Earnings Growth will come from Q3, drive markets up

Earnings growth has been muted in the last three years and most of the performance was coming from PE (price to earnings ratio) expansion. PE is already higher than the long term average. So I do not see much of an upside to PE expansion until earnings show up. Earnings growth is what will drive the market up. A lot of money flow is coming into equity as an asset class while all other asset classes are finding it difficult especially physical asset classes like real estate, which is not doing well. In that backdrop, equities have become more attractive. Even within fixed income, of late yields moving up has become a worry. That’s also probably leading to fund flow from fixed income to equity. Fund flow environment continues to be very good for equities. But I do not see much of an upside to PE. It will probably remain there and it will be earnings growth which will come up from the third quarter onwards. That will drive the market up.

Growth in quarters three and four will be more of a base effect growth. For the next fiscal, we will see more general, sustained growth. Now probably there is not much of a risk to growth. So 15-20% growth in FY19 is certainly doable.

The banking sector’s NPA problems will get addressed in the next six months. The banking sector will help the overall growth in the economy. In other sectors, pharmaceuticals have been suppressed in terms of earnings growth. There also we see resolutions coming through. So pharmaceuticals may not be a drag going forward. IT, which was seeing low growth, it will also come into the growth path as macro environment in the US is improving. Today, the sector is not performing mainly because of the rupee. The rupee has been extremely strong for the last couple of quarters. Significant part of the rupee appreciation is now behind and from here on you could see slight improvement in earnings growth in IT services companies. Their valuations are pretty good.

The IT sector is where value is quite evident. The issues which were depressing growth for the last three years will not be there for FY19. Private Banks also we have liked for some time. Their growth continues to be good and they continue to take market share from the public sector banks and grow.

Metals also have been doing well especially as commodity prices are quite healthy, mainly in aluminium as well as steel. These are the two products where India has a very good competitive advantage. With prices improving, these companies will also do very well. Once you see couple of quarters of growth, PE will also add to market performance but that is some time away.

We are not generally positive on PSU banks. Recapitalization is a good move but in the long term private sector banks will continue to increase their market share. New age banks are also entering such as small finance banks. There is a lot of opportunity in the private sector banking space and one would be able to generate better returns there than public sector ones. We would still prefer to be in private sector banks.

In the last 2-3 years, the way the domestic funds have grown in terms of size, the relevance of FIIs has become smaller. Even if they sell for some period of time, I don’t think one should read negative into that particular selling. My sense is that it will be temporary. On a longer period, most of the time they are net buyers.

We have seen a mini budget in the form of GST. In November, tweaking has already happened to some of the rates. Since most of the GST rates have been reset recently, we may not see much tinkering there. There is a belief that this time in this Budget, there could be a little bit of populist measures and I think that’s fine. That should not make a huge difference to the market.