The markets have been buoyant thanks to liquidity, but are we likely to see this momentum continue into the New Year or would a major blip kick in?
We are very constructive on the market from a medium- to long-term perspective. However, in the near term, the markets could correct but it will be very shallow and swift because a large amount of domestic liquidity is sitting on the sidelines. There has been consistent selling through this rally ever since the Nifty crossed 10,500-11,000. The mutual funds have sold at least $10 million worth of stock over the last five months and that liquidity is either aligned with them or with the end investors. On the first sign of a correction, I expect this money to start flowing back again.
What most people tend to forget is that while the first leg of this rally was definitely led by liquidity, what will drive the market over the medium to long term is earnings growth. Earnings are going to surprise people on the upside just like they did in Q2. I would be surprised if you see earnings upgrade once the Q3 season is over. There are more legs than just liquidity to sustain this market.
What are the chances that in 2021 the economy does well and markets do precious little as markets have already run up in anticipation of an economic recovery?
It is quite possible that the headline indices — Nifty and the Sensex — may not give much greater return incrementally because all the return has been upfronted. Markets are very smart and tend to discount the future well in advance. But over the next 12 to 24 months, there will be opportunity in the broader markets. We did a study of the last five significant corrections in the Nifty which were greater than 15% since 2000. We found that after these five corrections, over the next 15 months on an average, the Nifty was up between 9% and 10%. But the interesting thing is that the midcap index was on an average up 30%-35% and the small cap index was up 45-50%. Post the very strong recovery in the headline index, the action is likely to shift to the broader markets and that is where incremental returns are going to be.
Where do you see scope for earnings surprise outside the obvious themes like IT, pharma, cyclicals and industrials?
The surprises will continue to come from pharma followed by consumer discretionary which got hurt during the pandemic. It should rebound in 2021-22. Surprise will also come from cyclicals. Metals are off to a great start but that is not an area where we usually invest but other cyclicals like autos including companies like Tata Motors, Maruti and ancillary companies look good. One can make money selectively in capital goods, real estate and in housing finance companies.
There could be a significant upside from where we are today because they are just starting a new cycle now and it is very difficult to talk sectors when we are dealing in the broader markets. One has to be very much bottom up but even though IT has had a good runup, I still feel that the sector can give very strong returns over the next 12-24 months. The fact that large companies are able to beat the consensus by a handsome margin tells me that the sell side is way behind the curve in picking up the fact that tech is on to a very strong structural growth story.
Even in case of pharma, there could be upsides that are not factored in because it is very difficult for analysts to take all the potential upsides that could be there in the product pipeline and therefore potential surprises could come in.
These two sectors will definitely do well. Financials will have to play some catchup because they are still underperforming the Nifty but once that catchup is done, I do not see the financials leading this market. They will be at best market performers but consumer discretionary and cyclical sectors and stocks from those sectors will do phenomenally well.
