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MARKET STRATEGY
Lower than expected results from few large caps, resilient inflation and
weak global cues kept domestic markets sideways during May, 2011.
Encouraging IIP numbers and softening of commodity prices failed to
provide support to the markets. Markets continued to drift lower on
sustained FII selling.
Economic data points have been mixed with healthy IIP number and decent
tax collections, but inflation has remained resilient. The RBI has responded
with a 50 bps hike in repo rates. However, with high non-food
manufacturing inflation and imminent hike in diesel and cooking gas prices,
inflation is likely to remain firm in the near-term. Consequently, further rate
hikes cannot be ruled out. Impact of rise in interest rates has already slowed
down volumes in the real estate sector. We expect other interest-sensitive
sectors like auto to also feel pressure in the coming months.
Global markets have also weakened in May on fresh reports of worsening of
the debt crisis in Eurozone. Economic data from the major economies is not
very upbeat either. In our view, taking this into cognizance, the liquidity
may have begun to move out of commodities to safe assets like the USD
(rise in risk aversion). If this phenomenon persists, then one may expect
commodity prices to correct further, which should be a significant positive
for the Indian economy.
In our view, some of the broad concerns outlined above may keep the
markets on the sideways. However, on the upside, the valuations
adjustment process is already underway and we believe that stock
valuations have now become reasonable. Sell-off in some heavyweights like
SBI, Infosys and BHEL may be overdone and investors can start accumulating
these stocks. In terms of sector preference, we continue to be positive on
sectors like banking, IT and metals. In view of their susceptibility to interest
rate movements, we prefer to be selective in construction, auto, media and
logistics. We remain positive on select capital goods companies.
Global markets moved up on good corporate results but inflation
worries remain
US markets lost ground during the month due to massive sell-off in commodities
coupled with subdued employment activity that intensified worries of a faltering economic
recovery. For the month, the DJIA, FTSE and HSI are down close to 2% each.
There was a strong correlation between the movement in commodity prices and
equity markets. Investors seemed concerned whether the decline in commodities is
a signal toward weak U.S. economic growth, or simply the rotation of money from
one asset class to other. Even the consumer outlook as guided by the US retailers
has been weak, suggesting that the economic rebound may still be soft.
Adverse reports on the Eurodebt crisis continued to put pressure on markets. Earlier
in the month there were reports that Greece was considering abandoning the euro.
This was followed by a cut in credit rating of Greece by three notches, thus pushing
the Greek bonds further into "highly speculative" junk territory.
In addition, Standard & Poor's slashed Italy's outlook to 'negative' from 'stable.' The
downgrades, combined with a weaker-than-expected reading on manufacturing in
Europe, renewed concerns about the eurozone's debt crisis. Furthermore, Spain's
ruling Socialist party was hit with its worst election defeat in years, as citizens continued
to protest the weak economy and high unemployment. Consequently, the U.S.
dollar rose against the euro, which added further downward pressure on commodities
that are priced in the U.S. currency, such as oil.
Indian markets sold off on disappointing earnings and continued
FII outflows
Domestic indices sold off during May, 2011 and underperformed developed
markets. The negative trend in domestic markets was led by some weak numbers
from SBI coupled with continued selling by FIIs. Inflation has continued to remain
resilient. The Election results in the five states were announced during the month
with DMK and TMC emerging as victorious in the crucial states of TN and WB
respectively. Immediately post the election results, the government took some
unpopular decisions like hike in petrol price. However, the hike did not go down
well with the markets.
Among important earnings announcements, SBI came out with fourth quarter
numbers that were way below street expectations. The largest bank in India
reported decline in Net Interest Margins and also higher growth of gratuity and
pension provisions. The damage to the stock has been significant - down 18% for
the month. BHEL numbers were in line with expectations but the company disclosed
that accounting revisions had boosted profits. The company also announced a 5%
divestment in government stake, which dampened stock sentiment. On the other
hand, L&T surprised the market with its excellent order intake. The infrastructure
major also succeeded in preserving its EBITDA margins despite material costs
pressures.
IIP growth for March came in at a strong 7.3% but failed to
enthuse the market
Industrial activity in March 2011 came at 7.3%, higher than the expectations,
mainly driven by robust growth in capital goods and consumer durables. In terms of
sectoral classification, manufacturing (7.9% YoY; highest in last five months) and
electricity (7.2% YoY) segments helped in pulling out impressive numbers. The
capital goods segment rose 12.9% in March 2011, after posting weakness in the
previous three months, possibly reflecting some bunching up ofinvestments.
Intermediate goods continued to show moderate growth; 3M moving average grew
at 7.4% during March 11 as against double digit numbers witnessed till 5-6 months
back. This segment is important as it typically tends to exhibit 3-4 months of lead
period over headline IIP number and maps the future growth of production cycle.
We believe for next few months IIP numbers would continue to remain soft due to a
combination of base effect and moderation in economic growth.
The cumulative growth for the period April-February, 2010-11 stands at 7.8% vs
10.4% in FY10. Macroeconomic factors such as high inflation, high crude oil prices
as well as higher interest rates are impacting the investment climate. This is
reflecting in sluggish growth in fixed capital formation. In a scenario of strong
consumption, inflation has remained high which prompted RBI to increase interest
rates. Further increase in interest rates from here on may slow down the
consumption coupled with slowdown in the capacity creation. This would have an
impounding impact on driving up inflation further, thereby making the task of RBI
difficult.
Inflation remains resilient despite RBI's moves. Recent petrol
price hikes to put further pressure.
WPI inflation for the month of April, 2011 remained at a elevated levels - up 8.66%
as compared to 9.0% seen in Mar, 2011. A continuing worry is the steep upward
revisions to past inflation data with the February WPI revised to 9.54% from the
provisional estimate of 8.31%, an increase of 123 bps. The recent petrol price hike
will add approximately 6-10 bps to the May and June inflation, respectively, while
further pressure could be created out of likely price increases in diesel, LPG and
kerosene.
Food inflation continues to soften but non-food primary articles is a concern.
Manufactured products inflation softened to 6.18% (1% mom) from 6.21% in
March while nonfood manufacturing inflation, which is closely followed to gauge
demand-side pressures, eased to 6.3% from 7.4% in March. However, the
momentum in non-food manufacturing remained strong, indicated by the 1.2%
mom rise in non-food manufacturing. The strong increases in manufactured products
index in the past four months is a cause of concern as it indicates a continuing
robust demand pull.
RBI continues monetary tightening - hikes rates by 50 bps
RBI Monetary Policy Statement - Inflation scores over growth in the monetary policy
announcement in May, the RBI effected 50bps increase in repo and reverse repo
rates. The move came on the back of sustained high inflation, which can create
uncertainties in the economy and may impact investments and growth. RBI's
endeavor has been to protect the high growth in the long term at the cost of some
moderation in the near term. Its forecast on GDP for FY12 at 7.4% - 8.5% (v/s
about 9% projected by the Government) clearly reflects that.
RBI also hiked savings interest rate by 50 bps from 3.5% to 4%. This is expected to
have an impact of about 5% on an average on the profits of banks. However, we
expect the banks to pass on the higher costs to the customers in due course of time.
The apex bank also revised the provisioning norms, which will impact banks (mostly
PSU banks) to some extent. We understand that, most private sector banks and
large PSU banks follow a more conservative policy on provisioning. To that extent,
they may not be impacted by these higher provisioning requirements.
We expect RBI to raise interest rates further by 75 bps over FY12E. The stock market
reacted viciously to the increase in savings account interest rate and reduction in
GDP growth rate apart from the hike in repo rate. We believe that, an 8% growth,
if achieved, will make India one of the fastest growing economies. Moreover, in the
immediate term, the comfortable liquidity position (as alluded to be the RBI) may not
lead to sudden spikes in interest rates for corporate India. Thus, earnings growth in
FY12E may not suffer significantly despite the higher interest costs, we believe.
Disppointing quarterly numbers and headwinds to economic
growth prompt FIIs to pare positions
Foreign funds continued to remain net sellers in the month of May, 2011 with net
outflows in the cash market stood at Rs.51.5 bn while mutual funds continued as net
sellers with net outflows standing at Rs.4.35 bn. While the FII inflow in CY10 was at
USD 29 bn, it is likely to be much lower in CY11. The major factors include high
inflation and firm interest rates, which may slow down corporate earnings growth in
FY12. Anticipating a slowdown, the valuation adjustment process of the market is
already underway. We believe, FIIs continue to be attracted by the India growth
potential. Thus, we expect outflows to subside as corporate valuations become increasingly
attractive.
Recommendation
For the month, the Sensex is down 3.3%, underperforming the developed market by
a wide margin. In our previous note, we had indicated our negative bias for the markets.
However, the magnitude of sell-off has been more than expected. Encouraging
IIP numbers for March and forecast of a normal monsoon failed to support the markets.
The sell-off has been catalysed by disappointing numbers from SBI and weak
global cues. Higher than expected inflation and fears of further spike in inflation on
fuel price hikes post assembly elections also weighed down on the markets.
Global markets have also weakened in May on fresh reports of worsening of the
debt crisis in Eurozone. Economic data from the major economies is not very upbeat
either. In our view, taking this into cognizance, the liquidity may have begun to
move out of commodities to USD assets. If this phenomenon persists, then one may
expect commodity prices to correct further, which should be a significant positive for
the Indian economy.
In our view, some of the broad concerns outlined above may keep the markets on
the sideways. However, on the upside, the valuations adjustment process is already
underway and we believe that stock valuations have now become reasonable. Selloff
in some heavyweights like SBI, Infosys and BHEL may be overdone and investors
can start accumulating these stocks. In terms of sector preference, we continue to
be positive on sectors like banking, IT and metals. In view of their susceptibility to
interest rate movements, we prefer select stocks in construction, auto, media and
logistics. We remain positive on select capital goods companies.
Preferred picks
Sector Stocks
Automobiles Bajaj Auto, Escorts
Banking Axis Bank, Bank of Baroda, ICICI Bank, SBI
Construction IRB Infra, BGR Energy
Engineering L&T, Greaves Cotton, Tractors India, Cummins,
Diamond Power, Voltas
Information Technology Infosys, TCS, KPIT, NIIT Tech
Logistics & Transportation Mercator Lines
Media HT Media
Metals & Mining Sesa Goa
NBFC IDFC
Oil & Gas Cairn India, IGL
Other Midcaps Time Techno
Source: Kotak Securities - Private Client Research
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
MARKET STRATEGY
Lower than expected results from few large caps, resilient inflation and
weak global cues kept domestic markets sideways during May, 2011.
Encouraging IIP numbers and softening of commodity prices failed to
provide support to the markets. Markets continued to drift lower on
sustained FII selling.
Economic data points have been mixed with healthy IIP number and decent
tax collections, but inflation has remained resilient. The RBI has responded
with a 50 bps hike in repo rates. However, with high non-food
manufacturing inflation and imminent hike in diesel and cooking gas prices,
inflation is likely to remain firm in the near-term. Consequently, further rate
hikes cannot be ruled out. Impact of rise in interest rates has already slowed
down volumes in the real estate sector. We expect other interest-sensitive
sectors like auto to also feel pressure in the coming months.
Global markets have also weakened in May on fresh reports of worsening of
the debt crisis in Eurozone. Economic data from the major economies is not
very upbeat either. In our view, taking this into cognizance, the liquidity
may have begun to move out of commodities to safe assets like the USD
(rise in risk aversion). If this phenomenon persists, then one may expect
commodity prices to correct further, which should be a significant positive
for the Indian economy.
In our view, some of the broad concerns outlined above may keep the
markets on the sideways. However, on the upside, the valuations
adjustment process is already underway and we believe that stock
valuations have now become reasonable. Sell-off in some heavyweights like
SBI, Infosys and BHEL may be overdone and investors can start accumulating
these stocks. In terms of sector preference, we continue to be positive on
sectors like banking, IT and metals. In view of their susceptibility to interest
rate movements, we prefer to be selective in construction, auto, media and
logistics. We remain positive on select capital goods companies.
Global markets moved up on good corporate results but inflation
worries remain
US markets lost ground during the month due to massive sell-off in commodities
coupled with subdued employment activity that intensified worries of a faltering economic
recovery. For the month, the DJIA, FTSE and HSI are down close to 2% each.
There was a strong correlation between the movement in commodity prices and
equity markets. Investors seemed concerned whether the decline in commodities is
a signal toward weak U.S. economic growth, or simply the rotation of money from
one asset class to other. Even the consumer outlook as guided by the US retailers
has been weak, suggesting that the economic rebound may still be soft.
Adverse reports on the Eurodebt crisis continued to put pressure on markets. Earlier
in the month there were reports that Greece was considering abandoning the euro.
This was followed by a cut in credit rating of Greece by three notches, thus pushing
the Greek bonds further into "highly speculative" junk territory.
In addition, Standard & Poor's slashed Italy's outlook to 'negative' from 'stable.' The
downgrades, combined with a weaker-than-expected reading on manufacturing in
Europe, renewed concerns about the eurozone's debt crisis. Furthermore, Spain's
ruling Socialist party was hit with its worst election defeat in years, as citizens continued
to protest the weak economy and high unemployment. Consequently, the U.S.
dollar rose against the euro, which added further downward pressure on commodities
that are priced in the U.S. currency, such as oil.
Indian markets sold off on disappointing earnings and continued
FII outflows
Domestic indices sold off during May, 2011 and underperformed developed
markets. The negative trend in domestic markets was led by some weak numbers
from SBI coupled with continued selling by FIIs. Inflation has continued to remain
resilient. The Election results in the five states were announced during the month
with DMK and TMC emerging as victorious in the crucial states of TN and WB
respectively. Immediately post the election results, the government took some
unpopular decisions like hike in petrol price. However, the hike did not go down
well with the markets.
Among important earnings announcements, SBI came out with fourth quarter
numbers that were way below street expectations. The largest bank in India
reported decline in Net Interest Margins and also higher growth of gratuity and
pension provisions. The damage to the stock has been significant - down 18% for
the month. BHEL numbers were in line with expectations but the company disclosed
that accounting revisions had boosted profits. The company also announced a 5%
divestment in government stake, which dampened stock sentiment. On the other
hand, L&T surprised the market with its excellent order intake. The infrastructure
major also succeeded in preserving its EBITDA margins despite material costs
pressures.
IIP growth for March came in at a strong 7.3% but failed to
enthuse the market
Industrial activity in March 2011 came at 7.3%, higher than the expectations,
mainly driven by robust growth in capital goods and consumer durables. In terms of
sectoral classification, manufacturing (7.9% YoY; highest in last five months) and
electricity (7.2% YoY) segments helped in pulling out impressive numbers. The
capital goods segment rose 12.9% in March 2011, after posting weakness in the
previous three months, possibly reflecting some bunching up ofinvestments.
Intermediate goods continued to show moderate growth; 3M moving average grew
at 7.4% during March 11 as against double digit numbers witnessed till 5-6 months
back. This segment is important as it typically tends to exhibit 3-4 months of lead
period over headline IIP number and maps the future growth of production cycle.
We believe for next few months IIP numbers would continue to remain soft due to a
combination of base effect and moderation in economic growth.
The cumulative growth for the period April-February, 2010-11 stands at 7.8% vs
10.4% in FY10. Macroeconomic factors such as high inflation, high crude oil prices
as well as higher interest rates are impacting the investment climate. This is
reflecting in sluggish growth in fixed capital formation. In a scenario of strong
consumption, inflation has remained high which prompted RBI to increase interest
rates. Further increase in interest rates from here on may slow down the
consumption coupled with slowdown in the capacity creation. This would have an
impounding impact on driving up inflation further, thereby making the task of RBI
difficult.
Inflation remains resilient despite RBI's moves. Recent petrol
price hikes to put further pressure.
WPI inflation for the month of April, 2011 remained at a elevated levels - up 8.66%
as compared to 9.0% seen in Mar, 2011. A continuing worry is the steep upward
revisions to past inflation data with the February WPI revised to 9.54% from the
provisional estimate of 8.31%, an increase of 123 bps. The recent petrol price hike
will add approximately 6-10 bps to the May and June inflation, respectively, while
further pressure could be created out of likely price increases in diesel, LPG and
kerosene.
Food inflation continues to soften but non-food primary articles is a concern.
Manufactured products inflation softened to 6.18% (1% mom) from 6.21% in
March while nonfood manufacturing inflation, which is closely followed to gauge
demand-side pressures, eased to 6.3% from 7.4% in March. However, the
momentum in non-food manufacturing remained strong, indicated by the 1.2%
mom rise in non-food manufacturing. The strong increases in manufactured products
index in the past four months is a cause of concern as it indicates a continuing
robust demand pull.
RBI continues monetary tightening - hikes rates by 50 bps
RBI Monetary Policy Statement - Inflation scores over growth in the monetary policy
announcement in May, the RBI effected 50bps increase in repo and reverse repo
rates. The move came on the back of sustained high inflation, which can create
uncertainties in the economy and may impact investments and growth. RBI's
endeavor has been to protect the high growth in the long term at the cost of some
moderation in the near term. Its forecast on GDP for FY12 at 7.4% - 8.5% (v/s
about 9% projected by the Government) clearly reflects that.
RBI also hiked savings interest rate by 50 bps from 3.5% to 4%. This is expected to
have an impact of about 5% on an average on the profits of banks. However, we
expect the banks to pass on the higher costs to the customers in due course of time.
The apex bank also revised the provisioning norms, which will impact banks (mostly
PSU banks) to some extent. We understand that, most private sector banks and
large PSU banks follow a more conservative policy on provisioning. To that extent,
they may not be impacted by these higher provisioning requirements.
We expect RBI to raise interest rates further by 75 bps over FY12E. The stock market
reacted viciously to the increase in savings account interest rate and reduction in
GDP growth rate apart from the hike in repo rate. We believe that, an 8% growth,
if achieved, will make India one of the fastest growing economies. Moreover, in the
immediate term, the comfortable liquidity position (as alluded to be the RBI) may not
lead to sudden spikes in interest rates for corporate India. Thus, earnings growth in
FY12E may not suffer significantly despite the higher interest costs, we believe.
Disppointing quarterly numbers and headwinds to economic
growth prompt FIIs to pare positions
Foreign funds continued to remain net sellers in the month of May, 2011 with net
outflows in the cash market stood at Rs.51.5 bn while mutual funds continued as net
sellers with net outflows standing at Rs.4.35 bn. While the FII inflow in CY10 was at
USD 29 bn, it is likely to be much lower in CY11. The major factors include high
inflation and firm interest rates, which may slow down corporate earnings growth in
FY12. Anticipating a slowdown, the valuation adjustment process of the market is
already underway. We believe, FIIs continue to be attracted by the India growth
potential. Thus, we expect outflows to subside as corporate valuations become increasingly
attractive.
Recommendation
For the month, the Sensex is down 3.3%, underperforming the developed market by
a wide margin. In our previous note, we had indicated our negative bias for the markets.
However, the magnitude of sell-off has been more than expected. Encouraging
IIP numbers for March and forecast of a normal monsoon failed to support the markets.
The sell-off has been catalysed by disappointing numbers from SBI and weak
global cues. Higher than expected inflation and fears of further spike in inflation on
fuel price hikes post assembly elections also weighed down on the markets.
Global markets have also weakened in May on fresh reports of worsening of the
debt crisis in Eurozone. Economic data from the major economies is not very upbeat
either. In our view, taking this into cognizance, the liquidity may have begun to
move out of commodities to USD assets. If this phenomenon persists, then one may
expect commodity prices to correct further, which should be a significant positive for
the Indian economy.
In our view, some of the broad concerns outlined above may keep the markets on
the sideways. However, on the upside, the valuations adjustment process is already
underway and we believe that stock valuations have now become reasonable. Selloff
in some heavyweights like SBI, Infosys and BHEL may be overdone and investors
can start accumulating these stocks. In terms of sector preference, we continue to
be positive on sectors like banking, IT and metals. In view of their susceptibility to
interest rate movements, we prefer select stocks in construction, auto, media and
logistics. We remain positive on select capital goods companies.
Preferred picks
Sector Stocks
Automobiles Bajaj Auto, Escorts
Banking Axis Bank, Bank of Baroda, ICICI Bank, SBI
Construction IRB Infra, BGR Energy
Engineering L&T, Greaves Cotton, Tractors India, Cummins,
Diamond Power, Voltas
Information Technology Infosys, TCS, KPIT, NIIT Tech
Logistics & Transportation Mercator Lines
Media HT Media
Metals & Mining Sesa Goa
NBFC IDFC
Oil & Gas Cairn India, IGL
Other Midcaps Time Techno
Source: Kotak Securities - Private Client Research
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