Q4FY18, following quarters may reflect revival in earnings

To mitigate the volatility being witnessed in the bond market, RBI could develop other avenues for alternative investment opportunities like ‘options’ and ‘coupon stripping’ in government securities, said Harshad Patil, chief investment officer at Tata AIA Life Insurance in an interview with Falaknaaz Syed. Alternative investment opportunities will also reduce crowding out effects, he added. Excerpts:

What kind of earnings do you expect in the third quarter? When do you expect a revival?

While the corporate earnings in Q3FY18 would be on a stronger footing, they would not be comparable year-on-year due to the low base for the same quarter previous year on account of demonetisation. We expect Q4FY8 and the subsequent quarters to reflect the revival in earnings. The revival in earnings would be led by a broad based rural recovery and increased infra spends by the government. Moreover, the export-oriented sectors would be positively impacted by global growth tailwinds. The domestic commodity sector players would benefit from firm global commodity prices.

The government is likely to announce more populist steps targeting rural distress. What are your views on the fiscal concerns?

A section of the market believes there could be a significant slippage in the fiscal deficit for FY18 extending into FY19 on account of general elections. We think some of the fiscal concerns are exaggerated and the government will deliver a credible fiscally prudent budget just like the last four budgets and will be able to raise additional revenues from an outsized disinvestment target for FY19. Adherence to the path of fiscal consolidation over the last 3 years has paid rich dividends in the form of macro-stability; lower inflation and the sovereign rating upgrade and the government will be keen to maintain its track record in sustaining fiscal consolidation.

The Sensex is over 35,000 points. The Nifty has been trading close to all-time highs. Are equities still attractive? How do you see valuations now and the index next year?

There has been a significant re-rating of PE multiples in India over the last couple of years and the market has run up on very little support from actual earnings growth but with expectations of robust earnings recovery in FY19 and beyond. The market is expected to track earnings growth, which we expect to be in the high teens in the next couple of years. While valuations are expected to normalise, the benchmark index can still post double-digit returns as it tracks earnings growth.

What are major global and domestic negatives that can weigh on the market?

The risks to the Indian equity market stems from the possible deterioration of global factors like higher crude oil prices, increasing global interest rates and geo-political tensions and domestic factors like a higher inflation as well as the fear of higher fiscal slippages. There is a possibility that the global growth would peak in this calendar year (2018) as the US economic activity is in the midst of one of the longest expansionary phases in its history. Moreover, elevated crude prices will exert pressure on the economic recovery of many oil importers like India by impacting their macroeconomic fundamentals such as trade deficit, fiscal deficit and inflation. Moreover, the global interest rates would rise as the US Fed has guided 3 rate hikes in CY18 even as there are early signs of monetary policy normalisation from ECB by tapering the quantitative easing programme.

As regards domestic factors, rising inflation does pose a risk, as it tends to limit the scope of monetary accommodation of RBI. That said, we do believe the market could be positively surprised by the government’s resolve to deliver fiscal consolidation and limit the possibility of a significant hardening of bond yields from current levels.

What is your outlook on foreign fund flows with the looming Fed hikes?

The runup in the Indian equity market over the last 12 months has been due to robust DII inflows even as FIIs have largely remained on the sidelines. Overseas flows are difficult to predict as they are influenced by factors like global liquidity and interest rate outlook. As long as India continues to be on the path of meaningful economic reforms, it could remain an attractive destination for FIIs.

Which sectors are you bullish on? What big themes are you betting on?

We like the twin themes of infrastructure and rural consumption as we expect the government spending to pick up in these segments, as we get closer to the general elections. We also expect a revival in the IT space as continued recovery in global growth leads to higher discretionary spending.

What’s your outlook on the banking sector in the light of the recent amendments to the insolvency and bankruptcy code?

The banking sector reforms are a positive as it offers an effective solution to the lingering asset quality issues faced by the sector during every industrial slowdown. But the resolution procedures could still take some time. In the banking space, we prefer private banks.

Bond yields continue to rise. To what extent can this impact the market?

Bond yields would impact the treasury incomes of PSU banks as well as high leverage sectors like infrastructure. While we have investments largely in the private sector financial space, we would continue to remain invested in the infrastructure space as expectation of high spends would keep the order books in this sector healthy.

What should RBI do to bring some order in the bond market?

To mitigate the volatility in the bond market, RBI could develop other avenues for alternative investment opportunities like ‘options’ and ‘coupon stripping’ in government securities. Moreover, alternative investment opportunities will reduce the crowding out effects.

With oil prices rising, what’s the scope for fiscal prudence and the impact on fiscal deficit?

The government has ample scope to raise proceeds from disinvestment with a well-planned, staggered sell-off calendar, which can offset some of the negative impact from rising oil prices. GST revenues are expected to stabilise at higher levels in FY19 as the government takes more steps to increase compliance. Robust GST collections would go a long way in the government’s fiscal management in FY19. Moreover, the revival in corporate earnings in FY19 would mean more robust corporate tax collections. The government would also expect a higher dividend from RBI in FY19 against a much lower dividend in FY18 due to demonetisation related costs. Hence, the path of fiscal consolidation will be sustained, albeit with a more gradual downward slope.


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