After hitting record highs, markets have corrected in recent sessions; BSE Sensex closing below the 59,500 level this week. What are the prospects for the future? Where are interest rates going? Which sectors are promising from a growth and valuation perspective? Sampath Reddy, Investment Director at Bajaj Allianz Life Insurance, shares his thoughts with THE WEEK.
Equity markets rebounded strongly until 2021, despite valuation warnings. Based on what we’ve seen over the past few days, do you think there’s more vapor left?
Yes, valuations are quite high with the strong market rally. However, corporate earnings were a fairly positive surprise amid the pandemic. During FY21, we saw India’s GDP contract 7.3%, but Nifty EPS (earnings per share) rose 18%, compared to earlier expectations of around 10% contraction of profit growth. Despite the second wave, profits for fiscal 22 and 23 did not suffer any significant decline and are expected to increase by 25% and 20% respectively. Therefore, this upward trend in the corporate profitability cycle, aided by corporate cost reduction initiatives, has contributed to positive market sentiment and the recovery, in addition to the surging global liquidity that is coming. find its way into the capital markets. The economic recovery has also been better than expected and the holiday season could give new impetus to growth and consumption.
In the short term, we could see some market volatility due to the Fed slowdown or rising inflation and commodity prices. However, we believe that any market correction may not be as deep as in March 2020. India’s long-term growth story remains intact with India remaining a preferred investment choice among the markets. comparable emerging markets.
What kind of impact will the reduction in liquidity by the Federal Reserve and other central banks have on emerging market equities, including India?
The market expects the Fed cut to be announced at the November 2021 policy meeting, but it should be gradual and calibrated. It’s not as if the Fed will abruptly stop quantitative easing and withdraw liquidity. In addition, rate hikes are not expected until the end of 2022, and the FOMC’s forecast according to the September meeting points to a 20 basis point rate hike over the 2022 calendar.
However, as markets move ahead, we could see some near-term volatility in emerging markets (including India) once the Fed begins to slow down. However, as mentioned earlier, India appears to be well positioned among emerging markets from a long-term fundamental perspective.
In addition, some of the macroeconomic indicators in India are better placed than during the Fed’s taper tantrum in 2013. For example, the current account deficit for fiscal year 23 is projected at 1.5% of GDP against a high deficit of the Fed. 4.8% current account. of GDP during FY13. Foreign exchange reserves are currently at a record high of over $ 600 billion (indicating 13-15 month import coverage) against reserves of around $ 300 billion in 2013 (when import coverage was around six months). Inflation is currently much more subdued than the high inflation levels of 9-10% seen in 2013.
At recent Monetary Policy Committee meetings, the RBI also slowly began to mop up excess liquidity. Are reverse repo or reverse repo rate hikes imminent?
Yes, the RBI has indicated that liquidity normalization will continue as the economic recovery continues.
We expect the RBI to start by narrowing the corridor between the reverse repo and reverse repo rate (by raising the reverse repo rate) during its policy review in December or early 2022. We ask the central bank to remain otherwise accommodative for some time to come and intervene to effectively manage the yield curve. Repo rates are expected to rise in 2022, depending on the trajectory of inflation and growth, and the monetary position of the world’s major central banks.
What is the outlook for interest rates and equity markets in 2022?
We believe interest rates have bottomed out and expect yields to toughen a bit in the future. As mentioned earlier, the RBI will try to intervene (via open market operations) and prevent long term yields from hardening too much as it has to effectively manage the remaining part of the large market borrowing program. Currently, we prefer the mid-term portion of the yield curve.
For equity markets, we believe earnings growth momentum will be sustained in fiscal 22 and 23 and will be widespread, which should improve sentiment and support market valuations to some extent. Thus, India’s long-term growth story remains intact and gaining ground, and therefore we recommend that investors continue to invest in equities consistently. There may be some volatility in the market in the near term, but given the outlook for strong earnings, we don’t expect a very deep correction. From a market capitalization perspective, we currently prefer the large cap segment to the mid / small cap segment, with the latter’s valuation premium widening due to this year’s strong recovery.
Since the markets have hit record highs, what are the risks, if any, from here on out, unless of course the easy money cut?
Besides tapering, one of the other risks is the rise in commodity prices (especially crude oil prices), which worries a net oil importing country like India; although, as mentioned earlier, our current account deficit is still benign from the highs recorded in FY13. Globally, inflation has risen quite substantially and domestic inflation may as well. decline again, although it has moderated over the past two months due to falling food prices. Core inflation in India is still a bit high. The rise in interest rates is also not very favorable to the equity markets, although rates are still quite far from previous highs. We must also keep an eye on all geopolitical issues.
What would you bet your money on now from a sector perspective?
We are positive on some banks, metals and the infrastructure and capital goods sector.
With the economic recovery, we expect credit growth to pick up gradually after stagnating for some time at five to six percent. Large private sector banks would drive credit growth into the economic recovery, coupled with the assumption that the cost of credit normalizes in the second half of the year. The banking and financial sector weighs about 40 percent in the Nifty index and accounts for 25 percent of overall revenues. Healthy after-tax profit growth of 25-30% is expected for the industry in FY22-23. Valuations also remain reasonable for the industry.
The metals sector benefited from the sharp rise in metal prices, which helped boost profitability. In addition, metal companies have been able to use this rise in profits to deleverage their balance sheets, which has been a concern of investors for the sector before.
With the economic recovery, we expect the investment spending cycle to gradually recover as well, with the initial boost from public infrastructure spending. We also expect the government’s PLI program to stimulate the domestic manufacturing sector. The contribution of manufacturing to India’s GDP has moderated in recent years, which could help revive the manufacturing sector. The government has also announced a national monetization pipeline of Rs 6 trillion over a four-year period (FY22 to FY25) for the leasing of major central government assets. It is expected that the resulting additional revenues will be mainly used for infrastructure spending.
The IPO market has been hot this year, in terms of the number of issues or funds raised, and several issues have received exceptional listings. What’s your perspective? Do you think there is still enough appetite for mega IPOs like LIC and BPCL?
Yes, with the buoyancy of the market, issuance in the equity markets has been strong this year and we have seen some big IPOs in recent months with solid listing gains. This indicates a healthy appetite on the part of investors (both retail and institutional). The IPO pipeline remains fairly strong in FY22, with the net supply of shares expected to hit record levels.