As we embark on a new year, there is a bitter taste left in mouth as markets could not touch all time high in 2010. However, experts feel that 2011 is poised to be a steady year for the markets.
In an interview to CNBC-TV18, Suresh A Mahadevan, Head of India Research, UBS Securities said that markets may gain 15-20% in 2011. According to him, telecom and infrastructure stocks could perform well while quality names in real estate could see some buying in 2011.
He feels that emerging markets need to increase from asset allocation. Mahadevan is optimistic that India will continue to attract strong inflows. However, he is concerned that political uncertainty, high crude oil prices and inflation poise risk to Indian markets.
Mahadevan has given a neutral rating on RIL while maintaining a bullish outlook on MphasiS.
Here is the verbatim transcript of Mahadevan’s interview with Udayan Mukherjee and Mitali Mukherjee on CNBC-TV18. Also watch the accompanying video.
Q: How are you feeling about this year, bullish?
A: Certainly 2009 and 2010 have been reasonably good for Indian markets. I think 2011 should be a steady year. We think the markets can go up 15-20% but clearly at a 20,000 index or 20,500 index the focus is going to be quite a bit on sector and stock selection I suppose. But at the margin, India should continue to do well in 2011 and of course this decade looks very promising for India both from an economic growth perspective and even corporate earnings perspective, so positive overall.
Q: What about the return of the fall guys? For a lot of people 2011 will be the year where there will be a come back of high beta. Do you agree with that call?
A: I wouldn’t say high beta because currently when I speak to investors what is very clear is, at least in the near-term, the focus is pretty much on quality. Companies with higher quality definitely seem to attract more interest than those without. But having said that, if you look at some of the sectors, which have been big laggards, like telecom or even infrastructure companies, my sense is that some of them could tend to do well, provided data points in those sectors change like in telecom there is clearly some catalyst in terms of potentially regulation changing.
Infrastructure companies if they post good numbers, my sense is investors will start looking at them because these sectors have been big laggards. Real estate, unfortunately, has been another big laggard but speaking to investors, I don’t get the sense that people are, at least in the near-term, very focused on real estate. Primarily the concerns are around still a lot of paper coming through and the general question around higher quality, people still want quality names in some of these. So some quality names in real estate could benefit.
My sense is that some of the sectors, which have been laggards, are good places to look if you are looking to create some outperformance in 2011.
Q: That point you were making about interacting with your foreign clients earlier, what is the sense you are getting in terms of flows? If you track the performance of the market post these corruption cases, the gap with other emerging markets has closed in. Is that a big deal to the mind of money?
A: It is very hard to probably model or predict flows, sentiments, liquidity. But having said that, my general sense is, at least reading from some the economists’ writing, it seems to me even within the emerging market universe I think India has one of the strongest growth prospects. To that extent, growth will always command a premium; growth will always tend to attract flows is my belief. In the short-term if news flow is very negative, flows could reverse or whatever, but what is very clear to me is two things: One is emerging markets as a whole, their weight has to go up in terms of asset allocation—there are no two ways about it. Within that, I think India is definitely going to go up as well.
From that perspective, from a big picture perspective, I think India should continue to attract flows over the medium-term. But in the short-term, when we are taking a lot of things for granted but some of things, for example, these five or six scams, which dominated a lot of news headlines, always makes people nervous, because if they are overweight India and if they are making money—they might try to book some profit. Those are things we can’t predict.
Like for example, political stability, which we are taking it for granted, if there is some question of doubt about that then I think again that will make investors nervous I would guess. But over the medium-term, India should always attract flows is my belief because India is growing and the growth differential does deserve a premium and it will attract flows.
Q: At the start of every year, predictions are generally for some kind of growth in the market. Is there anything that you can think about which could make this a negative year for the stock market? It happens very rarely sitting on the January 1 people predict that the market will go down over a 12 months period when earnings growth are expected to be positive. To your mind, is there any risk to this hypothesis that we will at least see a 12-15% kind of growth this year?
A: Our base case scenario is that economy continues to grow and corporate earnings continue to grow etc, but political stability as one of the big given. My sense is that if that is threatened in some way, during the course of the year, I am sure the markets will correct fairly significantly. That is one I can think of.
The other thing which India has is, especially the developed world starts doing slightly better, my sense is you will see some uptick in the commodity prices and we are quite vulnerable to crude. So in a scenario where crude is trading well above USD 100 per barrel, which is not our base case scenario in any case, but in a scenario like that, market like India could certainly de-rate relatively so that is another possibility.
The third thing, which I think foreign investors worry about a lot, in my sense is inflation and the fiscal deficit etc. Of course, fiscal deficit numbers so far have been very encouraging. I was reading somewhere that it is only like 49% or whatever—we are sticking to target and we could end up being in a better position than what we had modeled in but I think if any event changes that in some significant way either the fiscal deficit or the inflation—if there are some shocks to those numbers—in that context again India could relatively de-rate.
These are some things I can think of which are possibilities but again not in our base case scenario and of course there are geopolitical risks which is a completely unknown at this point like India has some clear borders with Pakistan or China or whatever. But you cannot again moral that. So those are some of the risk factors worth highlighting I suppose. As you rightly said, almost everyone is generally pitching in for a steady growth story but these are some things which could derail that growth story perhaps.
Q: What about commodities? In the last few weeks commodities have done very well. Do you think you should be backing yourself overweight commodities 2011?
A: If you are talking from a stock selection perspective, yes, some of the metal names haven’t done so well. There are exceptions although—Hindalco has had a great year, for example, in 2010—but something like Sterlite or Sesa Goa, these companies haven’t done very well and there are newsflow related issues etc around various things. However, some of these companies may merit some attention in terms of investors having a relook because particularly if the commodity price outlook is strong. These are some ways potentially you can again hedge within the portfolio.
We definitely have Sterlite and Sesa in our model portfolio at this point and my sense is basically some of these are such big laggards that maybe at some point it makes sense to invest in them. But again, these are kind of medium-term views not necessarily short-term—both Sesa and Sterlite have started to perform in the last few weeks or so. It will be interesting to see how they do in the next coming months and quarters I suppose.
Q: What about Reliance? It has been the steepest underperformance relative to the Sensex since way back in 2004. Is this going to be the year for Reliance to stand up and support the market or even lead it?
A: Our analyst on Reliance has basically a neutral rating and what that means is he doesn’t have a strong buy or a sell call here. Obviously Reliance has a very interesting kind of free cash flow generation profile, which attracts certainly investors. Generally people invest in India for growth but Reliance has the moment of growth but it generates a lot of free cash flow. But as a firm we are not very positive on Reliance simply because some of the regional global views on refining margins etc, we have to overlay on our view on Reliance.
We don’t have a strong view on that stock unfortunately. We have a neutral which is basically neither positive nor very negative. The same is reflected in the portfolio—we have Reliance in our portfolio but it is not a big bet. In fact, I am marginally underweight Reliance in my portfolio. Unfortunately we don’t have a strong view on that name yet but as and when we have, I am happy to share that.
Q: Outside the index, not necessarily midcaps but non-index largecaps, can you think of the top four-five names that you are backing for 2011 at UBS?
A: If I look at kind of non-index then some sectors are clearly not very well represented. Something like REC has been a big underperformer of-late. I think that is a stock where we have still fairly good analysts conviction so something like that could do well. Something like Coal India could be very interesting. I think we have a positive view on the company. Again it is not yet present in the indices but I am sure it is a matter of time before it comes into the indices.
Q: Just to go back to that point you were making about inflation, the standard space you tend to go underweight or cautious on is FMCG but the other space that underperforms when there is high inflation is IT and that has had a phenomenal 2010. What do you do with IT in your basket and what is your top pick there?
A: We have Infosys and TCS in our portfolio but we have been cautious on IT generally. We are having these stocks because they are big weights and it has helped us. I cannot see why IT can massively outperform in 2011 on the back of a very strong 2010 though in the short-term as I said the flight to quality theme may continue for a little while.
My view is maybe it is time to look at midcap IT because again some of the demand drivers are very similar. Something like MphasiS—we have been quite pushing it hard to investors and midcap IT, I believe, is a space you may want to look at again because the gap between midcap IT valuations and largecap IT valuations has become very big now. At some stage, some of the quality companies in midcap IT space should start doing well. It is my belief.
Q: Do you track Patni? There has been a lot of noise about a deal with iGate buying out the promoters there. Do you have it under coverage?
A: We cover Patni. We have a positive view on that though I don’t want to comment on the specific situation because we don’t have any view on that but generally positive on midcap IT space. We have buy on at this stage for MphasiS and Patni.
Q: You have seen the auto numbers. Would you still back it after the serious outperformance in 2010 or are you getting more cautious about autos?
A: We are still positive. I have Mahindra & Mahindra and Bajaj Auto in my portfolio and autos should do generally well. It is my sense. It will be based on by economic growth etc. The data points have been pretty good coming out of autos. We are neutral on autos from a model portfolio perspective but our analyst is quite positive still on Mahindra and Bajaj Auto.
Q: What about some of these non-index infrastructure companies, I am just throwing the numbers out but, something like Punj Lloyd is down 47% last year HCC is down 35%, ditto for something like a GMR Infra? How do you approach these infrastructure companies and that is the non-index guys I am talking about?
A: Infrastructure, as a sector, even index ones haven’t had such a great year I think in 2010. My sense is that is one sector if data points come up should do well. On the specific names, of the non-index what we like is something like a Lanco—whether you classify it as infra or power is upto you—but something like a Lanco, Nagarjuna, GVK, these are names we like particularly in that space apart from the L&T and BHEL. Certainly these names, our analyst continues to have reasonably good levels of conviction on these names. We have these names in our model portfolio.