Road ahead for equity markets will be challenging: Exide Life CIO

Though the markets have gained from the recent low, boosted by a $2 trillion stimulus in the US, followed by the announcements from the Indian government and the RBI, we continue to remain cautious

We have been cautious on the equity market for the past couple of months when valuations were elevated despite a slowdown in growth numbers, and subsequently when the initial signs of a further global slowdown caused by the spread of the Coronavirus Covid-19 were visible. The recent fall has, admittedly, been much deeper and faster than what we anticipated.

Though the markets have gained from the recent low, boosted by US markets, a $2 trillion stimulus in the US, followed by the announcements from the Indian government and the Reserve Bank of India (RBI), we continue to remain cautious, as a sustainable up move could still be a few months away. This would depend upon a reduction in global cases, removal of travel restrictions and lifting of lockdowns in several of the cities/countries, apart from the nature of the measures by various Governments and central banks to restore the demand situation subsequently.

Equities continue to be a good long-term asset class, but investors would need to have a minimum of five years as their time-frame.

On its part, the government has announced Rs 1.7 trillion (0.8% of GDP) food-security and income-transfer package for the urban and rural poor, with measures such as an increase in minimum MNREGA wages, an increase in free or concessional food grains and pulses, compensation for construction workers (though the States), free LPG cylinders etc. The impact on spends for the central government could be lower than the above indicated figure, as a part of the outlay is front-ending of spend and a part would be borne by the States. While this addresses the immediate requirement, we would need more fiscal measures for the corporate sector, in particular, for the severely impacted sectors such as hospitality, airlines, tourism, textiles, trade, and SMEs in general.  Some concessions on the taxation front for smaller corporates and some sectors, possibly with a sunset clause ending in the next financial year, may also be required subsequently to revive demand. The fiscal stimulus could lead to a significant breaching of the fiscal deficit targets and the FRBM Act, however are witnessing a similar (or larger) breaches in fiscal deficits in some of the other major global economies as well, and therefore should not be posing as material a concern as it would otherwise have.

The RBI’s Monetary Policy Committee decided to sharply cut the repo rate (75 bps) and the reverse repo rate (90 bps), besides other measures. There is an attempt to enhance liquidity for the corporate bond market, but this may have only a limited impact as there is likely to be a significant risk aversion continuing for banks towards corporate credit. Banks may no longer find it attractive to park excess liquidity with RBI at 4 per cent. While these measures do address the need of the hour, we would need to also keep in mind that a moratorium to borrowers could create an ALM mismatch for some players, and also that the reported asset quality by banks may not reflect the true picture due to this regulatory measure.

We have already started witnessing cuts in growth estimates for FY20-21, and there are expectations that the GDP growth could fall to 3.5 - 4% assuming that the situation normalises by Q2FY20-21. Growth was a concern area in our economy even prior to the disruption caused by the Covid-19; a prolonged slowdown in some of the large global economies would result in headwinds on the export front as well. We do have a silver lining in the form of the sharp fall in international crude prices in recent months, and the government could raise excise duties to offset some of the burden of the stimulus package that would be required for various sections of our economy. FY21 corporate earnings could see a substantial cut due to the impact in Q1. However, FY22 earnings could be strong for some of the sectors.

Going ahead, we could see a transformation in the way some of the businesses are run, particularly if the disruption lasts for a few months. Corporates would need to support their employees, as well as their vendors and their dealers/distributors in such a scenario. Well-managed companies from various sectors, with surplus cash or minimum debt on their balance sheets would be better placed to tide over the present situation. There is a cause for concern on leveraged companies as well as leveraged promoter-groups.

Banks & non-bank finance companies (NBFC) may find it difficult to retain their past outperformance due to a weak credit growth as well as the regulatory moratorium. The auto sector has already been facing domestic issues in terms of the BS-6 transition and global issues in terms of sluggish demand; this sector, too, could take longer to return to the growth path than envisaged prior to the virus-led disruption. The global demand slump would also mean that the revival expected in the metals sector gets further pushed forward.

Pharma and chemical stocks, could be sectors which could do well, on a stock-specific basis. The preference for alternative sourcing from China, could accelerate in the longer-term, and Indian companies in the pharma and chemical sector could benefit. Select stocks with telecom businesses could also emerge stronger going forward, due to various reasons: partly regulatory, partly demand and partly pricing. Consumer staples could continue to do well, particularly with a revival expected in the rural demand, and since this segment is unlikely to have the temporary setback which consumer discretionary may witness.

The information technology (IT) sector could face headwinds if the impact on the European and US economies and businesses becomes deeper, though the stronger US Dollar could partially offset some of the deferral or reduction in demand. We have been overweight on the cement sector as valuations are favourable; however, we could see a sluggishness in demand for this sector for the next couple of quarters.

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Disclaimer: Shyamsunder Bhat is chief investment officer at Exide Life Insurance that has around Rs 15,000 crore in assets under management. Views are his own.