Strategy: Markets continue upward momentum
* Highest monthly rise in 16 months: The Nifty rallied 5.8% in July, the highest monthly return in 16 months. The key drivers were: good progress of the monsoon, smooth GST implementation, and continued liquidity inflow. Midcaps (+4.4% in July) underperformed the Nifty, but the valuation premium v/s large caps remained stable at 14% (7% in May). July witnessed inflow of USD0.4b from FIIs and USD1.8b from domestic MFs. In YTDCY17, India has received MF inflows of USD8.1b, more than full year inflows of CY16 (USD7.1b). FII inflows for YTDCY17 stand at USD8.7b, more than the cumulative CY15 and CY16 inflows of USD6.3b. Currency remains stable at INR63-65/USD, benefiting from strong flows and stronger macros. RBI has announced a 25bp repo rate cut in its meeting yesterday (August 02, 2017), acknowledging the muted inflation trends and normal monsoons. Politically, NDA got a major boost in July, with Bihar Chief Minister, Mr Nitish Kumar breaking alliance with RJD and forming a new government in alliance with BJP. This augurs well from the Rajya Sabha arithmetic perspective, as it bolsters the government’s numbers in the Upper House.
* No big surprises in 1QFY18 results yet; GST implementation creates some volatility: The government has implemented GST from July 01, 2017, and so far, it has been a smooth exercise, barring minor hiccups. The destocking ahead of GST has impacted volumes in sectors like Consumer Staples/Durables/Autos/NBFCs, but this was anticipated. The 1QFY18 earnings season has been in line so far, with 101 MOSL coverage companies having declared their results. Sales, EBITDA and PAT have grown at 8.7%, 4.7% and 0.7% against expectations of 7.5%, 6.2% and 4.3%, respectively. However, earnings downgrades continue, with 11/33 companies seeing earnings upgrade/downgrade of 5%+, so far. Nonetheless, our Nifty FY18 EPS forecast remains unchanged at INR496.
* India among the best-performing markets in YTDCY17: For CY17 YTD, MSCI EM (+24%), India-Sensex (+22%), Korea (+19%), Taiwan (+13%) and US (+10%) were the best performers among the key global markets in local currency terms. On the other hand, Russia (-15%) delivered negative returns. Over the last 12 months, MSCI EM (+22%) has outperformed MSCI India (+13%). However, in the last five years, MSCI India has outperformed MSCI EM by 93%.
* Sectoral performance trends; Consumer underperforms: PSU Banks (+13%), Telecom (+10%), Metals (+9%) and Cement (+9%) were the top outperformers. Consumer (-3%) is the only sector to deliver negative returns for July. In this edition of ‘Bulls & Bears’, we take a deep dive into valuation metrics of the Metals sector.
* Waiting for micros to converge with macros: The Nifty has delivered 23% returns in YTDCY17 and is among the best performers. GST implementation has been smooth and RBI has delivered another rate cut, adding to the overall buoyant sentiment. While India’s macros are as strong as ever, these have not yet converted into healthy micros (consistent and sustainable earnings growth). Meanwhile, valuations have re-rated, thanks to strong macros and consistent decline in cost of equity, coupled with incessant inflows from DIIs and FIIs. At the current trailing P/E of 23x and forward P/E of 19x, we see limited triggers for further re-rating, unless accompanied by earnings revival. Management commentaries in 1QFY18 so far have been mixed, with B2C companies talking about pick-up, as the trade re-stocks. Meanwhile, provisions remain elevated in BFSI, with no meaningful improvement in asset quality . Our Contrarian Investing Thematic Study highlights a few frameworks on stock selection in a market characterized by rich valuations and deluge of liquidity, and offers several Contrarian Buy ideas across sectors.
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