Talking Point: BofA Securities Turns Constructive On FY23 Earnings Performance
Talking Point | #BofA Securities believes Nifty will head towards the 20,000 mark by the year-end.
Head India Equity Strategist Amish Shah gives his rationale to BQ Prime's Niraj Shah. #BQLive
Head India Equity Strategist Amish Shah gives his rationale to BQ Prime's Niraj Shah. #BQLive
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00:00 Thanks for tuning into Talking Point.
00:01 I'm your host, Neeraj Shah.
00:03 Very few people or a few people talk
00:06 about data with such nuance as our guest today
00:12 on Talking Point does.
00:14 He's Amish Shah, head of equities at Bofa Securities
00:17 India, and joins us to talk about their opinion on what
00:21 could be the stance for the rest of the year.
00:24 As I read their note, which was released sometime early August,
00:28 they--
00:30 Amish and his team have said that they do not
00:32 believe that there is a US recession coming anytime soon.
00:35 And as a result of which, they are constructive,
00:38 if I can use that term, on levels front on the market.
00:42 Even though on the percentage terms,
00:43 it would not be very high.
00:44 Amish, great having you.
00:45 Thanks for taking the time out.
00:48 Thanks for the opportunity, Neeraj.
00:49 Not at all.
00:50 The pleasure is ours.
00:51 So Amish, tell us.
00:52 I remember a previous conversation
00:54 wherein you had mentioned that there are earnings
00:56 cuts which you believe will come about in FY '24, which don't
01:02 keep you very constructive on the market.
01:05 And now I read a note on, I believe, the 8th of August,
01:09 wherein you are saying what I just said,
01:11 that no US recession is equal to some bit of higher levels
01:17 for the markets.
01:18 Tell us what's led to this.
01:21 Absolutely, Neeraj.
01:22 So you're very right.
01:24 In the beginning of August, our US economics team
01:27 has changed the view.
01:28 And it's a big change in the view, I would argue,
01:32 from believing that US is likely to see a mild recession
01:36 to now believing that US is likely to see no recession.
01:39 And it's going to be a soft landing scenario.
01:42 If you recollect, during our cautious stance
01:45 on Indian markets, the biggest worry
01:48 that we had for Indian markets was the US economy.
01:51 And I would argue that it continues to be so,
01:54 because US economy is still a little bit in a flux,
01:58 as we all know, that a very high interest rate historically
02:02 has led to accidents.
02:04 And we must also remember that a large part of the US economy
02:07 right now doing well is also on the back
02:09 of a large fiscal stimulus that's going on.
02:13 And in case if that fiscal stimulus were to be withdrawn,
02:17 that brings us back to worries about US economic growth
02:21 continuing so strong.
02:22 So we will have to watch out for that as a risk.
02:25 But as of now, you're right that all things being equal,
02:29 assuming that the fiscal stimulus continues in the US,
02:32 which it is at this point in time,
02:34 the view is that the economic growth outcomes in the US
02:38 is going to be much better.
02:39 There is going to be no recession.
02:41 And that takes away one of the key concerns
02:44 that we had for the Indian market that
02:47 has made us more optimistic than we were earlier.
02:51 The crux of the note also seemed to be, Amish,
02:53 that while 1,000 points or 1,200 points, whatever,
02:56 may look large on this base, it's about 5%, 6%.
02:59 So it's not-- the move over the course of the next six months
03:02 or 12 months, as the case may be,
03:03 is not necessarily about what will happen to the NIFTY,
03:07 but what could happen to individual pockets
03:11 in a scenario like this.
03:12 Absolutely, Neeraj.
03:16 So as you rightly said at the beginning,
03:20 we are still of the view that earnings, even
03:23 for NIFTY companies, are lofty.
03:26 And as a result, we still believe
03:28 that earnings for consensus will continue to get cut.
03:32 In fact, we are primarily more concerned
03:35 about those sectors and stocks where
03:37 a large part of the earnings growth
03:39 is only driven by margin expansion.
03:41 Because even when we are saying that the US is
03:45 unlikely to be in a recession, please
03:48 remember that recession means a negative GDP growth rate.
03:52 So we are not talking about a negative GDP growth rate.
03:55 But we are talking about the growth rate in the US
03:59 decelerating.
04:00 So for instance, in this calendar year,
04:03 the expectation is for the US to do 2.1% GDP growth.
04:07 Next year, we are expecting it to be only 0.7% GDP growth.
04:11 So it's still a deceleration of growth.
04:14 And in that environment, earnings growth in India
04:20 is also likely to come off, especially margin--
04:26 in our view, it is going to be wrong to believe
04:28 that all the commodity coming off
04:31 is equal to margin expansion for companies.
04:34 We think a part of this margin will
04:36 have to be shared in order to continue
04:38 to deliver the volume growth that the street is building in.
04:42 Got it.
04:43 OK.
04:46 So how do you propose to your clients
04:51 that they navigate the Indian markets in such a scenario?
04:54 I know that Bofa clients in the US
04:57 have put in truckloads of money.
04:59 There was a Bloomberg story which
05:01 spoke about the kind of money that Bofa clients in particular
05:03 have put into work in US equities.
05:06 Are your clients comfortable doing that with the Indian piece
05:09 as well when they talk to you and you advise them
05:11 that this is your view?
05:12 So Neeraj, by and large, the concern of foreign investors
05:18 on India has only been valuations
05:20 over the last few months, and rightfully so.
05:22 I would not argue that valuations in India
05:24 is necessarily cheap.
05:26 But the way we are advising is that at this point in time,
05:32 the headline indexes are more likely to offer much return.
05:35 It has to be bottom-up stock picking.
05:38 And there, we do believe that there are still
05:41 pockets of opportunity.
05:43 For instance, even within the Nifty, one third of Nifty
05:47 even today trades below the long-term averages.
05:51 And not all of these are biased, because obviously some
05:53 of these stocks may be in a cyclical down cycle,
05:57 or there might be stock-specific issues
05:59 where they deserve to be trading below the long-term averages.
06:02 But at the same time, there are opportunities
06:05 for stock picking within sectors,
06:08 and particularly within individual bottom-up stock
06:11 ideas.
06:12 By and large, obviously small caps
06:15 are visibly looking quite overstretched.
06:18 That is one pocket any of which is our investors
06:22 don't invest too much money in.
06:24 But small cap as a category is looking definitely overstretched.
06:29 Within mid-cap space, I think it's a mixed bag.
06:32 Large caps, I think there are definite pockets of opportunity.
06:36 Got it.
06:37 Now, Soumish, the reason actually I was asking you this,
06:39 because when one speaks to EPFR, for example,
06:42 they speak about how India-dedicated flows have
06:45 come off quite significantly from what
06:47 they were at the peak in the preceding three months,
06:50 if you will.
06:51 So I understand that your clients are not
06:53 taking an India view, and you're not giving them
06:55 an India Nifty view, per se, but more about specific pockets.
06:59 But the question is only about the comfort
07:01 of putting in money, even in specific themes,
07:04 in a market which is looking richly valued.
07:06 Are people comfortable doing that?
07:09 Absolutely, Neeraj.
07:10 So there's no debate about the fact
07:12 that corporate earnings in India,
07:15 as well as the economic outlook in India,
07:17 is quite robust, especially compared
07:20 to the rest of the world.
07:22 That, as a thought, is now very well understood.
07:26 As I argue, valuations obviously have kept investors away.
07:31 Everybody wants a dip in order to accelerate
07:35 their investments in India.
07:36 But more specifically, I would say that in the recent times,
07:41 markets have to adjust for the four concerns
07:44 that we can visibly see, which is higher bond yields globally.
07:50 And therefore, you have to weigh between whether bonds
07:54 are attractive as compared to equity.
07:56 You have higher crude.
07:57 You have higher inflation because of the [INAUDIBLE]
08:01 And there's a potential of a China stimulus.
08:04 So all of these four factors, in a way,
08:06 is negative for EMs, or Indian equities particularly.
08:11 And so valuations will have to adjust to that.
08:14 My point is that we don't think that the pullback
08:19 in the market on the back of these factors
08:20 is going to be meaningful enough.
08:22 Because none of these factors, we
08:25 think, is going to have a bigger impact.
08:28 Or unless the impact is going to be relatively insignificant,
08:31 all the impact is going to be transitory.
08:33 So rather than getting worried about these factors,
08:38 we would look to add into any potential dip
08:40 on the back of these factors.
08:42 Get your point.
08:43 Now, Amish, I heard you say that--
08:47 I'm just trying to get a sense of where is your bent in terms
08:51 of preference.
08:51 Because I heard you say that one third of the NIFTY
08:54 is below long-term averages, but not everything is by there.
08:57 Obviously, because there may be a cyclical downturn.
09:00 But is that the point largely that you
09:03 get comfort fishing in currently because of the valuation
09:06 comfort?
09:06 Or are you comfortable betting on businesses
09:10 which might be punchy in terms of valuations,
09:13 but the growth numbers seem very buoyant?
09:16 Neeraj, it is a combination of both.
09:21 So let me give you an example.
09:23 Within the pockets where valuations are reasonable,
09:27 it is financial, health care, and energy.
09:31 Large part of the energy basket, we
09:33 are not optimistic despite cheap valuations.
09:35 And there are reasons we can discuss later.
09:37 At the same time, valuations for anything
09:42 to do with, let's say, the CAPEX cycle or the real estate
09:46 cycle are already punchy.
09:48 But we do think that these are cyclical sectors.
09:51 And therefore, looking at long-term averages
09:53 do not make sense.
09:54 These are sectors where you have to compare valuations
09:57 in comparison to the previous up-cycle valuations.
10:00 So clearly, the up-cycle valuations
10:02 will be higher than the long-term averages, of course.
10:06 And as far as we think that the visibility of the cycle
10:09 to continue is strong, even at higher valuations,
10:12 we are biased.
10:14 OK, got it.
10:15 So I'll probe that point a bit later.
10:18 Let me probe first of the three pockets that you mentioned.
10:21 And we'll talk about energy.
10:22 But I want to start off with financials.
10:24 We were doing some bit of work on how financials have
10:28 performed, let's say, since 2020, if you will.
10:32 And a statistic which it missed my attention--
10:37 maybe you would have obviously looked at it--
10:39 is that, very strangely, PSU banks, as a basket of stocks,
10:45 has outperformed private banks materially.
10:48 And even the ones which are considered
10:50 the high-quality or the highest-quality private sector
10:52 banks in the recent past have underperformed meaningfully.
10:56 Now, when you are saying financials
10:58 is a bucket for the rest of the year
11:00 or for the next 12 months to 18 months, what side of financials
11:05 do you like and why?
11:06 So Neeraj, again, my answer is more bottom-up.
11:14 We are no longer in the camp of saying
11:16 that only private banks will benefit or PSUs won't.
11:19 We think that each of the banking or the NBFC companies
11:24 now have some of their own nuances,
11:27 meaning as we know that there are some banks where
11:30 there is management change likely.
11:32 And that is one of the headwinds at this point in time.
11:35 Investors want more clarity on that.
11:38 There is another large private bank
11:40 which is going through the merger process.
11:42 Investors want to wait out to see
11:44 whether they are able to deliver on a much larger size.
11:47 So the short point is that every bank now
11:51 has a specific nuance that investors
11:54 want to evaluate for more clarity
11:56 before they want to allocate more capital to them.
12:01 So as of now, for instance, we are
12:05 positive on two large private banks,
12:08 but we are more cautious on the other two.
12:11 Similarly, within the top two PSU banks,
12:14 we are bullish on one, we are not bullish on the other.
12:18 Within the mid-size banks, there are about three banks
12:20 that we are positive, but we are not
12:22 positive on the rest of the banks.
12:24 It's a very bottom-up driven market and a stock
12:27 picking at this point in time.
12:29 Go ahead.
12:30 Health care is a very wide bucket, too.
12:33 How are you guys looking at that?
12:39 So we are dividing into a short-term opportunity
12:43 and a long-term opportunity.
12:44 So if you are somebody who cares more about the six-month view,
12:49 we think that US-generated led stocks will continue to do well
12:54 because the visibility of FY24 earnings
12:57 is quite strong on the back of the US pricing environment
13:00 right now.
13:01 But equally so, if you're a long-term investor,
13:03 we do think that the capacities that
13:07 went dormant during the price war environment
13:10 is most likely to come back.
13:12 And at that point in time, the pricing environment
13:16 may not look as great as it looks today.
13:18 So if I were to start worrying about FY25 earnings,
13:21 and therefore the long-term view on the space,
13:23 then we don't necessarily want to be in the US-generated space.
13:27 We are looking at companies which
13:29 are diversifying into either specialty
13:32 trucks or biosimilars or hospitals
13:36 or who have a very strong pipeline of new launches
13:39 because that is going to provide more visibility for FY25
13:42 earnings and beyond.
13:44 Got it.
13:44 OK.
13:45 And fair point.
13:46 And thanks for bringing that long-term, short-term argument
13:49 as well because the street is completely
13:51 enamored by the US-generated companies thus far.
13:54 So it's good to get that view as well.
13:56 Try and keep an eye on the pricing erosion re-emerging
13:58 at some point of time.
13:59 Or actually, deepening.
14:00 I believe the erosion has just recovered a little bit,
14:03 but there is still erosion out there.
14:05 Amish, the other question is on energy.
14:08 And you mentioned that that is a peculiar one
14:12 within the bucket of companies which are--
14:15 where you, I believe, are still constructive on,
14:18 but with some conditions.
14:19 Absolutely.
14:23 So Neeraj, look, there are upstream companies
14:25 and there are downstream companies.
14:27 Downstream is very tough in our view
14:30 because even if the crude prices are moving up,
14:33 the pump prices are not.
14:35 And as a result, the visibility on their earnings
14:38 is not that robust.
14:40 Even if-- despite the fact that these stocks are cheap,
14:42 as I mentioned in my earlier discussion,
14:46 despite the valuations looking cheaper than long-term
14:49 averages, this is not the space where the earnings visibility
14:51 is high.
14:52 So we want to stay away.
14:53 Within the upstream space, we have seen time and again
14:56 where the government tries to cap returns on the back of the tax
15:02 that they have, which again does not
15:04 give us very good visibility or comfort on earnings
15:07 going forward.
15:08 So as we discussed earlier, this is not a cheap market.
15:12 And the only way where the stocks will continue to do well
15:15 is where the visibility of earnings
15:17 is quite strong, which is just an aspect that
15:21 is missing within the energy bank, by and large,
15:23 at this point in time.
15:24 We may be positive on one or two stocks on a bottom-up basis.
15:28 But by and large, it's a sector that we would look to avoid.
15:31 Got it.
15:31 Amish, I want to bring forth a point that you mentioned
15:35 somewhere midway through this conversation thus far
15:37 and which is on the CapEx theme.
15:39 Now, when one looks at the CapEx beneficiaries,
15:44 in the last six-odd months, there
15:46 has been a significant uptick both in valuation multiples,
15:51 of course, accompanied by meaningful earnings
15:54 growth in select companies as well.
15:55 And I heard you mention about upcycle valuations
15:59 that have happened in the previous cycle.
16:00 And therefore, you compare them not
16:02 with historic long-term averages but with those.
16:04 So my question to you is, based on the earnings growth
16:07 estimates that you may be factoring
16:08 in for these companies and the relativity
16:11 of the previous cycle valuations,
16:14 how comfortable should investors be
16:17 when they look at these businesses
16:18 at the current point of time?
16:22 So Neeraj, I will divide this argument
16:25 into first the business momentum.
16:27 And then I will tie it up with valuations.
16:30 So as far as the business momentum goes,
16:32 we are extremely bullish.
16:35 Generally in India, CapEx cycles are fairly long.
16:39 They are about 10 years long.
16:40 We think we are only in the beginning of the third year
16:43 of the 10-year cycle.
16:44 So there's a long runway to growth.
16:47 The cycle in itself matters because historically, we
16:50 have seen that from a down cycle to an up cycle,
16:54 generally for the sector as a whole,
16:56 margins double, working capital at least halves.
17:00 And as a result, you have a tripling of returns
17:03 and a quadrupling of earnings growth and valuation multiples.
17:07 So you basically have a pretty--
17:09 it's almost a sector that works like a multiplication
17:11 factor of growing top-line growth multiplied
17:15 by the benefit of margin expansion,
17:17 multiplied by working capital improvement.
17:21 And as a result, there is an outsized improvement
17:23 in return and then commensurate increase in valuation ratios,
17:27 valuation multiples.
17:28 So I think that is a dynamic from a business perspective.
17:32 I'm pretty confident it will continue.
17:35 Having said that, for certain stocks,
17:38 valuations have already gone too rich.
17:42 And as a result, over the last three months,
17:44 we have been downgrading a few stocks.
17:46 So a lot of the capital good MNCs
17:50 is where we believe that even if I were to look at or build
17:54 in the entire 10-year earnings growth
17:57 and then put an exit multiple, assuming that the cycle is
18:00 getting over by 5/30, even then, the stocks now probably
18:05 would offer only 6%, 7% CAGR return, which is a return
18:09 that you would probably make out of a 10-year government bond
18:12 yield right now.
18:13 So why take the risk of equity?
18:15 So there are certain pockets, especially the capital good
18:19 MNCs, which we think have now become too rich in terms
18:22 of valuations.
18:22 And we have downgraded them.
18:24 But then there are still plenty of opportunities
18:27 within the contractor space, within the other capital good
18:32 space, within defense, within railways,
18:35 as a subsegment kind of thing, which
18:38 we continue to stabilize.
18:40 Awesome.
18:43 One final question, Amish.
18:45 And it's a two-part question, because I
18:47 don't know which of these you'll be having the necessary--
18:54 this thing to answer.
18:56 But we've seen two interesting things
18:59 in this CapEx-related thing.
19:01 There are some very niche opportunities
19:06 or CapEx-related announcements that are happening.
19:11 There is a global watch major who
19:14 is talking to a local manufacturer to set up a line.
19:18 We were talking to a health care fund manager who
19:22 was talking about how global health care majors are now
19:25 telling Indian companies to set up a line of manufacturing
19:29 because they don't want to do more with China
19:31 and want to do a little bit more in India.
19:33 And the same could be happening to chemical companies,
19:35 as the companies have told us, in their quarter one numbers
19:38 as well.
19:40 What is, amongst this, what is the most interesting thing
19:46 that you've come across that you like personally
19:48 from a long-term perspective in terms of announcements
19:51 or a theme, so to say?
19:53 And two, can this be chunky enough?
19:57 Or in a large market cap and a large economy like India,
20:01 this is maybe just par for the course,
20:04 and maybe people are making too much of it?
20:09 So I'll start with the latter question.
20:12 I think purely from a Capex perspective,
20:17 China plus one, at least over the next five years,
20:20 is not going to be a big needle mover.
20:22 So even if we are so positive on the Capex cycle overall,
20:26 the incremental growth coming from China plus one strategy
20:29 for Capex is not going to be very large.
20:32 And the reason for that in our mind
20:34 is that most of the sectors that are seeing traction right now
20:38 are all light manufacturing industries, which
20:42 are not capital intensive.
20:44 We are not going in for--
20:46 at least for the next three to five years,
20:48 we are not likely to go for too much of heavy industry, which
20:51 is more capital intensive.
20:53 So Capex growth will come, but the China plus one
20:58 or make in India is not going to be a big contributor to that.
21:01 Having said that, we do think that make in India or China
21:05 plus one as a theme is going to make a very big difference
21:09 to the current account deficit of India
21:11 over the next five years.
21:12 That is where we will see a big needle
21:14 move on the back of that theme.
21:17 OK.
21:18 OK.
21:18 So I'll wrap up the interview with that, Amish.
21:21 From a markets appeal perspective
21:24 to global investors, how big could this delta
21:27 be or the swing of the needle be from a country which
21:30 is traditionally for a really long time
21:32 or almost throughout its history being a large current account
21:37 deficit country or a current account deficit country,
21:39 now moving to near surplus, if not actual surplus,
21:42 and it may differ from year to year,
21:44 but almost at parity, so to say?
21:46 How big an important thing is it for your investors
21:50 or for you when you pitch the India story?
21:52 Not pitch, really, but when you talk about the India story
21:54 to your clients?
21:57 So Neeraj, it's going to be quite significant.
22:00 As per one estimate that we did, we
22:02 think that if I were to take existing current account
22:05 deficit and look at the current basket of goods and services
22:08 that we import and export, and assuming that that basket
22:13 remains constant-- and obviously,
22:14 it will be a moving market.
22:15 But for simplicity, for our calculation,
22:18 if we were to assume that that current market remains
22:20 constant, then we think that the current account deficit
22:25 will come down by 73%, purely on the back of the make in India
22:29 or China plus one theme that we are talking about.
22:32 And this is, by the way, taking conservative estimates,
22:35 assuming only the sectors which have a very high visibility
22:39 of performing, only those sectors go through.
22:44 And if I give you a few examples,
22:46 within the import market, we are assuming
22:50 that consumer electronics imports comes down
22:53 and its exports starts to ramp up, which is very likely.
22:56 We are assuming defense imports to come down.
22:59 We are assuming coal imports to come down
23:01 on the back of government having opened up
23:04 FDI as well as commercial mining for coal within India.
23:10 So in short, the point I'm trying to make
23:12 is that if you take only the high visibility sectors
23:16 and you take the impact of what can be the likely contraction
23:20 in imports and what could be the commensurate increase
23:23 in exports out of these four or five sectors
23:27 with good visibility, I think we reach to an outcome of 73%.
23:31 If you have continuity of reforms and continuity of,
23:35 let's say, power sector reforms are in the offing,
23:39 there is already a draft electricity law that is ready.
23:42 If the government were to get re-elected,
23:44 expectations are that power distribution
23:47 is the next big reform that India will see.
23:49 If these kind of reforms continue,
23:51 then I would argue that more and more sectors
23:54 will keep getting added to this story.
23:56 And then the delta could be even bigger
24:00 than the 73% number that I argue right now.
24:04 - Okay.
24:05 Amish, thank you so much for your time
24:07 and giving us a lowdown on what led to this stance
24:11 that you've given and the nuances within that.
24:14 Really appreciate your time today.
24:15 - Absolutely, our pleasure.
24:19 Thank you, Neeraj.
24:19 - Thank you.
24:20 And viewers, thanks for tuning in
24:21 to this edition of The Talking Point.
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