Tuesday, July 3, 2012

>STRATEGY: At the limits of realism

Global Economy: Synchronised downturn

  • US, Europe, China & Asia are facing an economic downturn, with Europe being the worst hit. However, latest steps initiated in the EU Summit have reduced the financial risks in the near term.
  • It is a mixed blessing for India: Growth & INR to be adversely impacted, but fall in commodities & oil a big positive

Indian Economy: Growth to remain sub-par in coming quarters
  • Lingering policy paralysis, weak external environment and high interest rates to impede economic activity in the coming quarters. We expect below-trend growth of 6.4% in FY13E
  • However, few positives emerging—BoP stress likely to ease, RBI likely to turn more growth supportive and undervalued INR to support economy

Corporate earnings: To stabilise/improve as businesses shift focus from growth to profitability
  • In a slow growth environment, businesses undertake cost rationalisation (through deleveraging, cutting SG&A and employee costs etc). This helps stabilise/expand PBT margins even as sales continue to slow. History offers ample evidence of the same
  • Accordingly, while there will be some further downgrades in FY13 Sensex earnings of INR1,280, as per our bear case estimate we do not foresee earnings falling below INR 1,220. Hence, assuming a below-average multiple of 13x, Sensex downside is protected at ~16000.

Sectors to play
Given weak macros we favour a bottom-up approach. For next couple of quarters, we play interest rate cycle theme, moving real estate to OW, and retaining OW on autos. Further, given demanding valuations of consumer sector, we are downgrading it to EW from OW. Meanwhile, telecom is upgraded to OW, while IT continues to be OW

Model portfolio: Outperformed Nifty by 100bps in CY12 YTD. Since CY09, outperformance has been ~630bps

To read report in detail: STRATEGY