Bullish on telecom, media, FMCG, banking: Lotus AM

The markets got off to a volatile start this week. Traders remained tentative on the back of more bad news from the US financial sectors. The Nifty closed at 4,039 down 9 points, while the Sensex shut shop at 13,330 down 139 points.

Ajay Bagga, CEO, Lotus AM, said things are looking pretty bad globally. "The situation is grim in terms of financials in the US. Any deterioration there could see a further sell-off, and emerging markets would face the brunt of it. Things are not looking too good in the short-term for Indian markets as well. It will stay largely determined by global cues and that is not a short-term remedy which can be corrected in the short-term. It is going to take time and India will follow in that sequence."

According to Bagga, the Indian markets are in a fairly established bear market.He is bullish on telecom, media, banking and FMCG.

Excerpts from CNBC-TV18’s exclusive interview with Ajay Bagga:

Q: Are we just going to be tossing around in a small range? Do you have a better sense of direction in the month of July?

A: Things are looking pretty bad globally. The situation is grim in terms of the financials in the US. Any deterioration could see a further sell-off and emerging markets would face the brunt of it.

The short-term future for the Indian market looks bad. It will stay determined by global cues and is going to take time.

Q: Do you concur to the view that levels closer to 3,000 on the Nifty might eventually come through before this bear market ends at some point over the next 6-7 months?

A: It would be anybody’s guess. It would take a little longer than that, given that things are deteriorating both in the macros as well as globally.

Earlier this year, there was talk that Q3 could see some resilience returning to the US economy. The prognosis will change into a real recession by the last quarter of this year or Q1 of next year. I think markets will lead us into it.

Markets are leading indicators and they will forecast it much sooner than we realize what we are heading into. It might take a little longer but it is a fairly established bear market that is staring at us.

Q: IT has been big problem today. What did you make of the Infosys numbers? Do you see more downside in the sector now?

A: The problem with IT is that there was a strong bounceback and people thought it was an oversold sector but there was no conviction buying. Funds were not taking positions in IT across the bounceback. Our consistent theory is that one cannot just take positions based on the rupee-dollar rate. If there is an increase in the credit cycle realizations and if the utilization rate starts dropping, margins will start hurting and that will have a bigger impact on the sector

Most of the guidance was in line with the expectations of a strong US recovery. Towards the end of the year, guidance was moving up. But now with in-line guidance coming in, people are getting wary about whether that kind of a take-off will materialize if the underlying US economy is not doing too well.

The short-term picture, at least for the foreseeable couple of quarters, is hazy until some visibility comes on the underlying demand and customers to justify a conviction position in this sector.

Q: What do you expect by way of global cues? Are you sensing or smelling some bad news from the US markets? Are you preparing for some severe downside because the global cues? 

A: Whenever the government has to step in, it means that the country is in a major crisis and we are talking huge numbers here. USD 5 trillion of mortgage assets are controlled by two government entities or semi-government entities. Stock prices are down by 75% already. We expect shareholders to pay in the Bear Stearns case.

 The bond holders would be protected because they have bought bonds as sovereign bonds, thinking that the US government was guaranteeing them; when clearly there was no explicit guarantee. But there is an implicit guarantee.

So, on a USD 86 billion of capital there was a USD 5 trillion of mortgage assets sitting.

The government has extended a temporary USD 300 billion to the two in terms of the Fed-discount window. But a lot more is needed to shore up the balance sheets and it will really stretch. Somewhere somebody has to pay the price.

It would either be in terms of more dollars getting printed, which will reduce the rate of the dollar and there will be a fiscal deficit price.

So, we fear this will spread and that is what we saw in the Asian markets where people did start with some kind of a bounce. The problem is very deep and the global macro issues and the threat of a contagion is very real and the numbers are huge. It is not easy to resolve.

United States Treasury Secretary Henry Paulsen also talked about 2.5 million US households going into foreclosure. That is a huge 15-16% of mortgages that could go in into that kind of a scenario.

The credit-induced deflation in the economy along with the commodity-induced inflation can be a very debilitating blow to the global economy as well as the global markets.

Q: Is there no appetite for bank stocks?

A: On the banking sector, our fund managers are quite bullish albeit with a 3-5 year perspective. Banks are good surrogates for the economic growth we will see in India over time.

In the short-term, there is an overhang on the mark-to-market losses on their treasury portfolios because of the rate hikes. In the few results that have come through, it is clear that Net Income Margins (NIMs) are getting compressed. There is a fear that Non Performing Assets (NPA) are on the rise especially on the retail book which were aggressively built over the last three years. Now, with lending slowing down we are seeing the NPA deteriorating fast.

These are the few factors which are constraining the banks right now. But otherwise, they remain well-run and well-capitalized. They are in an economy that is on the high growth path with little linkage into the international financial contagion. That is something that will be good for Indian banks as it did in 1997, as we don’t have huge exposures to the global economy.