Focus on bottom-up approach for superior portfolio returns

Domestic equities have recovered c.12-13% from the March ’22 low, supported by receding global geopolitical issues, the cooling off of crude oil prices from highs and softening of FPI outflows corroborated by inflows from Domestic Institutions. The focus is likely to shift to the upcoming Q4 FY22 earnings season and how domestic demand trends shape up with the ensuing wedding festive season.

We believe investors need to focus on a bottom-up approach for superior portfolio returns. India Inc. is likely to face significant headwinds in terms of margin pressures and possible demand disruption in the near term. Hence, a range-bound move in the Index is expected, which gives an opportunity to identify emerging leaders within the sectors.

Strong IT and engineering exports, normal monsoon, upcoming festive season, and improved farm income led by better realisations can improve the ability to absorb macro shocks (due to higher crude oil prices) in the near term.

Equity valuations are now trading at reasonable levels (nearing five-year average P/E ratio for Nifty50). We prefer companies that have the ability to demonstrate more resilience in managing their gross margins along with industry leading growth. Consensus EPS estimates for Nifty50 have remained unchanged in the recent past as earnings downgrades of consumer companies due to gross margin compression are likely to be offset by earnings upgrades of commodity producers in sectors such as metals and oil & gas.

We remain positive on large private sector banks within financial space as a large part of asset quality issues are behind us while focus on credit growth takes the centerstage. We also prefer life insurance companies given their longevity of premium growth in India. Other sectors of preference are healthcare companies focusing increasingly on specialty drugs, telecom for its improved pricing power and chemicals with strong export tailwinds. We are neutral on the IT sector, given the expensive valuations, autos due to rising input cost pressures and industrials and infra where we foresee delay in private capex activity.

We have recently downgraded the consumer goods sector to underweight with negative bias on FMCG, foods and paints. FMCG companies are likely to face headwinds in terms of sluggish rural growth, steep rise in raw material costs and consumer downgrading.

We remain bullish on the long-term India story, as core fundamentals continue to improve. Interim volatilities can offer better opportunities for investors to increase exposure in equity or re-align the portfolio positioning. However, crude oil sustaining above the $100/bbl mark could present a challenge for tackling inflation and act as a risk for fiscal math and accelerated rate hikes by the Fed is likely to pose a risk to global emerging market equities, including India.

(The author, Mitesh Dalal is director and Chief Investment Strategist, Standard Chartered Securities (India) Limited)



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