Exactly a year back, when we had just a few hundred cases, we were in midst of a panic – not knowing what the future held in store, we witnessed capitulation with hardly anybody having the courage to buy stocks which were on ‘fire sale’. A year later, in midst of the second wave, Covid-19 numbers continue to soar beyond 60,000 per day, but the same stocks are getting lapped up at multiple times the panic valuation and yet the buyers expect a decent return from current levels.
Empirical data suggests that economy is bouncing back, corporate earnings have been positively surprising analysts and investors alike since the last three quarters and the government has been focusing on growth oriented policies, which the markets have cheered. But what can explain the doubling of the indices from the panic lows and the euphoria we have been witnessing in the recent past?
It’s the collective thought process of all the players that drives the market. The fear of dying is our greatest fear and that was at the peak last March which explains the panic all around. Next in line was the fear of loss of livelihood as well as uncertainty of return to normalcy. As time passed, fear of loss of lives ebbed and the ecosystem worked towards reducing the loss of livelihood through gradual opening up of the economy. People started getting used to the ‘new normal’ as Corporate India was bouncing back.
Analysts revised the earnings estimate multiple times – from an EPS contraction in FY21 to the latest estimates of a around 15 per cent growth. Moreover, FY22 EPS is expected to grow further by over 30 per cent. And the markets got excited with such a swift turnaround in the earnings. Still, the 5 year (FY16A – FY21E) CAGR is dismal 4.5 per cent, similar to FY07 to FY16. In comparison, FY01 to FY08 was a stupendous growth of 21 per cent CAGR. Even as Robinhood investors drove the markets, FIIs, too, were not far behind; a virtuous cycle of liquidity and market momentum played out well.
However, Nifty revenue growth for FY21 is expected to be flat to marginally negative and for FY22 it’s expected to grow around 23 per cent. Global rating agency Moody’s expects India’s GDP to contract by 7 per cent in FY21 and grow by 13.7 per cent in FY22.
Dig a bit deeper, the corporate earnings points to the fact that most of the earnings growth is attributable to cost cutting/saving, inventory gains and improved efficiency than contribution from real growth in the topline. Further, if the creamy layer of the corporates, many of which are listed, are surprising us with their performance, the economy is underperforming in comparison. Thus, the pain lies somewhere else which is not visible to market participants. And this pain lies at the bottom of the pyramid, which, if not addressed immediately, could translate into subdued domestic demand as well as strain on the banking system. However, it’s hoped that they would participate in the growth trajectory, projected for FY22.
The steep expectations of a 30 per cent growth for FY22 comes with a backdrop of rising commodity prices, the risk of a slowdown due to 2nd wave of Covid-19 without the cushion of any further cost saving avenues. The rising bond yields could affect the liquidity flows. Most of the wealth generated during this stupendous rally is still on paper, as over confident investors have been increasing their exposure rather than cashing out.
Most of the sectors have performed well during this rally but which sectors could outperform would be a pertinent question. With the government’s focus on Infrastructure and a renewed demand for housing, we could see heightened activity in construction ancillaries, such as Cement, Paints, Tiles & Sanitaryware and we could see a trickle-down effect for Consumer Durables.
FMCG, which has been a laggard in the last two quarters, may surprise the analysts. Defence as well as Capital Goods space will benefit from Atmanirbhar Bharat, whereas Speciality Chemicals will ensure that India is a dominant alternative in the global supply chain, which was dependent on China. We could be at the beginning of a decade long super growth for Pharma as the “Pharmacy for the World” could be growing at 12 per cent CAGR to nearly triple its topline. IT will continue to be safe haven.
However, in the short to medium term, there are various red flags such as 2nd Covid wave, rising yields and high crude prices. The analysts’ high expectations from quarterly earnings may skew the risk reward ratio.
Every additional rupee, especially of the Robinhood investors, is based on the returns generated in the last 12 months and the expectations are high. Liquidity can suddenly turn tepid if every additional rupee of investment starts to give a negative return, like what we have recently witnessed in the IPO market. And to add to it, all those who had postponed booking profits in March, to push the taxes to next financial year, may utilize any upside to book. It would be prudent to wait for a correction, if one hopes to earn decent profits in the next financial year.