Investors Will Get A Good Entry Point Into Pharma Stocks In Samvat 2073: Nilesh Shah

I think the only driver for the equity market in any part of the world, in any year, is earnings growth. In 2072 we saw prices moving up on the basis of hope that we will see earnings growth. And I think in Samvat 2073, earnings will have to be delivered. As long as earnings growth comes through, markets will remain well supported.

When we look at the earnings season, we have to disaggregate the aggregate numbers. The largest market cap company in India, TCS, declares about Rs 6,200 crore in quarterly profit. And the growth rate is above Rs 200-300 crore. One PSU bank can declare Rs 6,000 crore loss and wipe off all the profit declared by the largest market cap company. So we need to disaggregate the numbers in order to arrive at portfolio picks. We see today in the FMCG sector, in the technology sector, in some of the pharma companies, in some of the midcaps, the earnings growth trajectory is below market expectations. We are seeing in sectors like consumer durables, automobiles, auto components, private sector banks – especially the retail focused ones – earnings have been either ahead or in line with expectations. My recommendation will be to pick up stocks where you believe the earnings growth trajectory will be higher than what is priced in by the market in order to make money in Samvat 2073.

Essentially, we have to divide banking and financial services into 3-4 compartments. At one extreme is the NBFCs, microfinance institutions, and small banks. Clearly here one has to be selective as valuations are reasonably high. In fact, they are at the higher end of their historical valuation range. So be selective in the NBFC and microfinance institution space. At the other extreme are PSU banks which are looking cheap but they have rallied significantly in the last six months especially post the Budget. Here again one will have to be selective despite apparently cheap valuations as these banks are now expected to run up on the treasury profit made on falling interest rates. But analysts who say so are ignoring the fact that PSU banks have largely unfunded pension liability. As interest rates come down, while they do make money on the treasury side, they lose money on the pension fund side. So in PSU banks again be selective as in microfinance stocks. That leaves the middle of the compartment which is private banks and corporate-focused private banks. We believe that the worst is not behind us in the NPA cycle. There has to be some more recognition of CDRs, SDRs and S4As kind of provisions which we have made in the past. So we believe retail focused private banks will be value creators. And after a correction, the corporate-focused private banks will probably present buying opportunities.

In the banking and financial services sector, we will have to differentiate between NPAs - where the promoters have been siphoning off money from the company, and promoters whose business has deteriorated due to a variety of factors. A promoter whose steel company has run into bad times because steel prices have crashed obviously needs to be treated differently from a promoter who decided to set up a steel plant and the project cost of setting up that plant was 2-3 times higher than what was warranted because he gold-plated the project. It is very easy to brush everyone with the same brush but we need to be mature in analysing the reasons for NPA. Then we have to create a resolution whereby we back honest promoters, where we back hardworking, disciplined promoters, and at the same time punish promoters who haven’t adhered to moral standards and legalities. So don’t paint everything with one brush. We need to resolve the NPA problem not on a generic basis but on a specific basis.

I think when we talk about consumers we are talking about a very large sector. Our essential theme on consumption is that today you can see good monsoon, and good kharif crop. The rural economy will spend more money than it has spent in the last two years. On the urban as well as the rural side more than 1 crore central government pensioners and employees will get the seventh pay commission payout over a period of time. That money will be spent on consumption. Urban consumption might also get boosted with overall economic growth picking up. This will create a consumer boom not only in consumer discretionary but also in consumer non-discretionary.

The one thing we are bullish on, where you will probably get a good entry point in Samvat 2073, is the pharma space. In pharma, we expect some re-rating over three compartments and three distinct periods. One will be the time horizon of 6-12 months, hopefully next Samvat, where some companies which have lost U.S. FDA registration for their factories will get that registration back. The second phase will begin when those companies which receive their factory registration to export medicines to the U.S. market will start filing applications for exporting generic medicines to U.S. And the third and final phase will be when those applications will be approved by the U.S. FDA and companies will make money by exporting those generic medicines into the U.S. market. These three phases will play out for probably the next 3 or 4 years.