Merrill Lynch Bullish On Fmcg, Telecom

In view of the forthcoming elections and the economic slowdown, the focus in the markets will be on fixed return sectors like oil, consumer products, telecom, pharmaceuticals and software, says Merrill Lynch's India Strategy report.

Merrill Lynch is overweight on these sectors while it is negative on automobile and cement sectors. Also, in view of the Asian crisis, it is negative on commodity stocks like chemicals and steel.

While economic activity would remain sluggish till elections, infrastructure spending being initiated at the state level could boost growth, says the report.

Growth in infrastructure would positively impact the core industries like steel and cement as well as credit offtake from the banking sector.

 

On the monetary side, the report expects the central bank to promote growth given the belief that inflation is under control. Though there has been concern over the rising interest rates which moved up due to RBIs policy of raising short term rates to stabilise the currency, the policy is unlikely to be sustained over a longer period, the report says.

In spite of the central banks tight liquidity policy aimed at keeping the rupee at 40/$, the pressure from corporate demand and the rising forward premia indicate that the rupee could fall further in near term, the report adds.

The consumer sector was largely insulated from the investment slowdown in 1997, the report says. However, the earnings growth could be slightly lower than in 1996. While valuations are beginning to look stretched, Merrill Lynch is of the view that investors would be willing to pay higher premiums for quality and earnings growth. The major risk could be in the form of any government move to increase taxes on the sector which could bring margins under pressure. While the report views HLL as the strongest company, it prefers ITC and Smithkline Consumer which are relatively cheaper.

Pharmaceutical companies would also continue their top and bottomline growth in spite of the slowdown in economy. The risk in this sector could come from reductions in controlled prices. Indian companies hold a stronger future than MNCs which have seen a sharp run up in 1997 and have more demanding valuations. Dr Reddy's and Cipla, which trade at lower valuations than peers, could both witness strong sustained growth.

The oil sector could see the benefits of deregulations gradually adding up to prices even as the sector remains isolated from the falling oil prices globally on the strength of the APM. The risk remains likely of constant supply of government paper keeping share performance depressed, especially after the sharp outperformance in this year. The report recommends HPCL where the government holding is down to 51 per cent, making future dilution unlikely, as per the report.

Another interesting growth story is the telecom sector. The sharp growth in traffic volumes, along with likely tariff restructuring, makes it an ideal investment case. The recent underperformance, led by the equity dilutions in both the major companies,further increases attractiveness, the report says.

Software companies should see revenues post a 50 per cent plus growth with rupee depreciation further boosting bottomlines. On the flip side, the report states that absence of too many large companies restricts further opportunities.

Also, most of these stocks have reached the outer limits of FII investment limits, the report adds.