Predicting the market is about assumptions, particularly so when you are in a bullish phase of the market. Therefore, assuming that foreign capital will continue to flow in, the wealth creators in 2008 will differ remarkably from 2007. As investors continue to benefit from the overall story of India’s impressive GDP growth, the leading wealth creators of 2007 could easily not figure in 2008 list.
Large-cap stocks, which are well represented in various indices, have already seen a deluge of investments from foreign funds over the years, thereby stretching their valuations considerably. While dumb foreign money looking to park their money in safe havens may continue to invest in Indian large caps, smart foreign money will shift to what will emerge as the real story for 2008 — the rise of the small and mid-cap sector.
So, who’s not hot? Telecom and export-oriented sectors such as IT or manufacturing will lose further ground. The telecom sector will cool off due to stretched valuations. The chief problem confronting telecom is a ‘chicken or egg’ one. Since the sector’s valuations hinge mainly on the number of subscribers added, companies in this sector have slowed down their capital expenditure in favour of marketing expenses used to lure new customers. Tack on the problem surrounding availability of spectrum to decreased capital spending and you are left with an inability to support a new subscriber base, thus providing a death blow to valuations in this sector.
Uncle Sam’s health is also affecting the fortunes of export-oriented Indian companies. As the US economy slows down and the dollar remains anaemic, revenues and margins of IT companies, textiles and jewellery will be put under severe pressure. Consequently, these sectors will underperform in 2008.
So, where are the bargains? Mumbai-based Aster Business Research, which runs a portfolio management scheme and invests primarily in small and medium cap stocks, says in its research report that there are several small companies such as Shree Ganesh Forgings, ANG Auto, and even Pyramid Samsira, which have both solid growth and management but are quoting at single digit P/E multiples.
“Mid caps and small caps will continue to do well as they are trading at a discount of about 25-30 per cent on a trailing 12-months earnings basis as compared to the Sensex,” says Vikram Achreja, director of Aster Business Research. “Faster growth rates and increased PE investments in these companies will also ensure continued momentum in these stocks in 2008.” Also, PE players have begun to gobble up small and medium family-owned businesses which have started re-listing themselves this year, and this promises to be a significant trend in 2008 as well.
One of the investment themes that will attract attention in the coming year is domestic consumption in India. Foreign funds looking at India as a safe haven from a slowing US and UK economy are bound to look at domestic plays with greater interest.
Vinod Sethi, advisor to foreign funds, says that there will be a shift in fund flow towards quality stocks, particularly small and medium caps that have low FII holdings. Consumer goods companies such as Marico will do well in 2008, he adds. Large consumer goods companies such as ITC have already attracted foreign flows and may not deliver the same returns for investors entering the market in 2008.
A friendly budget for consumers and tax payers is expected this year, which will further benefit the domestic consumption story. The other sector positively impacted by higher domestic consumption is luxury and lifestyle, which does not have too many listed companies, barring Provogue on the retail side.
As India continues to grow rapidly and a new class of consumers begins to snap up cars, scooters and houses at breakneck speed, a huge growth in infrastructure will need to take place to sustain this trend in consumption. According to a study by a foreign brokerage firm, CIR, when aggregated by sectors, infrastructure and commodities performed best on a 12-month trailing basis small and mid caps that covered nine markets in Asia Pacific. India, projected by many brokerage firms to grow at 9.4 per cent versus Hong Kong at 6.2 per cent, and Indonesia at 6.5 per cent, is well poised to benefit from an increase in infrastructure from both public markets and private equity in the coming year.
Infrastructure is largely under-represented in the major Indian indices and there aren’t enough large-cap companies in this sector. This is destined to change as companies such as Pune’s roads and highway company IRBIDL are expected to go public. As IPOs in this sector increase, foreign funds are guaranteed to flock towards them. Moreover, infrastructure is a capital-intensive business and banking institutions such as Infrastructure Development Finance Corporation (IDFC) will attract further interest from foreign funds in 2008.
So, who is to gain from the infrastructure boom? Real estate is already a market favourite and most companies in this sector have stretched net asset valuations based on their captive land bank. Also, giants such as DLF and Unitech remain obsessed with high-end housing ignoring the real next boom in housing, which will target low or middle income households. Companies focused on this segment will find favour with foreign investors. Already, several firms such as Sintex Industries and the Shapoorji Pallonji group are looking for concessions on land prices from state governments for building low-cost housing.
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