>HINDUSTAN PETROLEUM CORPORATION LIMITED (MERRILL LYNCH)

■ PO implies 19% potential downside; cut to Underperform
HPCL’s share price is up 40% since the election results on 16 May on hopes that auto fuel pricing may be freed up. Even as investors turn bullish, the FY10E earnings outlook has deteriorated, in our view. Auto fuel marketing margins were at supernormal levels until March 2009, but have collapsed and turned negative. Even if auto fuel prices are freed up, only a normal auto fuel margin is likely in FY10E. In this scenario, we only expect a healthy FY10E EPS if oil bonds are issued. HPCL’s new PO of Rs291.4, based on base-case FY10E EPS, implies 19% potential downside. Thus we downgrade HPCL from Buy to Underperform.

■ Cut FY10E EPS 20% on drop in auto fuel marketing margins
We already assumed weak refining margins and significant LPG and kerosene subsidies in FY10E. We were earlier assuming a supernormal auto fuel margin of Rs2/l (US$7/bbl) in FY10E. Auto fuel margins have collapsed since March 2009 and are now negative. Margins to date in 1Q FY10 are Rs0.7/l. Assuming auto fuel pricing is freed up, FY10E margins would be Rs1.1/l. A lower auto fuel margin would have meant EPS of just Rs1.3. Assuming Rs13.6bn of oil bonds limits our FY10E EPS cut to 20% to Rs29.

■ Base- and worst-case PO implies 19-81% potential downside
We calculate HPCL’s PO on three FY10E EPS scenarios. PO based on base and worst-case EPS implies 19-81% potential downside. PO based on best-case EPS implies 18% potential upside. However, the best-case EPS, which assumes a supernormal auto fuel margin of Rs2/l and Brent at US$50/bbl, is improbable, in our view.

■ HPCL to be in red in FY09E
In 9M FY09, HPCL booked a pretax loss of Rs133/share. Although we expect a.4Q pretax profit of Rs114/share, this still means red for HPCL in FY09E.

To see full report: HPCL

>INFOGRAM (ANAGRAM)

Gains are capped!!!!

DIVESTMENT BACK IN RECKONING

The newly elected Government is planning to revive the divestment process. Many divestment stocks are rising rapidly on bourses. Instead of selling majority holdings or completely privatizing, the current thinking is to sell small amount of stocks.

Government is thinking with a short term goal of gamering resources but will not fundamentally change the picture. Neither ownership or management of these companies will change in any major way. If government were to privatize them that will infuse fresh managerial talent and new ideas to make these resources much more profitable. If they sell in large chunk, the price they will receieve will be substantially higher than what they will get for a small stake sells.

RISE IN MARKETS: TOO FAST TOO SOON.

In less than three months time. almost half of the BSE 500 stocks have returned more than 50% to its holders. 21% have risen more than 75% and almost 10% stocks have risen more than 100% from its recent lows in March.

99% of the stocks listed on BSE exchange are above 50 day moving average. 95% of the stocks are 200 day moving average. The kind of bullishness is difficult to sustain in such economically challenging times.

India's market capitalization has risen more than 75% in a short span of three months.

Our Market cap to GDP ratio has gone up by more than 66% during time and now reaching fair value level of 1.

This suggest stocks have risen quite rapidly. Now, in order to sustain such rapid moves in the markets, the fundamentals have to turn and improve drastically in next 6 months. If economic data does not improve to that extend, we may be setting ourselves for a negative surprises.

This led us to believe that gains from here are going to be capped at best. Investors will do follow trailing stop loss methodology to protect their precious gains.

BUY GOLD AS AN INSURANCE

It's always been easy to participate in the gold market and there are three options available in India. First, buying physical gold coins, bars and jewellery and store it somewhere safe. Secondly, to trade futures gold on Commodity Exchange. And thirdly buying a Gold ETF on NSE.

All the ingredients are in place for a big run in gold.

To see full report: INFORGRAM

>INFLATION (EMKAY)

Falls marginally to 0.48%

■ Inflation for the week ended May 23, 2009 stood at 0.48% as compared to 0.61% reported in the last week

■ The prices of primary articles decreased to 5.90% for week ended May 23, 2009 as compared to 6.22% for the preceding week.

■ The prices of fuel items remain unchanged at a negative of 6.68% during the week.

■ The inflation for manufactured products decline to 0.99% for the week, as compare to 1.09% for the preceding week.

■ Amongst the manufactured articles, the prices of food products, Textiles, and Beverages tobacco & tobacco products rose the most, by 13.41%, 9.27% yoy and 5.88% yoy respectively. While Basic metals alloys & metals products decline by 12.94% during the week.

To see full report: INFLATION

>INDIA OIL & GAS (CLSA)

Deregulation vs crude prices

The state owned oil companies have rallied 26-42% since the election results on hopes of pricing deregulation. We view deregulation as a low crude- price outcome, however, and crude remains the dominant variable; earnings pressures will re-appear as crude rises. We recommend taking profits in IOC, BPCL and ONGC. Investors who do not concur with our views on (rising) crude prices or the policy direction could choose HPCL given its lower valuations (1x PB) and higher upside leverage.

Integrated R&Ms trading at 1.35x PB
■ The state owned oil stocks have rallied 26-42% since India’s election mandate.
■ While underpinned by expectations of deregulation, even pure refiners Chennai and MRPL have spiked indicating that the rebound also corrected for low valuations.
■ ONGC’s stock price is already pricing in auto fuel deregulation, in our view, but the
integrated R&Ms (which trade at 1.35x trailing PB) may still have room to rally.

Still no clarity on FY10 earnings, even deregulation may not help
■ This will require clarity on FY10 earnings; this depends on pricing policy, subsidy sharing and the trajectory of crude prices. Meanwhile, lower GRMs will hurt in FY10.
■ Our models build in Rs100bn in net under-recoveries for the R&Ms in aggregate. At our crude price ($64 Brent) and spread forecasts, this implies that the R&Ms share only 17% of the under-recoveries implying continued support via oil bonds.

We are skeptical on deregulation; policy canvas remain uncertain
■ While we do not expect changes in cooking fuel pricing, the impending proposal to allow the flexible pricing in petrol and diesel may lower auto fuel under-recoveries.
■ The government wants to cap prices at $75 crude, though. This will likely unravel the proposal; two similar bands were abandoned in 2004/5 as crude rallied.
■ Further, the implementation itself will test the political will of the government even as five states (including Maharashtra) go to their assembly polls over the next year.
■ Further, auto-fuel deregulation will likely also lead to a higher burden on the R&Ms for cooking fuel under-recoveries; these equations will be uncertain till end FY10.

R&Ms remain crude price plays; favour HPCL over IOC and BPCL
■ Crude prices remain the dominant variable, therefore – more so as it is only $10/bbl lower than the government’s proposed price ceiling of US$75/bbl.
■ In this context, we view the R&Ms as crude-price and not deregulation plays and see earnings risks returning as crude rises. We forecast US$80/bbl long term.
■ For example, every $10/bbl rise in crude increases gross under-recoveries by US$7.3bn – this is 1.25x the aggregate core FY10 Ebitda of the R&Ms (US$5.8bn).
■ We recommend taking profits in IOC, BPCL and ONGC. Investors who do not concur with our views on (rising) crude or the policy direction could choose HPCL given its lower valuations (1x PB) and higher upside in a low crude and deregulation scenario.

To see full report: INDIA OIL & GAS