Wednesday, August 12, 2009


Blink and you miss it

After two weeks marketing around Asia (during which Asian equities have rallied ~15%), we provide an update on our thoughts on Asian markets.

When thinking about the outlook for Asian equities, three key factors are important from a fundamental perspective:

Valuations. At 2.0x P/BV, 14.8x forward earnings and 20.1x trailing earnings, the odds of losing money on a three-month investment horizon are now 60%, while the odds of a greater than 10% return are a mere 16%, if history is a guide. To be long beta in the face of these odds, you have to believe that we are either about to see something special (in terms of economic growth), or ridiculous (in terms of market multiples). Both are possible; just not probable.

⇒ Direction of the global manufacturing cycle. When key indicators of the cycle are rising, returns on Asian equities are strong, and when they are falling, returns are negative (see first chart opposite). For equity investors in Asia, getting the direction of the cycle right is crucial. The two most reliable and timely indicators here are earnings revisions (for Asia ex Japan) and the US ISM (new orders minus inventories). Both are close to 20-year highs (see second chart opposite), suggesting the next major move in these indicators is much more likely to be down than up. And if the last 15 years are any guide, when these indicators are falling, it is
highly likely markets are as well.

⇒ Risk appetite. Risk spreads fell further in recent weeks as investors continued to chase high risk assets. Asian equities (a high-risk asset class) have been a key beneficiary of this trend. Forecasting changes in risk spreads is not our area of expertise, but if sentiment towards global economic growth now takes a breather as re-stocking demand fades (as we expect), risk spreads are unlikely to continue falling sharply, removing what is currently an important tailwind for Asian equities.

With valuations stretched, and indicators of the global manufacturing cycle at near 20-year highs, the balance of risks to Asian equities is to the downside over the next three months, in our view. A pullback of 15–20% is our base case.

We recommend that investors have a defensive and domestic growth bias to their portfolios, with defensive sectors such as consumer staples and telcos as key overweights. In terms of countries, Singapore and Taiwan remain relatively good value.

The key near-term risk to our cautious stance is that strong liquidity flows continue to drive markets even further away from fair value. The more medium-term risk is an unexpectedly aggressive pick-up in final demand, which keeps indicators of the global manufacturing cycle elevated even as re-stocking demand inevitably fades.

To see full report: ASIA STRATEGY



Steel Authority of India’s (SAIL) Q1FY10 results were below estimates after normalising for employee expenses. Reported PAT was down 11% QoQ to Rs132.6bn. Revenues declined 22% QoQ to Rs91.5bn (I-Sec: Rs92.5bn). EBITDA decreased 23% QoQ to Rs9.4bn (I-Sec: Rs9.9bn), adjusting for low employee wage provision in Q1FY10. Providing for extraordinaries, PAT decreased 11% QoQ and 71% YoY to Rs6.4bn (I-Sec: Rs7.7bn). At Rs180/share, the stock is trading at FY10E cash-adjusted P/E and EV/E of 12.6x and 7.4x respectively. Reiterate HOLD with target price of Rs183/share.

Profitability back on track in Durgapur & Bokaro plants. Saleable steel volume rose 4% YoY to 2.8mnte. But realisations dragged with five integrated steel plants (ISPs, excluding Durgapur) posting QoQ dip of Rs573-6,900/te (largest being IISCO). SAIL has been able to save Rs5.7bn YoY in costs via improved blast furnace productivity, increased yield and +21% YoY rise in production of value added products. Renegotiation of coking coal contract (from April) to ~US$150/te from US$300/te boosted margins. Bokaro and Durgapur benefited the most with US$143/te and US$171/te cost savings QoQ. Significant cost savings were realised
in IISCO as Q1FY10 was EBITDA-accretive for the plant, with no price rise.

Coal prices reduce; raw material secure. SAIL has 5mnte roll-over coking coal to be consumed in three years. Due to high-cost coking coal inventory in Q1FY10, the average cost was US$185/te (to reduce to US$150/te in Q2FY10E). Domestic coal price is still being negotiated. The dispute for Chiria mines is over since the Jharkhand Government has accepted SAIL as the owner. SAIL has obtained forest clearance for Rowghat mines (that supply to Bhilai; 732mnte reserve).

Employee cost surprises. SAIL’s Q1FY10 employee cost was Rs1bn, with Rs2bn as provisioning reversal (initially provided in 30-42% wage revision recommended by the Rao Committee). The management has guided for Rs68bn employee cost in FY10. If realised, this can led to an EPS upgrade. Also, the workforce was reduced by 5,000 to 119,000 in Q1FY10. The five-year employee target is 100,000.

Capex plans & volume accretion. SAIL plans to increase its saleable steel capacity to 20.3mnte (13mnte at present) at Rs370bn by FY12. Additional Rs70bn will be spent on increasing value-added production and Rs158bn for sustenance capex and technological upgradation. SAIL plans to spend Rs100bn in FY10, with Rs25bn already spent in Q1FY10 (50% debt funded). SAIL’s current D/E is at 0.3:1.

To see full report: SAIL



  • Stock Update >> Torrent Pharmaceuticals
  • Stock Update >> WS Industries India
To see full report: INVESTOR'S EYE


Buy: Among One of the Better Operating Performances

One of the better operating shows in 1Q — Corp Bank's 1Q10 earnings were up 42% YoY, with core operating profits (ex-trading gains) up 22% YoY (among the highest in the government bank sector). This was largely driven by a slight pick-up in net interest margins and continued healthy fee income growth. Key challenges for Corp Bank include higher dependence on wholesale funding and slightly higher asset risks.

P&L: NIMs recover, fees healthy and trading gains boost earnings — Corp Bank's NIMs showed signs of stability during 1Q10 (although a tough quarter for the industry), mainly due to stable loan yields (management confident of further uptick in NIMs in 2Q/3Q10). Fee growth remained healthy at 13% YoY and was a key focus area for management. Trading gains provided the earnings buoyancy, although management has reduced interest rate sensitivity of the investment portfolio and it could be less exposed to a rising rate environment.

BS: Wholesale funding and asset deterioration the key risks — In our view, Corp Bank's balance sheet is a little vulnerable to rising rates and asset quality deterioration. A low CASA ratio (1Q10: 23%) and higher wholesale funding could lead to NIM pressures in a rising interest rate environment. It is also vulnerable to asset risks, given its relatively higher (geographic and industry) concentration, which can be seen in its higher loan restructurings (5.1%).

Cheap valuations discount the risk, maintain Buy — Corp Bank remains among the more attractive mid-cap banks with its superior P&L profile, better management and strong capital cushion (1Q10: 9.6% Tier 1). We believe its relatively cheaper valuations do not adequately reflect these. Maintain Buy (1H).

To see full report: CORPORATION BANK


Limited upside potential

HDFC Bank’s Q1’10 Net profit at Rs. 6.06 bn, was down marginally by 3.9% qoq, while it increased 30.5% yoy. During the quarter, importantly, the loan-book has grown; the NIM has remained stable, and cost-income ratio has trended down. The only down-side are the NPLs, which we do not foresee as abating in the near-medium term. We are presently amid a low credit-demand scenario, wherein balance-sheet expansion, especially for a Bank focused on margins, is going to be difficult for the next one or two quarters. Accordingly, we have tempered our estimates for the same; as well as for our cost estimates. This yields a fair value estimate of Rs. 1,446. The stock currently trades at a P/B multiple of ~3.8x, which is relatively higher than its peers. We perceive the stock to be fairly valued, and downgrade our rating to Hold.

Advances growth likely to remain moderate: The Bank’s advances
increased 4.8% qoq. The resumption in lending, we believe, was a result of the availability of lesser-yielding alternatives, improvement in corporate-earnings, and the resultant declining credit-risk aversion. Moreover, given a low-demand environment, banks are competing to cater to the prime, credit-worthy borrowers. HDFC Bank has signalled its intent of growing its loan-book by further reducing its PLR. Estimating a growth of 19-20% in its advances for FY10, we expect it to record a 4-5%
increase in Q2’10.

NIM likely to come under pressure: The Bank’s NIM at 4.1% for the quarter, declined marginally by 6bps sequentially. If adjusted for the taxfree interest income earned on the Bank’s surplus liquidity parkedwith short-term money market funds, the Bank’s NIM would have been 4.2%. We expect some pressure on the NIM as the bank is competing to acquire prime borrowers at lower rates of interest. Therefore, we expect the NIM to range between 4.0% and 4.1% for Q2’10.

NPAs likely to continue trending upwards: At the close of Q1’10, the Bank’s Gross NPA ratio increase by 6bps to 2.05%. Gross NPAs increased by 8.8% sequentially to Rs. 21.6 bn.

To see full report: HDFC BANK


Strategy- Covered Call- RELIANCE

The stock looks very attractive as it has crossed above its 50 DMA in today's (5th August 2009) trading session. In the option segment, out of money calls are also witnessing gradual build up. Maintain a stop loss at Rs 1980 for the future.

To see Recommendations & Strategy : RELIANCE



Modest Top-line growth, up 12%: For 1QFY2010, Deccan Chronicle Holdings (DCHL) reported modest 12% yoy growth to Rs216.6cr (Rs193.5cr) on a standalone basis, partially aided by higher Elections spend. Management has indicated that Top-line growth during the quarter was largely driven by rate hikes taken earlier (have started reflecting now), while volumes continue to be under pressure (fell yoy).

Lower Interest costs boost Earnings, up 26%: DCHL’s Earnings for the quarter, on a standalone basis, registered a 26.3% yoy jump to Rs77cr (Rs61cr) despite modest Top-line growth and flattish Margins, largely aided by a 44% decline in Interest costs to Rs11.1cr (Rs19.8cr) and 19.4% rise in Other Income to Rs7.1cr (Rs5.9cr). While the Tax rate for the quarter remained flat in yoy terms, Depreciation charges increased by almost 30% yoy on account of higher capex.

Operating Margins flat: On the Operating front, DCHL registered a flattish performance with Operating Margins at 48.9% driving 11.9% yoy growth in EBITDA (driven by Top-line growth) to Rs105.9cr (Rs94.7cr). Newsprint costs remained flat (as a % of Net Sales), but increased 11.5% yoy in absolute terms owing to higher Circulation. We believe that full benefits of falling newsprint prices (have declined from peak of US $950 to US $600) has still not kicked in due to higher priced inventory. In terms of other costs, while Staff costs increased by 134bp yoy during the quarter, Other expenditure fell by 117bp yoy. Going ahead, we expect DCHL to benefit significantly from the decline in newsprint costs as full benefits of lower prices and Rupee appreciation kick in. However, stiffer competition in Chennai and initial losses on account of the Bangalore edition and Financial Chronicle are likely to keep the company’s Margin expansion under check.

To see full report: DECCAN CHRONICLE


Fundamental support for valuations

Emerging market equities, including India, have been a big beneficiary of the improving global macro environment and continued easy money policy of central banks around the world. The recent India June 1Q10 quarterly reporting season highlights some recovery in company fundamentals.

The June 1Q10 quarterly reporting season has provided some relief to stretched valuations for the Indian market. Our analysis shows quarterly earnings of large-cap companies in India grew YoY and sequentially by 33% and 17%, respectively. More important, over 50% of the companies had better earnings on a sequential QoQ basis.

EBITDA margin recovery remains the key driver of this earnings growth, as sales revenue only barely registered positive sequential quarterly growth, although more than 50% of companies still had better sales than in the March 2009 quarter.

Higher operating leverage due to higher margins could lead to even better earnings growth once the top-line growth also picks up, particularly for capital goods, telecoms, software and banks.

At the stock level we find the improved macro environment is driving earnings upgrades across all sectors, except property. Companies with the worst EPSg forecast for FY10/11 performed the best last month, while those stocks with the highest FY10/11 PER performed the worst.

In the short term, we favour stocks with the lowest forecast EPS growth, in the hope of subsequent positive earnings revisions driving performance. We would avoid stocks with extremely high forward PERs, as positive earnings revisions seem to have already been factored in for such stocks.

To see full report: MICROSTRATEGY



  • Government infraspend to grow 20%
  • .... likely supporting prder book growth of 15% CAGR to FY11E
  • Strong order book reflects buoyant earnings visibility
  • Balance sheet health manageable, ROCE to expand
  • We are Overweight; we initiate Coverage with Buy on IIL, NCL
To see full report: CONSTRUCTION SECTOR


Higher volumes and lower raw material cost drives growth

Key points
The Q1FY2010 results of the automobile sector were impressive, especially on the margin front. Overall, the automobile companies had a double push to the bottom line performance. The top line was driven by better volume growth and the margins got a fillip from softer
commodity prices. For the quarter, the net sales of the automobile companies in Sharekhan’s universe improved by 23.5% and their margins expanded by a healthy 380 basis points to 14.1%.

The revenues for the quarter indicated a strong performance across the two-wheeler and four-wheeler segments. Easing liquidity constraints combined with the positive effect of the recent government measures to boost the economy clearly had a positive impact on the volumes. The excise duty cut effected by the government in its various stimulus packages combined with the slew of new launches by the automakers positively affected the sales of four-wheelers and twowheelers.

On the margin front, the benefits of declining commodity prices and the cost efficiencies undertaken by the companies played an extensive role in expanding margins during the quarter. The adjusted profit after tax (PAT) of the companies in Sharekhan’s universe grew by 59.3% year on year (yoy).

To see full report: AUTO EARNING REVIEW


Margin revival but no earnings upgrade yet

Aggregate EBITDA and net income for the I-Sec universe in April-May-June ’09 (AMJ) quarter surprised positively. However, this was largely driven by significant cost control and higher other income/forex gains, with revenues being slightly lower than expectations. Thus, the sustainability of these positive surprises is not assured. Earnings upgrade can be a key positive trigger for the markets, but we continue to doubt that it will ensue in the short term – our Sensex earnings estimates remain broadly unchanged. We continue to reiterate our defensive stance on the market in the short term, given rich valuations (FY10E & FY11E P/E of 18x & 15x), uncertainty in the global macro-economic environment and potential risk still on the monsoon front.

Cost control, raw material benefits and other income led to positive surprise. EBITDA margin for the I-Sec universe expanded 150bps YoY (I-Sec: 160bps compression) and net income rose marginally (I-Sec: 10% decline). This was largely driven by cost control, raw material benefits and high-than-expected other income. Aggregate revenues declined 7% YoY (as against our estimates of a 3% decline).

Auto, IT, real estate surprise positively; banks & telecom negatively. Volume growth and raw material cost benefits aided the first YoY net income growth for auto in four quarters. IT surprised positively on volumes and margins. Real estate revenues were significantly higher than expected, but they tend to be lumpy. Banks’ margins were under pressure and asset quality was mixed. Telecom stocks faced pressure on ARPUs and MoUs. Based on AMJ ’09 results and our bottom-up view on stocks, we maintain BUY on Axis Bank, Bajaj Auto, Bharti Airtel, Glenmark, GSK Consumer, Gujarat State Petronet, HDFC, Lanco, Marico, Tata Steel, Tata Consultancy Services (TCS) and Texmaco and reiterate SELL on Bharat Petroleum Corporation (BPCL), Chambal Fertilizer, Colgate, Divi’s, DLF, Entertainment
Network India, Idea and Unitech.

Earnings upgrade insignificant. AMJ ’09 results have not triggered any significant revision in our Sensex EPS estimates – FY10E & FY11E estimates (unadjusted for free float) are Rs893 and Rs1,075 respectively, not even 1% higher than our estimates a month ago.

To see full report: MARKET EARNINGS REVIEW


A flood of liquidity

Liquidity flows remain strong across Asia and global emerging markets. The latest fund flow numbers, for the week ending 29 July, show inflows as large as at any time this year, with Asia ex Japan and global emerging markets seeing a weekly net inflow of US$1,565m and US$906 respectively.

Greater China funds (China, HK + Taiwan), continued to see sizeable weekly inflows for the third week in a row. Sentiment towards China clearly remains very positive, with investors looking to diversify their exposure.

India has also seen huge inflows recently. The election outcome in May is clearly being seen as a very positive outcome by foreign investors, as they continue to buy the market despite now unambiguously rich valuations. Indonesia also saw large inflows in the week ending 29 July, recording its largest net inflow since the data collection began in 2000. The strength of the domestic economy and the favourable political environment are two factors no doubt supporting foreign investors’ positive view of the market. Taiwan and the Philippines were the only countries to see net outflows over the week.

In the near term, there is clearly the risk that more money continues to flow into Asian equity markets despite the now elevated valuations. As we highlighted in our previous note, foreign investors are not the only source of liquidity; domestic investors are also playing an important role:

⇒ Depositors are switching from time deposits into demand deposits. With the opportunity cost of liquidity low, a greater proportion of funds are moving to liquid assets (ie, demand deposits). Unsurprisingly, M1 growth has been outpacing M2 growth in most of the markets across Asia.

⇒ The low returns on alternative investments could divert more money into the equity market. With the gap between the earnings yield on equities and the deposit rate high (in favour of equities), there is the obvious potential for domestic investors to continue to re-allocate into equities.

With liquidity, and not fundamentals, driving markets, we advise investors to progressively reduce beta as equity prices move further away from fair value. In terms of sectors, we prefer domestic names such as banks, telecommunication and consumer plays. As for countries, we are overweight Singapore and Taiwan from a valuation perspective and also China and Indonesia for growth.

To see full report: FUND FLOW TRACKER