Alok Agarwal

Sep 25, 2023

Markets are positively positioned with strong macro growth and corporate earnings growth, plus valuations, though above average, are not overstretched, says Alok Agarwal of Alchemy Capital. Sunil Shankar Matkar Alok Agarwal is the Portfolio Manager at Alchemy Capital Management The markets are presently in a positive position due to robust macro growth and corporate earnings growth, said Alok Agarwal, Portfolio Manager at Alchemy Capital Management, in an interview with Moneycontrol. Despite valuations being above average, they are not overextended. After a recent strong rally in the broader markets, he anticipates some pause, but he remains optimistic about the prospects of midcap/smallcap in the medium to long term. Alok with over 20 years of experience in equity research and fund management says structurally, he is more bullish on the ER&D (engineering research & development) space within technology, as compared to traditional businesses. Is it the time to move from midcap/smallcap to largecap? A sharp rally in the broader markets in the last few months does prompts this review. However, since the last major rally in broader markets (i.e., CY 2017), the picture looks quite different and shows further catchup potential for broader markets, especially given the possibility of better earnings growth. Related stories In terms of the 1-year forward P/E ratio, Nifty Midcap Index is trading at a 29 percent premium to Nifty Index versus CY2020 highs of 57 percent premium and the 3-year average of 25 percent premium. Similarly, the Nifty Smallcap Index trades at a 14 percent discount to the Nifty Index versus CY2020 highs of a 9 per cent premium and the 3-year average of a 10 percent discount. Hence, on relative valuations, while broader markets are not exactly cheap, they are not too expensive either. After a recent strong rally, some pause may not be ruled out, but we remain bullish on the prospects of midcap / smallcap over the medium to long term. Should one go for buy on buy-on-dip opportunity in the midcap / smallcap space? Since, the underlying theme is of higher growth prospects, buying on dips has historically been rewarding. In the foreseeable future, say the next 2 years, consensus estimates peg India's nominal GDP growth rate at about 11 percent. Nifty Index earnings growth is projected at 15 percent, Nifty Midcap at 17 percent, and Nifty Smallcap at 22 percent. (Source: Bloomberg) It is crucial to keep in mind that a 35 percent increase in the Nifty MidSmall cap Index's returns over the past six months does not necessarily imply that the markets have topped out. Historical data suggests that this is not enough information to arrive at a conclusion. For example, in mid-September 2020, returns were also 35 percent, but the Index almost doubled in value over the next 16 months. A comparable pattern was witnessed in 2017. To conclude, markets are positively positioned with strong macro growth and corporate earnings growth, plus valuations, though above average, are not overstretched. Technology segment has seen gradual buying interest for last several weeks. Is it the beginning of strong run considering the worst is over? If we look at the overall sector, Nifty IT Index earnings are projected to grow at 13 percent CAGR over the next 2 years – which is lower than the overall market, with little scope for upgrades. This is possibly the key reason for the sector’s underperformance. However, if we break the sector into two parts – traditional business and ER&D space, we note that the latter is growing at a much faster pace (nearly 1.5x of traditional). While, after a strong underperformance, we are seeing the sector bounce, structurally we are more bullish on the ER&D space within technology, as compared to traditional businesses. Do you expect India to consider an interest rate cut before the Federal Reserve? What is your take on the August inflation numbers? What would be the RBI move in the October policy meeting? Will inflation remain an important factor to watch globally? India’s CPI inflation came in at 6.83 percent YoY for August 2023, lower than market estimates of 7 percent+ and also lower than 7.44 percent in July 2023. Still, this is well above RBI’s upper limit of the tolerance band of 2-6 percent. The bulk of this high inflation is driven by food, with Wholesale Price Index (WPI) being negative. This decline was led by a sequential decline in food and beverage inflation. Core inflation continued with its downtrend, printing 4.79 percent YoY in August 2023 versus 4.94 percent in July 2023. It would be difficult for RBI to cut rates as long as headline inflation is above the target 4 percent level. The recent upside in commodity prices, especially crude, deficient rainfall and its effect on Kharif yields and Rabi sowing and the possibility of unseasonal rains are key risks up for consideration by the RBI. This may keep the RBI guarded and may likely prompt them to maintain a stance. Recent surge in Crude, if sustained, can also impact Inflation, Current Account Deficit (CAD), and Balance of Payments (BoP). These, in turn, can have an impact on INR, which has so far been quite resilient and stable. Cutting rates before the Federal Reserve can add to Debt outflows, can further pressure the Rupee. Inflation in India is at 6.8 percent and that in the US is at 3.7 percent, implying a differential of 3.1 percent. The 10-year government bond yield of India is 7.2 percent and that of the US is 4.3 percent, implying a differential of 2.9 percent. With the Inflation differential above the bond yield differential between India and the US, it doesn’t really make an objective case for India to consider an interest rate cut before the Federal Reserve. Q: What would be key factors to watch out for in the September quarter earnings season starting next month? In Q1FY24, the BSE500 companies witnessed a revenue growth of 7 percent YoY and a net income growth of 46 percent YoY. Ex-BFSI, the revenue growth was only 3 percent YoY. But margins have been expanding (EBITDA margins were 7-quarter high of 16.4 percent), resulting in EBITDA growth of 25 percent YoY ex-BFSI. The sharp deflation in raw material prices was captured in Q1FY24 and some more may be caught in Q2FY24. The consensus EPS for BSE500 companies for FY24 and FY25 haven’t moved much throughout the earnings season. Rural recovery could be delayed, given the deficient monsoon. The Industrials (Capital Goods, Defence, Railways) and Power Sectors’ expectations are running high – their order books and execution would be closely watched. In the Financials space, we got a glimpse of net interest margins contracting, the same may continue in Q2FY24 as well. Overall, while consensus is expecting a 15-16 percent kind of EPS CAGR over the next 2 years, we do not see any major risk for a material downgrade there. Do you still expect an 8-10 percent rally in the benchmark indices in the current calendar year, from here on? Our sense is that India is quite favourably positioned on an absolute and relative basis, both structurally and tactically. The macro and corporate growth are both world-beating and expected to continue for a long time. With $2300 of per capita income (and likely to double in 7 years), the discretionary spend can go up 3-4x during the same time. The pickup in urbanisation, younger population and committed leadership are adding fuel to the fire. In the short term, markets can be influenced by hundreds of factors, beyond anybody’s control or imagination. Our long-term bullish view is intact, and in the short term too, our cash levels are not too high, but we would be buyers in any correction. Q: JPMorgan to add Indian bonds to its Emerging Markets Index from June 2024. What would be the implications, and will it significantly boost the the Indian bonds market? India is in a sweet spot. India's GDP growth is world-beating, with debt levels in check and corporate earnings growth is also strong. At the same time, there is rising discomfort amongst international investors with respect to China. This gives India both absolute and relative edge. The inclusion of India's Government Bonds in the JPM EM Bond Index was quite overdue. It has a lot of positives for India. About $300 billion worth of funds track the index. A 10 percent inclusion means an inflow of about $30 billion in FY25. This can: 1> Keep bond yields in check 2> Ensure the government can continue with its capex and reforms, thereby potentially improving the growth trajectory 3> Would also positively impact the Balance of Payments (BoP) 4> Would bring more strength and stability to INR 5> Could pave the path for more global indices inclusions. The positive impact on the macro balance sheet, government finances, and macro growth is likely to have a positive read-through for equities as well. Disclaimer: The views and investment tips expressed by investment experts on Moneycontrol.com are their own and not those of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions. Sunil Shankar Matkar first published: Sep 25, 2023 08:03 am Discover the latest business news , Sensex , and Nifty updates. Obtain Personal Finance insights, tax queries, and expert opinions on Moneycontrol or download the Moneycontrol App to stay updated! 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