Talking Points This Week: Contrasts At Play

The news flow and the volatility in the markets were at opposing ends this week. While volatility—both globally and locally—continued to drift lower, news flow was continuous, despite being a Thanksgiving week.

If U.S. Fed minutes suggested that smaller hikes are expected soon, there were contrasting news flow on oil and China lockdowns. Back home, there could be a coming together of two large water brands, if indeed Tata Consumer Products Ltd. takes over Bisleri. But that's not all—equities continued to do well, and India continued to shine.

Let's dive right into the key talking points this week.

A week ago, China gave directives that marked an easing of the Covid Zero strategy. Then early this week, China’s daily Covid-19 cases were just a few hundred a day off a record, spooking local authorities into reintroducing measures such as mass testing and closing schools and offices—despite the new directives.

On Thursday, it went up a notch, with China's daily Covid cases hitting a record high since the beginning of the pandemic, even as the country worked to curb the spread with snap lockdowns, mass testing and travel restrictions.

As on Monday, some 48 cities—representing almost one fifth of China’s total economic output—were subject to some form of movement restrictions. And the main iPhone manufacturing city Zhengzhou was in the thick of things, with worker clashes being reported.

Note that investors are bullish China, with the pivot being a key factor. Recently, as per the BofA Fund Manager survey, the country allocation, considering a 12-month window, had tilted significantly in favour of China (+12 percentage points vs October) and South Korea (+15ppt vs October) at the expense of India (-13ppt vs October) and Taiwan (-11ppt vs October), even as 80% of respondents to the survey thought that the China equity market is in a structural de-rating process, with Zero-Covid being cited as the most significant risk in China.

Will this impact the relative returns of Asian markets at the fag end of the year? It will be an interesting December.

Asian equities have rebounded this quarter despite broadly uninspiring corporate results, underscoring a shift in investor focus from earnings to macro sentiment.

The sum of earnings for MSCI Asia Pacific Index members during the quarter fell short of analysts’ expectations by almost 17%, the most in at least two years, data compiled by Bloomberg show. The regional benchmark has risen 9% since end-September, even as profit estimates have been little changed. Do note that the recent Fed minutes show that Federal Reserve officials agreed that 'smaller' interest rate increases should happen soon as they evaluate the impact policy is having on the economy.

The PSU Bank Index has risen by more than 39% from the October lows, with several stocks trading close to 52-week highs. Multiple factors are working for them, with a near all-time high Tier 1, headline GNPAs/NNPAs at the lowest level in the last seven years, M&A-related issues largely resolved and the absence of many large stressed sectors which may cause asset quality issues in the future.

The questions in the minds of skeptics:

• Can return on assets move up to 0.6-0.8% from negative RoAs up till FY20? (0.8% is 10-year high—driven by easing credit costs).

• Can companies consistently maintain the asset quality levels?

• Can public sector banks stem the market share loss and exhibit better than expected growth?

If they tick positively on the above, then the rally may have many more believers.

If the table topper set is dominated by PSU Banking stocks, select defence companies are not too far behind. It prompted us at BQ Prime to do a series of conversations with defence companies and examine what the street is saying about these names.

A report from ICICI Securities suggests that order book is expected to grow for all companies and margins are expected to expand on sourcing efficiencies.

A key feature is the ability and the focus of the companies on enhancing exports. And when quizzed about all of these, companies largely responded in the affirmative.

Mazagon Dock, for example, has a current order book of Rs 42,000 crore (executable over 3.5 years), and order inflow pool of Rs 1 lakh crore. And this prompts the Rs 7,500-crore top line company to comfortably guide to a 15% CAGR growth over the next few years. If anything, one might feel that they are being conservative, except for the fact that it is a defence company, and defence companies have had many false starts.

But while one may scoff at the adage 'this time is different', Paras Defence Managing Director Munjal Shah believes that this time is different and that companies are getting orders, advances and are executing well. Paras is hopeful of a near 50% CAGR growth for the next few years.

And companies like Midhani (Mishra Dhatu Nigam Ltd.), which are not making pure defence equipment but are suppliers of steel and alloys, are also confident of strong growth and bulging order book in the times to come.

As we enter the final month of yet another volatile year next week, it would do investors good to take stock of the valuations and the macro worries. But as most experts suggest, this is not the time to be bearish on India. Tactically, one may want to try and time. But else, structurally, this is the time to be optimistic on India, and choose pockets smartly. Banks, manufacturing, defence and capex plays seem to be the firm favourites, but global leaders say IT is making a comeback as well.

An interesting last month awaits us, and beyond that, maybe the first full year of the world largely having put the pandemic behind.

Niraj Shah is Executive Editor at BQ Prime.