On the earning season
Broadly the results have been a positive surprise over even the improved expectations. We saw Q2 doing better than what was expected and a certain expectation was built in that Q3 will be good. Broadly, the results have even been better than that.
Second, some sectors like consumer durables have shown 25-30% top line growth. Electrical, electronic components mainly have seen 25-30% growth. The same has not been observed in some other sectors let say cement. But in case of cement and a few others, the margin tailwind because of the raw material prices remaining soft has continued from Q2 to Q3 as well. Now as an extrapolation in Q4, it is not likely to sustain because raw material prices are going up. Some companies like automobile manufacturers have taken price hikes but many others have not done so and there could be some margin pressure. These are the few trends I see going forward.
Automobile sector is one which still offers opportunity for an upside given the good numbers they are likely to report in Q4 also, with the expectation of margin squeeze. Pharma has continued to report mixed numbers. Margin improvement has been there as well but there has been no participation on the stocks. As a result, on a relative basis, the valuations have become more attractive. That is where we could see outperformance.
So, these are the two sectors which over the next one to two quarters could outperform.
On
Market was disappointed with ITC stock probably because there was a price rise in anticipation of results and it was followed by profit booking. That is the best that I can think of. We all know that ITC has been a consistent underperformer over any period of time that we take medium term or long term, leave aside their last 15-20 days when it saw a sharp rise after the market moved up so much.
The broader issue for the company as a whole continues to be true. One, the capital allocation and the return ratios for the company are quite low because of multiple diversifications and business initiatives that it has taken. Over a long period of time, they might give returns but in a reasonably visible last three, four, five years, investors continue to suffer and there is an ESG overhang as well. There seems to have been a short-term participation which is weathering away.
On investing in PSUs
I would like to break the PSU investment into two parts; one, the one, two or three specific cases which are being taken up for privatisation and what should be the view on that. My approach for that will be to wait out. Before Covid started, we had a lot of news flow coming in on BPCL. There was a lot of expectation in terms of the price movement. The stock had probably moved up beyond Rs 500. But nothing happened. So I will wait. Finally, there is a consciousness and awareness in the government circles.
The DIPAM made a statement about three months ago saying that he was aware that public sector companies’ market cap had significantly lagged the overall market performance. Subsequently, he said that they were thinking of adding three new criteria to the PSU companies evaluation — market cap increase, non-core asset sale and return ratios. Now if these criteria are brought in for evaluating public sector companies in addition to the current criteria of top line, bottom line, growth, margins and things like that, it will be very important and that will be a tipping point for the public sector rerating.
The way the stocks have moved in the last three months, additionally supported by announcements made in the Budget, I would give them a benefit of doubt. Otherwise, I have been a consistent non-liker of public sector investment for the last four, five, six, seven years. But as I said, I would still like to leave those two or three cases which are being taken up for privatisation because their share price performance will actually be dependent on actual privatisation.
On opportunity in midcap niche plays in fertilisers, speciality chemicals and retail
Over the last few months, we have seen mid and small cap participation coming in after being absent for two-and-a-half to three years or so. That is a good thing. It is also to do with the valuations of the large cap having moved up significantly.
So, only a certain amount of discount can remain between largecaps and midcaps and that is where the mean reversion is happening. Second, it is also to do with some of the sectors and companies having recovered very well in terms of financial performance after the Covid crisis. They also need to be rewarded. Third, the fact that money has been coming into the market. The more money keeps coming in, the more opportunities it keeps looking for.
In terms of sectors, one very specific sector that comes to my mind within the broader BFSI segment is gold finance companies. There are only two such companies. Others also do it but more as a division of their existing banking or broader NBFC businesses. That space looks good and in that,
market cap has moved up sharply over the last few months. So, it is not necessarily a midcap idea but in terms of specific investment recommendations, that is a space that looks good to me.
Is the market right in moving the gravitas from an and a Kotak to ?
It is difficult to predict where the market is right and where it is wrong. But of course, the market is always right. So not only in terms of specific stocks within the sector, even if we look at the market movement over the last two and a half months or so, the kind of rally that has come in largecap indices is coming in via sector rotation every few days.
In the overall broadly flattish to marginally negative market, the financials are up and autos are down, metals are down, pharma is down. That is the kind of sectoral rotation that keeps happening in the market especially when it is on a one-way up or one-way down path. also. Within that, available opportunities, the leadership or the participation or the performance or underperformance will keep changing. It will be a function of the market cap and liquidity of a particular stock. It will also be a function of the broader trend changes that are happening.
Just now I was talking of gold finance companies, now part of the leadership for the money flowing in gold companies will come in from the outflow that will happen or seems to be happening in some of the microfinance companies or the small finance banks which are largely based on the microfinance business because the business conditions are not as strong as one would have preferred to.
That is the kind of rotation that keeps happening and the market is right. Valuation gap keeps happening and it always tends to revert to mean. The rotations keep happening from large banks to smaller banks and private sector banks to public sector banks or the large cap banks to the midcap banks.
