In India, businesses of tomorrow like Reliance are businesses of yesterday also: BNP Paribas India

If the liquidity rush ensures that we trade at least one standard deviation above the five-year mean, another 10-12% upside can be expected from current level, says Amit Shah, Head of Equity Research.

There is a very interesting report from your house -- Bharat in Times of Work from Home and Beyond. How are you analysing the market or investing environment right now in terms of valuations and the factors at play both in the largecap and midcap universe?
The market is benefitting from the liquidity rush that we are seeing globally. However, in India’s case, the fundamentals have been lagging behind from April to July. The recovery in all the high frequency indicators that we track had been pretty solid but some amount of weakness came in August, especially as unemployment numbers were largely flattish for July over August and that is a bit of a concern. That is also because the pandemic is now rapidly spreading in the rural areas. Having said that, we do not expect a material downside.

In our report we have also highlighted that based on our analysis we see around us 7% to 8% downside from current levels and that is our bear case scenario and we expect our house estimate for the Sensex to be 41,500. But on a sensitivity basis, if the liquidity rush ensures that we trade at least one standard deviation above the five-year mean, you can see another 10-12% upside from current level.

We are more biased towards the upside and that is where we believe the markets are headed. There would be some corrections in the near term, especially as we get into the US elections because things will get a little volatile in the last two-three days but overall, from the next 6 to 12 months’ perspective, the upside is probably where our bias is.

What is the bucket which you call Bharat? What kind of plays comprise that bucket which you are recommending in your strategy report to be played if you want to go long on India?
The Bharat basket is a basket by itself as well as a theme. What we are trying to convey here is that India historically has not been able to create businesses of tomorrow. Reliance is as close to it as we can get and that too has happened in the last three to four months. But from an investment perspective, you will have to go 20 years back to see that IT services was the last investable sector that grew in India and that is largely because India’s biggest strength is the population. We have a billion odd people and the Bharat basket is people centric in nature. In India, businesses of tomorrow have been businesses of yesterday also.

The Bharat basket as a basket of stocks has the ability to reach that billion people. All are global in nature in terms of IT services and that is where we see continued valuation as well as multiple re-rating happening in these stocks because we expect the polarisation in India to continue going forward. There are very few companies that can potentially challenge the leadership positions of all these companies in their respective sectors.

India has seen polarisation right from 2008. From 2008 to 2020, if you analyse the Nifty, you will see that six stocks have presented almost 60% of the outperformance by the Nifty. And if you include Reliance in this series, then probably that becomes the seven stocks. That is how difficult it has been and that is how stock specific it has been in order to beat the market. The Bharat basket effectively is an extension of that.

We believe these companies are businesses of tomorrow as they have either repositioned themselves in the case of say Reliance or Bharti for that reason or historic stable sound businesses which have distribution reach and a very simple logic behind that is what we are pushing with the Bharat basket.

Reliance has hit the $200 billion market cap. Any thoughts on the impact Reliance earnings and its movement would have on the market over 12-14-24 months and even long term?
This is exactly what the Bharat basket is about. It is about companies that have such a meaningful stronghold in their businesses that earnings upsides will happen with business cycles. Also multiple valuation re-rating happens consistently for these companies which is what we are seeing with Reliance as well.

If Reliance enters into a $20-billion deal to sell a stake in Reliance Retail to Amazon, that will roughly translate into 40% for the retail business. That is actually too far away from our valuation of the retail business on FY23 basis. But it is also the function of getting marquee investors and increasing the impact that the digital businesses as well as the retail businesses have as a percentage of the whole RIL pie and this is where the multiple reratings happen. The farther they move away from O2C, the more valuation they command as overall business and then they have multiple catalysts lined up including retail stake sale.

Almost every big player has raised capital and shored their balance sheet, How would you play financials?
We have been very positive on financials. We do something called road product where we actually go to different cities across India and talk to people to get on-the-ground scenarios. There we are seeing things actually improving. The overall market fear with regard to loans and the moratorium and also the fact that India has a very long tail in terms of lending is something that everybody is worried about. The restructuring that RBI has offered as one-time will probably go a long way.

The near-term overhang is the Supreme Court decision on interest on moratorium which has been deferred to September end. Near term, there will be some bit of challenge but from here on, if the market has to rally, financials should be the leader of the pack. It is time for financials considering we have seen a broad-based rally across some of the sectors which tend to benefit.

With liquidity pouring in, the structure of the market has moved from absolute pessimism to neutral and is even looking upwards. Will it be the same from a 3-5-year perspective?
Absolutely, to us it does. Liquidity has been a driving force for emerging markets, it is the consistency and the predictability of the liquidity that becomes very important and the Jackson Hole meeting in that way was a big comforting factor at least for emerging markets knowing that there will not be a repeat of 2013 taper tantrum.

This time around the structure is in place. Even if I have to digress a little bit, the real estate cycle is improving now despite us being in a lockdown. The affordability index is back to 2003 levels. We have got cheap liquidity and all of this together has all the ingredients to make for a sustainable run. The near term is only going to be run by how soon we can flatten the Covid curve. Once that happens, you will see this kind of play back into the markets.

What is your view on the midcap end of the basket? What kind of themes do you like there, valuations etc?
In the midcap space, we are very bullish on the insurance space. It looks very good. Auto ancillary has run up a little bit but there is some more room in select auto ancillary stocks. Otherwise, in the midcap space, we prefer some of the tier-2 consumption names as well.