Strategy: OMICRON drives a pullback
- Elevated volatility, the market consolidates in Nov’21: The Nifty ended its six-month winning streak in Nov’21, ending ~4%, or 688 points, lower at 16,983. Nov’21 was characterized by elevated volatility, with the benchmark oscillating in a wide range (~1,400 points) and pulling back ~8% from record highs of Oct’21. Much of the market anxiety can be attributed to global factors (Fed’s taper announcement, rising bond yields, higher crude oil prices, and strengthening of the US Dollar Index). A big fundraise in the primary market also put some pressure on the secondary market. Sentiments were battered across global equity markets on 26th Nov’21 with the detection of a new COVID-19 variant – Omicron – in South Africa. Nov’21 saw the highest inflows by DIIs since Mar’20 at USD3.6b. FIIs saw outflows for the second consecutive month at USD0.8b.
- Macro rebounds – Real GDP grew 8.4% YoY in 2QFY22; expect 5-5.5% YoY growth in 2HFY22E: Real GDP/GVA grew 8.4%/8.5% YoY in 2QFY22 (v/s our forecast of 8.2%/7.8% and Bloomberg consensus of 8.3%/7.6%). While fiscal consumption grew 8.7% YoY in 2Q as against a decline of 4.8% YoY in 1Q, private consumption spending grew 8.6% YoY in 2Q (lower-than-expected) v/s 19.3% YoY in 1QFY22. Total consumption expenditure contributed 5.6% to real GDP growth. Nominal GDP grew 17.5% YoY in 2QFY22 as against a contraction of 4.4% YoY in 2QFY21.
- 2QFY22 results review – Cyclicals drive earnings beat: Corporate earnings for 2QFY22 came in above our expectations, led by commodities. The MOFSL universe reported a sales/EBITDA/PBT/PAT growth of 31%/21%/38%/38% YoY (est. 25%/20%/32%/27%). Sales/EBITDA growth for Nifty constituents were in line at 31%/21% (est. 25%/20%), while PBT/PAT growth came in at 40%/36% (est. 31%/25%).
- Major global markets end lower in Nov’21: Barring Taiwan (+3% MoM) and China (+0.5%), Nov’21 saw key global markets such as Russia (-6%), Korea (-4%), MSCI EM (-4%), India (-4%), Japan (-4%), the UK (-2%), Brazil (-2%), Indonesia (-1%), and the US (-1%) end lower in local currency terms. In the last 12 months, MSCI India (+35%) has outperformed MSCI EM (+1%). In the last 10 years as well, it has outperformed MSCI EM by 187%. In P/E terms, MSCI India is trading at a 93% premium to MSCI EM, above its historical average of 59%.
- Telecom, Utilities, Technology, and Capital Goods were the only gainers: Among sectors, Telecom (+7%), Utilities (+4%), Technology (+2%), and Capital Goods (+1%) were the only gainers in Nov’21. Private Banks (-10%), PSU Banks (-9%), Finance (-7%), Metals (-7%), and Autos (-6%), were the top laggards. Power Grid (+12%), Cipla (+7%), Bharti Airtel (+6%), Tech Mahindra (+4%), and TCS (+4%) were the top performers. IndusInd Bank (-22%), Tata Steel (-19%), Bajaj Auto (-13%), Axis Bank (-11%), and BPCL (-11%) led the laggards pack.
- Volatility to continue; defensives may see greater acceptance: COVID-19 cases continue to remain under control so far, despite the festive season. The decline in active cases has led to an increase in economic activity and mobility. While the new variant – Omicron – adds to the uncertainty, we expect further clarity to emerge in the next few weeks as additional data comes out. This will mar sentiment in Travel, Tourism, Hospitality, and Retail, which has seen significant outperformance in the last few months on the back of opening up of economy, a good festive season, and a broad-based demand recovery. Even sectors/stocks exposed to markets with rising COVID-19 cases/greater prevalence of the Omicron variant may underperform. We expect sector rotation in the market to continue and defensives like Pharma, IT, and Consumer to make a comeback till sentiments improve. Equity valuations, after the pullback, at 23.3x/19.4x FY22E/FY23E Nifty EPS are relatively reasonable now.
- Top ideas: Largecaps: ICICI Bank, SBI, Infosys, UltraTech Cement, Bharti Airtel, Titan, Divi’s Labs., Hindalco, SBI Life, and Jubilant FoodWorks
Midcaps: SAIL, Zensar Tech., APL Apollo Tubes, TCI, Ramco Cements, Indian Hotels, Orient Electric, ABFRL, Chola. Finance, and Endurance Tech.
Consumer: Strong demand seen in this festive season, rural consumption moderates
- On a P/E basis, the sector is trading at 42.9x in Nov’21, at a 14% premium to its 10-year average of 37.5x. On a P/B basis, it is trading at 10.8x, at an 8% premium to its 10-year average of 10x.
- Consumer sentiment remained positive during the festival season, backed by lower COVID-19 cases, the rapid pace of vaccination, and increased mobility. Demand remains positive across the product portfolio after the opening of the economy as compared to last year’s festival season.
- Discretionary consumption remained strong with the return of mobility, while demand for Staples will stay intact.
- While urban India continues to do well, some players have reported a moderation in rural demand. Rural fundamentals remain strong with a good monsoon and robust Rabi sowing.
- Global commodity inflation continues to put significant pressure on the gross margin of companies across the sector. Companies have taken further price hikes to mitigate its impact.
- The threat of a third COVID wave is a potential risk to be watched out for. The fundamentals for the sector remain optimistic on a medium term basis.
Consumer Durables: White Goods impacted by commodity inflation; Electricals better off
- The sector trades at a one-year forward P/E multiple of 53.5x, at a 64% premium to its 10-year average of ~32.6x.
- On a P/B basis, the sector trades at 9.8x, at a 69% premium to its 10-year average.
- On a P/E basis, the valuation premium relative to the Nifty has widened. It now trades at a premium of ~160% (v/s its 10-year average of 67%). On a P/B basis, the premium stands at 209%, ~120% higher than its 10-year average.
- Company valuations have run up since FY18 due to: a) strong demand for Electrical and White Goods, led by rising income levels, b) market share gains for large Electrical brands at the expense of the unorganized sector, c) market consolidation in the White Goods segment, and d) follow up of a strong pent-up demand post any disruption (demonetization, GST, and the COVID-19 outbreak).
- With a gradual reopening, demand for Consumer Electrical categories are expected to remain buoyant, despite the commodity inflation. Margins for Consumer Durable categories are expected to remain under pressure.
Retail: Festive demand to accelerate sales recovery and store expansion
- The Retail sector trades at P/E of 106.4x, at a 44% premium to its 10-year historical average of 73.8x.
- Retail sales in Oct’21 grew 34% YoY, as per RAI, signaling a positive trend after the outbreak of COVID-19.
- Retail players are planning to accelerate store expansion, launch newer formats, and add new categories as sales are witnessing a strong recovery.