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    Not pharma, only IT likely to outperform now

    Synopsis

    As the earnings grow, IT may continue to be a slight outperformer. Pharma is pretty much now in line with where the market, says Anand Tandon.

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    One has to look for sector rotation and that leaves a large number of sectors. Many of these sectors have not moved at all or have fallen off the cliff, says Anand Tandon, Independent Market Analyst.

    On profit-taking in market
    The run-up has been quite extensive. Most of the companies which have done well or have outperformed over the last few months have been in IT, pharma, auto and metals. I have been arguing that while there is a case to be made to have a larger percentage of pharma in the portfolio, it does not mean that the sector will continue to grow at the same rate. All said and done, there are limited surprises that you can get from the sector.

    IT has greater chances of continuing to sustain simply because the order books have been quite full and most of the companies have indicated that they are still improving and many of them have used the work from home to increase their margins. Since, the companies have not yet reached a double digit top line growth and it is very unlikely that they can go beyond a certain level. No matter how much margin you expand, a part of that margin will then have to be given up to the customers as they begin to realize the kind of money you are beginning to make.

    So the earnings growth in terms of the bottom line is more or less in line with what the valuations suggest. As the earnings grow, IT may continue to be a slight outperformer. Pharma is pretty much now in line with where the market. Now one has to look for sector rotation and that does give a large number of sectors to play with because many of the sectors have not moved at all or have fallen off the cliff.

    Whether it is power or almost anything to do with the government or some of the institutional banks, many are now trading at valuations which are fairly cheap compared to the IT, pharma and metals sector. I would not be surprised if you see a sector rotation playing out along with a slight giving up on the market itself.

    On auto stocks
    It depends on the company you are talking about. Among two-wheelers, one of the leading companies came out and said that the numbers are going to be bad and they agree with the industry body’s forecast that it is not going to be anywhere close to what the analysts are expecting. That has to be bad news for the sector overall. So, you are looking at the two-wheelers reacting to that news. Tata Motors on the other hand perhaps because of the buying by the group continues to sustain.

    In pharma and IT sectors, most of the good news is already factored in. The only numbers that you are seeing and which are quite good are from the high-end cars. It is not what for example Maruti has in its portfolio. SUVs may likely hold out, some of the luxury cars may hold out. Many of the others which are more middle class and lower middle class oriented products are unlikely to do very well. Tractors will continue to give reasonable numbers. We have to see how quickly the demand for infrastructure translates into heavy and commercial vehicles because we are still expecting the scrapping policy to come through and that together with infrastructure, may move the needle there but we will have to wait and see.

    On Bharti Airtel
    There is definitely merit in looking at Bharti, especially if you are of the view that two things happen. One, that over the next few months, there would be an increase in tariff and two, the 5G auction will not happen any time soon. Those are the big threats because on the one hand, clearly Reliance has not yet decided to increase the prices, they have started to move clients from a prepaid to postpaid and in doing that, they are also pushing up some of the ARPUs. To some extent, that has put a cap on the expectations on how quickly ARPUs can go up but you have to assume that if India has to be a multi-player market,, then at some stage the ARPUs will have to be increased because otherwise the weakest player will not be able to survive.

    The second issue is the question of the 5G licenses and if that comes together in hurry and if the government were to start to auction that, then that will put inordinate pressure on the sector because except for Reliance which has obviously built a massive war chest in terms of the funding that it has raised, the other two players are not so much in a position to be able to raise that kind of funding. While Bharti may still be able to do it, it’s return on equity, which is already rather poor, will completely deteriorate. The use cases for 5G are still very remote and India does not yet have the penetration that other markets have in 4G and nobody is going to pay for 5G in a hurry. So they will end up having to pay the license fees without being able to monetise any of that near term which will further detract from the performance of the stock.

    So, assuming that these two events do not take too long -- that 5G does not happen any time soon and they are able to raise prices, one can assume that Bharti earnings can rise fairly quickly over the next two or three years. A doubling of EBITDA not too far out in the future can be modelled and that will make it reason to be buying the stock. I think the stock was down because one very large institutional investor was exiting his position. I do not know whether it is over or not but the pressure does seem to have eased off a bit.
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