Tuesday, May 15, 2018

Where is the opportunity for contra trade? Mahesh Patil picks 3 sectors

The political risk which we were worried about for the Karnataka elections seems to be reducing because it is promising some kind of continuity. As a money manager, what does that mean for you? 

The election was just one of the events affecting the market. Looking at the verdict that is coming out from the Karnataka elections, we might have more clarity in terms of how the next general elections would be and in that scenario, as a money manager as well as investor, one would be able to take a slightly more positive view going forward. This has been one of the concerns which was capping the market upside. 

Now, focus would come back to fundamentals, how growth is picking up, the quarterly results etc. We have seen a strong pick-up in consumption, the numbers for Lever which came in yesterday show a good volume growth. Being an election year, good spending on the ground clears the way for the market to scale new highs in the medium term. 

How are the macros shaping up? Are you pleasantly surprised that despite the crude at $75-77, rupee almost at $68 and bond yields are not coming down, the markets are firm like a rock? Only 1-1.5% more and we would be sitting at an all-time high? 

Yes, that is true. Despite some macro headwinds, markets have been resilient and continue to climb the wall of worry. Historically, whenever crude prices have been higher, markets have been positive only when they go excessively above a particular level. Then it is a cause for worry. Even at current crude prices, while there has been some pressure on the current account deficit, we have seen pressure on the rupee but it is still manageable. So, there is nothing to be really worried about on that front. 

Overall, liquidity remains fairly strong. Domestic liquidity flows which fell last month, are fairly healthy at around $2 billion on a monthly basis. All these factors are strengthening the market. But market strength is there only in a few stocks. The breadth of the market has actually deteriorated. The mid and the small caps have not done as well. It is mainly the Nifty and the few large names in the Nifty which are supporting the market. 

Where would you want to be contrarian in this market? The ideas that can deliver an alpha in terms of outstanding returns are getting fewer and far between as markets push to higher valuations, is it time to be contrarian and if so where?
Being contrarian need not necessarily work in this kind of a market. It is where there is earnings visibility and growth which the market is chasing. While we have got liquidity, it is not as big as it was earlier. The money is really chasing companies or stocks where the earnings growth and visibility are much more certain, in the next one or two years. 

But at the same time, one can always take a few contrarian bets where one can potentially look for a larger upside in the coming years. 

Sectors which have underperformed recently because of various reasons but where the fundamentals are still fairly good like the oil and gas sector. 

The oil marketing companies have corrected significantly on back of concerns about government’s ability to raise fuel prices. Now, with the Karnataka elections over, the price hikes have started. The valuations are very attractive across-the-board and the companies also offer good dividend yield. There is some potential for the stocks to rerate and this sector can be looked at as a more contrarian play. 

Another sector which is still underperforming is the pharma space. We have not seen any meaningful uptick there despite the market rally. It is still under earnings pressure but that is slowly fading away. In that sector, a clearly bottom-up and stock-specific approach can give a good alpha over the medium term. 

Suddenly there is a resurgence in private retail banks. HDFC Bank and Kotak Mahindra Bank are at all-time highs. IndusInd Bank is not far behind. When do you think the outperformance in corporate banks will start? 

The retail-focussed banks have been good long-term compounding stories. There has been a strong credit growth on the retail side and we have not seen any meaningful increase in the credit cost on the retail front. This cycle has been fairly strong. Considering that the corporate banks and the PSU banks have been struggling, private retail banks have gained good market share. 

That story will continue and these stocks will continue to compound. But having said that, we are seeing large clean-ups happening in corporate banks as well in Q4 which was expected after the new RBI norms were introduces. The good thing is we have not seen any meaningful increase in the overall stress book and that remains where it is. 

It is only the accelerated provisioning which is impacting the earnings. The way, economic outlook is shaping up, we are seeing across-the- board recovery, some capex recovery down the line as well as deleveraging happening in the corporate sector. 

There is a good case to look at corporate banks. If I take 2-3-year view, at least in the better banks where the balance sheet is fairly strong, you could see a significant decrease in the credit cost. There is some potential to rerate over there. 

So, with a two-three-year view, corporate banks could also be a good contrarian play at this point in time. 

Would that leave the trade with PSU banks completely off the mark or could an SBI or Bank of BarodaNSE -2.14 % still remain an opportunity?
PSU banks are still struggling after the PNB episode. There is still resistance in terms of going aggressive and growing the credit on the loan book. These challenges will struggle to grow. Raising capital for PSU banks might not be easy. While the government has done recapitalisation, they still need to raise a significant amount of money they from the public market to fund their balance sheet growth and to fund the credit losses. 

Except for one or two large PSU banks, from a longer term perspective, we do not see any merit to in any other PSU bank. 

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