What analysts expect in 2010

Notwithstanding the huge gains seen in 2009 and despite some challenges going ahead, analysts expect the overall trend to remain positive in the next year as well

After a stellar performance in 2009, the Indian stock market is set to move higher in 2010 believe most research houses and brokerages. The performance, however, may not be as good as in 2009, due to last year’s strong gains and the challenges in 2010 in terms of withdrawal of stimulus packages, higher interest rates and so. However, the brokerages expect the overall trend to be positive, and they have a target for the BSE Sensex, which ranges 19,000-21,000 by end-December 2010 and March 2011. To know what some of the prominent brokerages feel about the outlook for 2010, read the below extracts:

MORGAN STANLEY (MS)

The key debate is that investors are looking at several headwinds for equity markets in 2010. A lot of the coming growth acceleration seems to be priced in, inflation is likely to rise and cause tightening, whereas equity valuations appear middling. Amidst these concerns, and since leading indices have more than doubled in less than nine months, where is alpha going to come from in 2010? In a report last month, the brokerage has identified seven themes as its highest conviction ideas for 2010.

Buy state-owned banks: RBI is likely to start raising rates in January 2010. Rising rates favour Indian banks as they run a maturity mismatch on their balance sheets (liabilities have a longer maturity). Thus, NIMs will rise, which coupled with acceleration in loan growth (which trails IIP growth), will help earnings. The stocks of state-owned banks trade at better valuations than their private counterparts and, will also be helped by a declining fiscal deficit, which will likely cap long bond yields. MS’ favourite stock is SBI.

Avoid Technology: Tightening by RBI will put upward pressure on the rupee with negative consequences for technology stocks, which have a negative correlation with the rupee’s movement. Tech stocks have done particularly well over the past six months and also suffer on a relative basis in an accelerating domestic growth environment.

Buy Energy: Energy, especially Reliance Industries, has delivered its worst relative performance ever on a trailing-six-months basis. The sector correlates positively with crude oil, short-term yields (read: local inflation) and industrial production. Thus, it provides a hedge against a spike up in crude oil prices.

Buy Industrials: Acceleration in industrial growth will help close the output gap faster than what is possibly in the price right now. This will help a new private capex cycle to start in 2010 and further boost performance of industrials. MS’ favourite stock: Larsen & Toubro.

Shift bias from Rural to Urban plays: No doubt rural growth remains very strong, helped by rising food prices and government spending. Yet at the margin, urban growth will close the gap v/s rural growth as industrial activity picks up. Two-wheeler and large cap staple stocks tend to correlate negatively with industrial growth and should be avoided in 2010. In contrast, media and niche mid-cap staples may still perform well.

Buy mid-caps: The broader market is likely to generate faster earnings growth of around 25 per cent in 2010, and trades at better valuations than the narrow market. Accordingly, it could outperform the narrow market.

Stock picking could be in vogue in 2010, market to be driven by earnings: A high market effect, high sector correlation and middling micro factors such as valuation, fundamental and return dispersion sets us up for a better stock picking environment in 2010. Most of the market returns in 2009 have come from a PE re-rating and as the key driver of returns shifts to earnings in 2010, so will the key driver of stock prices from macro to idiosyncratic stock related factors.

Sector portfolio changes: MS has added 100 basis points each to Financials and Energy, and reduced Consumer Discretionary and Technology by similar amounts. Consumer Discretionary has been the best performing sector over the past two years; most of the growth story is in the price. MS is now overweight Energy, Financials and Industrials and underweight Healthcare, Materials, Technology and Utilities.

UBS INVESTMENT RESEARCH

Indian markets will continue to gain in 2010 due to: 1) the strong economic growth outlook (GDP growth estimated at 9 per cent for 2010-11) and 2) strong outlook for earnings growth (forecast to grow 21 per cent in 2010-11), which are likely to attract institutional inflows.

What are the likely key themes for 2010?

* A pickup in infrastructure spending (L&T, Nagarjuna, Lanco)

* Continued momentum in consumer spending (Maruti, Indiabulls Real Estate)

* The banking sector to benefit from higher credit growth, and a slowdown in NPA accretion

* Capital raising to kick-start the capex cycle, driving demand for intermediate goods (Ambuja) and services (L&T, Tata Power)

* Reforms in banking and insurance (Union Bank, ABNL)

What may surprise on the upside or downside?

Upside surprises are likely if the government delivers on reforms. Downside risks could come from a significant rise in global commodity prices or if the government fails to deliver on expected reforms.

Market valuation and targets, highlighted stocks and sectors

UBS’ March 2011 Sensex target is 20,000. It is bullish on India in the long term given:

* Its real GDP growth expectation of 8-9 per cent per annum for the next 10-20 years

* Attractive demographics with a rapidly falling dependency ratio

* Low penetration of products and services

* A stable government.

Key overweight sectors: Auto, Telecom, Cement, Real estate and Pharmaceutical

CREDIT SUISSE (CS)

2009 was one of the strongest years for Indian equities: CS’ cautious optimism of a recovery in second half of 2009 for India has been vindicated. The economy remained resilient and saw a strong rebound, in spite of the poor monsoon season. The equity market rebound in India played out in three phases. Initially led by shoots of recovery in global markets in March, the rally was fueled mid-year by a PE re-rating caused by the surprise positive political outcome. The up move continued into the year-end, supported by the earnings upgrade cycle. In retrospect, it turned out to be one of the best equity years ever.

The key question now for equity investors post this euphoric rally in 2009 is whether 2010 will continue to be a year of equities. Is the world likely to face a double dip? What will the market repercussions be of central banks gradually exiting stimulus and sucking out excess liquidity?

CS expects 2010 to be a positive year for Indian equities (though the move will not be as linear as in 2009), driven by improving GDP and earnings growth and supportive government action on the reform front. It expects Q1 2010 to be choppy, with domestic exit of monetary and fiscal stimulus and intermittent concerns on liquidity-driven global asset bubbles weighing on investor sentiment. But, it would use these volatilities to add equity exposure as it remains confident of macro change-driven growth prospects for India.

It expects 2010 to be the year of execution and implementation of some key long-awaited reforms by the government. And, its base case December 2010 scenario for the Sensex is 19,000. It believes that sustained earnings acceleration can take the market to an optimistic scenario of 22,000.

CLSA

Notwithstanding the strong rise in the Sensex in 2009, CLSA see a 14 per cent return for the market in 2010, as pick-up in the investment cycle and global recovery drive the next leg of earnings upgrades. However, Q1 2010 will be choppy, on revival of macro concerns like inflation, monetary and fiscal tightening and the large pipeline of pending equity issuances; autos, property and power look most vulnerable. ICICI Bank, IDFC, Infosys, Sun Pharma and Tata Steel are CLSA’s top ‘buys’.

A super 2009 doesn’t preclude a healthy return in 2010

* Of the six instances of over 50 per cent annual return during the past three decades, only two - 1986 (minus 0.9 per cent) and 2000 (minus 21 per cent) saw negative returns in the following year.

* Accelerating GDP growth and earnings recovery can offset pressures from monetary tightening, as seen in 2004.

* Capital goods, Banks, Healthcare are seen to be late cycle outperformers; autos and consumers tend to underperform.

2010 SENSEX TARGETS
Brokerage	Sensex target	EPS (Rs) FY10E	FY11E
UBS *	20,000.0	928.0	1,123.0
BNP Paribas	21,000.0	868.0	1,109.0
CLSA	19,250.0	828.0	1,033.0
Credit Suisse	19,000.0	NA	NA
* Target is for 12 months ending December 2010, except for UBS wherein the target is for March 2011 E: Estimates

Q1 2010 looks set to be volatile…

* With the revival of macro concerns on inflation, monetary and fiscal tightening and a lull in the earnings upgrade cycle markets can be quite volatile in the January-March quarter.

* Analysis of previous bouts of inflation reveals that markets can withstand inflation during a recovery phase; cost push inflation in a phase of weak growth hurts.

* CLSA sees rising WPI inflation in Q1 leading to CRR and reverse repo rate hikes.

* While the market is anticipating tightening in monetary policy, surprises on the degree and timing of policy actions could be a source of volatility.

* An over $10 billion equity pipeline, excluding targeted $3 billion of government disinvestment, will also weigh on performance in Q1.…but the next leg of recovery will also unfold

* The recovery in consumption is on track and will be supported by improving hiring trends. Investment growth has, however, lagged.

* Capex intentions are rising and project starts in roads, power should get the cycle going. RBI’s recent measures will help reduce cost of financing infrastructure.

* With over 70 per cent of Sensex earnings linked to investment upturn and global recovery, the earnings upgrade cycle should resume in 2010-11.

Sector stance and top picks

* CLSA’s 12 month target for the Sensex is 19,250; with the expected rise in risk-free rates, it does not see prospects for re-rating of the current P/B multiple.

* Industrials, IT and materials which play into the second leg of the recovery are key over-weights; Consumer discretionary (autos), Power and Energy are key under-weights.

* CLSA’s top buys are ICICI Bank, IDFC, Infosys, Sun Pharma and Tata Steel.

* Its biggest under-perform/sells are DLF, NHPC, Ambuja Cement and Tech Mahindra.