Investors should continue to be stock-specific in current market: Sandeep Bhatia, Kotak Institutional Equities

ET Now: What is the sense that you are getting about the market? The last few days of volatility clearly seem to be indicating that perhaps 6400 was the ceiling in the near term.

Sandeep Bhatia: Yes, the kind of run that we saw in November or the first half of December is not something which the market is seeing in January. There are events which are going to have an impact on the market. By the end of this month we will have the RBI credit policy. We think that there will be no rate hike. But it is still not clear whether we will see a decline in policy rates coming through in the first four-five months of this year. Our view is that the rates that the RBI wants to maintain are going to be high and elevated until we see some sort of a stable government come through at the Centre and also some inflation to roll down. Eventually for the market to have a big trigger it will just be some earning numbers which will come through from mid January onwards. Even there it is a mixed picture. We are looking at 11 to 13% kind of YoY earnings growth. Overall 2014 is a bottom up stock-picking market. It is still not a big thematic market which will move up across the board.

ET Now: The theme for 2013 has been quality, quality and quality. For those who have bought into IT, pharma, quality midcap stocks, they have had a good year. Do you think that theme will extend to 2014 as well? Will the quality theme roll over to this year also?

Sandeep Bhatia: It depends upon where we see the politics to play out. There is clearly going to be an expectation of stable government coming through in 2014. We will soon have the announcements of the dates of the elections for polling. There could be a bit of a hope trade coming through in February, March, April. Let us get this result season behind us. After that focus will move towards politics and there could be a hope trade coming through and at that point in time low-quality stocks could see a rise. Whether this would be a trading rally depends on whether we see a good outcome or stable outcome. There could be a bit of hope trade in the second month onwards.

ET Now: Where would that hope rally take us — another 5% from here or would it be a significant move up?

Sandeep Bhatia: The index is not where the hope trade will play. It will probably play out in the second-tier names. We have seen parts of that happening in the fourth quarter of last calendar year. We could see that also come through in the first quarter of this current year. It is not necessarily an index move. It will mostly be some kind of a move where people take a bet that a new government is going to change the complexion of the economy. Even if that takes two years in the making some of the stocks will rally ahead of that.

ET Now: I am with you when you say that the big game changing event for 2014 locally at least is election, but elections are due in May. What happens to the market in the run up to the election?

Sandeep Bhatia: The basic scenario is that the rates will remain high. If we see a fall in inflation, then clearly there would be some kind of interest rate trade happening. Auto names will benefit from falling interest rates on hopes of stronger auto volumes sales this year. We could see some kind of hope happening through NBFCs, if rates come off. If we do not see that, then the market on the headline front will focus on large-quality names. But most of the money will be made outside these big names and it will be in the second-tier names. The market remains range-bound, but there are clearly interesting moves happening below the market.

ET Now: Let me challenge your conviction on autos. Why should autos do well? Autos have done relatively well in 2013. If you are of the view that the economy will bounce back, this time the economic recovery would be investment led, it will not be consumption led and if I look at the valuations of most of the auto stocks, none of the top line auto stocks are cheap.

Sandeep Bhatia: You have some elements of truth in what you have mentioned. One should remember that when the economic recovery takes place, it is not an on-off switch. It is going to be a slow burn in terms of momentum, in terms of confidence. Today most people have decided not to spend on projects even if they get approvals because they want to have clarity come through.

Once you see some clarity come through and even if you start spending which is not until the end of the year, benefit of that will start flowing through in terms of top line growth or GDP and any capex two years down the road. Revenues and earnings trajectory is driven by businesses which are already set to benefit if there is an economic rebound immediately, where they do not have to invest large sums of money, where they do not have to wait for the kick-through to come through because capacities are already in place. That is one reason why autos to some extent are much better. The margin uptick on volume growth on operating leverage business in autos, especially in Tata Motors where the domestic business has been written off by everybody, can be huge. We like Tata Motors more than any other stock primarily because it is currently an export business, but it can become a domestic business by the end of this year. That is why autos come through. There are specific reasons why some of these names react faster to an economic turnaround than the capex-driven names.

ET Now: Post the cleanup act, would names like MCX interest you?

Sandeep Bhatia: We do not cover such names, but these are event-driven trades. It is difficult for any mainstream brokerage to call events or anyone to call any events. Any trader who wants to play that will have to be conscious of the fact that depending upon who takes over and what event and how things move after that change, the stock can be a good performer or lacklustre. These are event-driven trades. So it is difficult for us to make comments.

ET Now: Come Friday and Infosys would be kick-starting their earnings. For the Sensex EPS for FY15, what is it that you are expecting both on a worst-case scenario and the best-case scenario when it comes to earnings?

Sandeep Bhatia: The Sensex is a very narrow universe of stocks. But of course, everyone talks about it because it is the headline index. Besides, it is an easily comparable index.

It is 13% earnings growth at the max that we expect. Earnings growth will be driven by the automobile sector and by the IT sector. Weak earnings, if that happens, will be for the NPAs coming through the banking systems. Bank stocks are the large portion of all indices and also for BSE. If there is a downslide and big NPA recognition by large banks, then the earnings growth could be in high single digits between 7% and 8%. That is the worst case for Sensex earnings. You have to remember that this is driven by the banking sector and the NPA recognition of the banking sector is something which is impacting this. So it is not a quarterly phenomenon. The banking sector needs to get a lot of its NPA in the book. There is also a focus coming from RBI to align the books of all banks at certain basic recognition of NPAs. A combination of these factors means that bank earnings will be under pressure. Reported headline earnings of Sensex will come under pressure, but it will primarily be due to one sector.

ET Now: Most of the large IT companies came out with absolutely blow-out set of Q2 numbers because a falling rupee or strengthening dollar really aided their margins. Do you think this time around, courtesy currency volatility, we could be in for a result disappointment?

Sandeep Bhatia: Most of these businesses have longer-term hedges. So short-term volatility does not immediately play out in their numbers. I do not think that is something which is going to impact the headline names which are going to report. Valuations are in favour of Infosys vis-a-vis TCS. Also, we have a period where the underlying volume growth trajectory for the entire business is moving up because the US is coming back stronger. That is something which is a more structural reason for favouring IT earnings rather than any currency hedge which has already played out and is already part of base earnings for most analysts. The incremental delta will come from better volume growth and better than expected pricing numbers which the business can get.

ET Now: As a house, what is your tactical view on PSU banks because PSU banks have managed to bounce back? If your assumption is that the economy will come back, rates will come down, is there a tactical trading in PSU banks because a biggest beneficiary of an economic comeback or a falling interest rate is PSU banks which will report good numbers because of treasury income?

Sandeep Bhatia: We remain underweight right now on PSU banks. We expect rates to remain elevated, but steady levels right now till at least the elections, till May-June. After that, we will have to look at whether we see a roll down in terms of policy rates and therefore also on 10-year bond yields. In the near term, the pressure will be on earnings as far as PSU banks are concerned. In fact, structurally for the next two years, there is going to be a lot of pressure to clean up the balance sheets. If the economy recovers, there is going to be some more pressure to get everyone aligned. In the near term at least, we would avoid PSU banks.

ET Now: What about NBFCs? Of late, some of the names have been showing traction from the midcap arena. Anything that interests you there?

Sandeep Bhatia: No. NBFCs generally have weaker balance sheets than most of the large PSU banks. There could be tactical plays if we see a roll down of policy rates which we expect after April-May.

Source: The Economic Times

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