We May Expect Higher Volatility Post Elections Depending: Sanjay Dongre, UTI AMC

Broadly speaking, what’s your take on the equity markets right now? We’ve been in a range bound state for a long time. Are you expecting a breakout post-election?
Market has risen 12.5% in the last six months. At a nifty level of 11600, market is quoting at 19 times one year forward earnings which is higher that the avg valuations of the last 10 years. Hence the earnings growth is critical to sustain the valuations for sectors/stocks.

Microeconomic environment in the economy has turned benign. Expectation of lower inflation, lower interest rates, lower current account deficit and lower fiscal deficit may lead to better and sustainable earnings growth in the medium term. Nifty earnings growth is expected to be in the range of 16-18% percent in FY20 and 14-15% in FY21. Part is earnings growth can be attributed to base effects of past year. Most of the growth is expected to come from domestic oriented sectors like cement, construction, engineering, financials etc. The normalization of earnings may also happen in PSU Banks and corporate oriented private sector banks.

Event such as general election and speculation about government formation tend to impart high volatility in the market in the short term. In the medium to long term, factors such as earnings growth, return on capital employed, positive cash flow generation impact the market positively or negatively. We may expect higher volatility post elections depending on the verdict of the election results.

You manage UTI Infrastructure Fund, which has a sizeable position in the construction space. Are you expecting the space to gather momentum over the medium term?
After the correction in the last six months, the valuations of most of the construction companies are becoming attractive at about 12-14 times of its FY20 earnings. These companies in the construction sector has order book which is 3-4 times their annual revenue which imparts visibility to revenue growth in the medium term.

The roads sector is witnessing a significant revival in terms of order awards as also in the pace of executions. Remaining 26500 km of  Bharatmala projects is expected to be tendered in the next 3-4 years. These augers well for the E&C companies operating in the road sector. Metro rail projects are currently under construction or are in advanced development stage in 12 cities, including Bangalore, Chennai, Jaipur, Chandigarh, Pune, Nagpur, Lucknow, Hyderabad, Mumbai, Ahmadabad, etc. Again the beneficiaries are likely to be Engineering &Construction sector. Railways has an ambitious investment plan with major focus on network decongestion, network expansion and rolling stocks. In next three years EPC companies will benefit from order awards, reduced competition, and lower interest rates. These factors may impact the P&L in positive manner, leading to very high growth in earnings.

What’s your take on BFSI and Pharma? Are they worth investing into at this stage?
For the last 24 months, corporate oriented private sector banks are experiencing stress in its loan books. However, these banks are more towards the end of the stress recognition cycle rather than toward start or midpoint of stress recognition cycle. Going forward the credit cost of these banks may decline substantially. Hence the profitability of these banks may come to normalcy in next 12 months period. One can expect the corporate oriented private sector banks to quote at better price to book multiple.

In pharma sector, US generic market continue to face high competition. However US generic pricing pressure seems to be stabilizing as large generic companies are rationalizing the product portfolio. India business is witnessing the recovery in revenue on the back of double digit growth in the chronic therapeutic segment while the acute heavy product portfolios are acting as a drag given the weak acute season and lower inventory levels. Earning recovery is expected in the next two-three years. Currently, risk reward ratio in pharma sector seems to be favourable.

With small and mid-caps having taken a drubbing since January 2018, they appear to be forming a base now. Is this a good time for investors to be exposing their portfolios to this segment?
Nifty is quoting at 17 times one year forward multiple.  Despite the correction in the last 3 months, mid /small caps are quoting at a slight premium valuations compared to large caps. The real serious money is made when these small and mid-cap stocks start quoting at a discount to the large caps. Hence the mid/small cap segment is expected to exhibit the performance similar to large cap segment from current market levels.

Lastly, what would your advice to fence sitters who have been sitting in liquid funds? Is this the time to start becoming more aggressive, and what is the best approach to adopt in order to prudently build more risk into their portfolios?
Market has risen 12.5% in the last six months. At a nifty level of 11600, market is quoting at 19 times one year forward earnings which is higher that the avg valuations of the last 10 years. Election period induced volatility may be used to start increasing allocations towards equity asset class. Higher risk can be introduced in the portfolio when there is enough margin of safety priced into the valuations.