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Citi's Sept 2020 target for Sensex sees no upside from here: Surendra Goyal

A large part of what is happening in India is EM flow driven, says Citi's Surendra Goyal.

ET Now|
Updated: Nov 20, 2019, 02.23 PM IST
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Surendra Goyal, Citi-1200
While earnings have been disappointing in India, the next 12-24 month outlook always looks good. People are still hopeful that on a low base, it will recover. That at times does support the market, says Surendra Goyal, Head - India Research, Citi. Excerpts from an interview with Nikunj Dalmia of ETNOW.

Growth is slow, most of the indicators are not looking great, but still the markets are going up. What is supporting the Indian market?
While all of us are very focussed on India what is happening is Emerging Markets (EM) as an asset class have a decent recovery. So while India has done well, up say 5-6%, over the same period EM has actually done even better. I would just say that a large part of what is happening in India is EM flow driven. In India this year to date, FII flows are $12 billion. Domestics have been getting money every month which is getting deployed in the market and then you have some bit of EPFO allocation into equities. All of that is resulting in a decent flow and that has really been a big driver of the markets. So your question is absolutely valid, growth is slow, most of the indicators are not looking great but I think flows is what is really supporting this market.

Who are investing? Whether it is HNI investors or institutional investors or hedge funds, they all want returns. Now, returns would be a function of earnings. Do you think that people will suddenly start asking why are we investing in India because valuations are high and earnings are not there and so markets and prices will not go higher?
You will have to look at two-three things. Firstly, the earnings outlook. While earnings have been disappointing in India, the next 12-24 month outlook always looks good. People are still hopeful that on a low base, it will recover. That at times does support the market.

Secondly, even from a flow perspective, you will have to step back and see why flows are coming and a lot of times the answer might be that the other asset classes where an investor can go into is also looking equally tough or worse. Flows is always an important part of the market, particularly from a short-term perspective. The point I was making is that what has resulted in the returns so far despite the macro looking tougher. That is why sitting where we are, our September next year target on the Sensex implies pretty much very limited of almost no upside from here.

Let us look at the Sensex target. Your projection is that 39,000 could become 40,000. It is a target which is based on the fact that we are going to have a flat earnings growth. The bulls would say you are conservative; the bears would say that at least you are not making a case that 39,000 will go to 36,000. What is the good news and the bad news here?
The bad news over the past few years has been largely earnings and again the macro kind of filters down into earnings. That has been tough, we all know that every year the bottom up expectation is 20% plus on earnings growth and we end up with single digit growth and that has continued this year.

Growth is slow, most of the indicators are not looking great but I think flows is what is really supporting this market.

-Surendra Goyal



This year also, we are expecting a pretty muted growth. So, that has been a challenge and at least in the foreseeable future it does not look like a very steep recovery is coming. It could be better than what we end up with this year but I do not think we will have the kind of growth which bottom up or consensus is already pencilling in.

On the positive side, what is driving the market is that there have been fairly sticky flows. The SIP flow despite all the negativity that we keep hearing about has held up in a very narrow band; Rs 8,000 crore give or take. Coming to foreign flows, this year it is partly EM flows coming into India that has been strong and has been supporting the market. But clearly from an earnings perspective, the only comfort one can draw is when you look at some of the indicators like earnings to GDP, we are at depressed levels but it is difficult to call when the turn happens in those indicators. I have seen people take this bet three years back, two years back, one year back and so far it has not really played out.

Something or the other has gone wrong in the last three years; one year it was demonetisation, then it was GST, then it was IL&FS. Is this the first time we are getting a clean year of earnings?
When you say a clean year, even this year you are looking at at least reported earnings. There are a lot of moving parts; firstly, the commodity sectors are pretty weak. You look at both from the oil and gas side as well as on the metals side. Those sectors are looking pretty weak on earnings.

On telecom you know the issues, which at least from a reported earnings perspective could look very different compared to what it was when we started the year. So what is happening is every year we have a bunch of one-offs. If I go back five years, a couple of years were tough on commodity; 2-3 years were tough on financials because of higher losses etc. So, that has been the case. Now, it does look like next year should be a clean set of earnings, but then it is difficult to call because even last year we felt the same way.

Do you think this entire migration of markets towards 10-15 stocks which may be called a very narrow market, is here to stay because that is where earnings are?
I will just make two points there; firstly while the earnings are not great, BSE 100 is kind of flattish year-on-year if you are looking at PBT. I am focussing on PBT because corporate tax has really changed. But compared to the expectation that we had, it was minus 5%. So, it is better than what was expected and a large part of that has to do with margins where either analysts underestimated or things have turned out to be a little better.

This migration thing that you are talking of, has been a big challenge for investors over the last many years now. The number of stocks possibly keeps shrinking, it is a very-very narrow set. From a near term perspective, what is happening is overall earnings growth is muted, the macro is looking tough and there are those handful of stocks which are delivering.

A lot of money is migrating into that but if you take a three-year view and you would expect that some of the challenges that we are going through, there will be recovery and things should improve. I do not think that trade may necessarily play out but in the near term, that is what is going to happen. If you see midcaps versus largecaps, the same trend is very visible. Everybody wants to hide in a select set of largecaps which is why midcaps which were at a premium one and a half years back, are now at a significant discount.

Every time when the economy comes back from a slumber, there is one large profit pool which gets created. It was cement and IT in the ‘80s and ‘90s. It was followed by TMT. Then came the time of infra companies. Then came the consumption, NBFCs and private banks. If India has to indeed become a $5 trillion economy which is one large profit pool or group of companies which will take the earnings and India GDP higher?
So the timeframe is a little difficult but I think you can look at this question in two ways. One is, in the last 10 years, one part of India which has been particularly subdued or where earnings have been depressed is industrials, infrastructure and capital goods. I do not think any of us will argue that the country needs a lot more of it. So if things normalise, that 10 years of slowdown should see a nice recovery. That part of the profit pool could become a lot bigger five years, seven years later.

As I said, timing is always the most difficult thing on these calls. And when you look at the medium term opportunity particularly from a listed space prospective internet is a big sector or segment in a lot of markets. We are still at an early stage, If you are looking at five-seven years down the line, depending on how the sector pans out, there is an opportunity that it could be a material sector.

If you look at some of the other markets, even real estate is a much bigger part of the benchmark and I do not think anybody would debate that India needs a lot of housing. Now does it happen in the listed space or the unlisted space? It is a very fragmented market. Does it consolidate? All those are questions but these kind of spaces could have the potential to be meaningfully bigger five-seven years down the line. I am not mentioning consumption because it is an ongoing theme. But there is room for that to continue delivering.

I will divide the market into three parts: Evergreen companies which both of us know would be financials and some consumption names; then buy companies which essentially are getting priced down because of sentiment or business downturn; and third category is catch them young and see them grow. Give me one name from the second and third categories each.
In the second list we typically look at companies where the business cycle is not working out but they have reasonably decent balance sheet to tide over this period of uncertainty. If these things are in place whenever the cycle turns, you should see a good upside and then the risk reward looks good. Yes, near term there could be pain but then whenever the cycle turns, you could get a lot of upside. So a good balance sheet is very important at least in its ability to tide over the current distress.


Wherever we think there is a governance related issue or a red flag, we would rather avoid it. If you see our model portfolio, that has been the thinking around it. The third list is always trickier. While all of us like to talk about HDFC and Bajaj Finance, identifying those companies and sitting on that for 15 years or 10 years is a really tough thing to do for any portfolio manager.


I like to draw your attention to the corporate governance challenges which India is facing. The reason why Indian markets commanded a premium is because foreign investors always said that we like to invest in India because India has got great companies and our corporate governance standards are much better than Indonesia and China. But guess what? A lot of companies have got compromised -- good companies, good groups, good brands. Could this be impediment now?
When we talk to a lot of foreign investors for lot of them the Indian market was about 30-40 stocks which they found investible. There, you have not really seen a big change. There could be one or two cases where companies have come under stress but there are still enough good companies to invest in and which is why, when I talk to foreign investors, I always find there is always an appetite for India. Given the valuations, it could diminish a little, given the macro, it could diminish a little but I do not think that from a three-five year perspective, interest in India lower than what it used to be.

Private banks have been perhaps the best trade for the last 20 years. Whichever way I cut the timeline, private banks have made money. Over the next five to seven years, do you think private banks run the risk of giving single digit returns because they have given CAGR returns of 20%, 15% plus for almost 17-18 years now? For next 10 years do you think private banks will remain underperformers?
There are two questions there. One is if I take two-three-year view, do I still think this kind of returns can continue? Purely from a market share perspective, there is enough opportunity and that has been the driver for these stocks. If you can compound at 15-20%, typically the market cap is compounded either faster or at the same rate. At least from a two-three year prospective, there is still an opportunity to keep on doing that.

Again within a group, some would do better and some would do worse. In terms of anything beyond two-three years or five years, it is also a function of when the rest of the market recovers. For example, we have had 10 years of weak numbers. If end up seeing a recovery two years or one year down the line, then some of the money which is hiding in these names will start flowing towards that and that is the period where these stocks could potentially give you lesser returns.

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