back up to about USD 102 per barrel. For the time being, we have seen corrections, so it is possible that we will see better price performance from some of these names. Our strategists calculate that this cooling off in prices will reduce fiscal deficit.
Q: Should one just ignore the good news?
Vaish: We tend to focus on the negative side of the argument all the time and when price pressures are downwards. The Indian economy is sliding from the 9% stellar growth and to about 7.5%. If you add in the deflator and take out the agricultural sector, one should be in some sort of low double-digit growth rates. The industrial production number went back to 7.1%. The capital goods and durable components in that are the healthy sectors that one would expect in a growing economy. We have gone through high growth, high inflation scenario which led to the central bank tightening. It’s true that certain sectors were way overdone and have corrected valuationwise. Once we start seeing better inflation numbers, because commodity prices have come up a lot, the central bank can ease up a little bit. So, one will see the makings of a better landscape for the market.
Q: How would you position yourself in commodity stocks right now?
Subramaniam: Oil refining companies, particularly local refining and marketing companies, are contra players. I would tend to be reasonably positive on that side, but would still be quite negative on the rest of the commodity space. It is only refiners that are contra play. The issue is going to be in terms of earnings growth for the entire market. We have seen five years of CAGR running about 30% from the index as a whole. For the next two years, we could see GDP hold up at 7-8% in real terms and about 15% in nominal terms. But earnings growth could come in significantly below that and that’s the challenge.
Q: When can we get some relief from the global situation, both in terms of what is happening with global markets and in terms of flows?
Vaish: There are a lot of issues that the policy makers globally are grappling with. There are voices which say the government should only go so far and not intervene beyond a certain point. So, that will take some time to work itself out. The housing sector is one of the most illiquid things to work through, compared to other asset classes. That takes a fair amount of time and this time is no different. We feel it could take a while longer.
Q: What kind of damage are you expecting on earnings, will we get crunched down to 9% or 10%?
Subramaniam: Over the next two years ‑ 2009 and 2010 – one could be looking at earnings growth slow to 8-10% of CAGR. That would be some degree of mean reversion to account for five years where we have had CAGR in excess of 25%. The reasons for that are multiple. There is demand slowdown and margin pressures, operating leverage in the system is completely gone, banking sector has to now start accounting for credit costs, and manufacturing sector is now having to take on interest costs and depreciations in its Profit and Loss because capacities are shrinking. Unfortunately, prices are not all that great. All of this essentially means that the same positive beta that was feeding earnings for the last five years is now actually going to work in reverse for the next two years.
Q: Could there be problems from unexpected areas? Is IT suffering from some currency-related problems?
Vaish: That was a bit surprising. Maybe the hedges have been overdone. I was a bit surprised to hear from Infosys. There have been fairly large blow-ups in commodity hedge funds, not just the commodity futures market but on equities and commodity-related plays. This has been a large source of the pain. One can see it in gap ups in the stock prices of commodity related plays, which takes another leg away from the risk that could have come into markets in countries like India. There is always a possibility that once USD 100 per barrel breaks on the downside, it could run to USD 85-90 per barrel which will have further repercussions.
Q: What is the next positive trigger for this market? In the next four months, what could turn the tide in terms of sentiment for this market?
Subramaniam: Everybody will be watching for some sort of confirmation from the central bank that the tightening cycle has come to an end. It is difficult to expect them to actually go out and start cutting rates in the next six months. In terms of forecast, it is unlikely that this inflation rate will get anywhere close to their stated target of 5%. I think this will be something that the market will greet positively.
Some of the demand patterns that are emerging from the rural side of the economy are very strong at this point of time. Also, terms of trade are favourable for those consumers.
Vaish: Bonds rallied quite a bit. From the peaks seen a couple of months back, bonds have come down almost 100 bps in the 10-year and swaps have come down 200 bps. That is a phenomenon which is not very well advertised in the broader equity markets. Some policy makers are talking about inflation having peaked.
Q: Are we going to form a new low in this market or would we just amble around in a range and not get there?
Subramaniam: We will see a new low by the time one gets to the end of the year.
Q: Will it be significant lower compared to what we saw in July?
Subramaniam: One could easily see a further 20% shave off in the next two-three months.
Q: Do you disagree with that?
Vaish: It is hard to forecast how negative people could get. If they do get pessimistic, it will be a good buying opportunity.
Source : MoneyControl
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