Market outlook of the week: Nifty headed for 20,700 by Diwali, all eyes on US Fed in coming week

• Nifty gained 1.7% to reclaim life highs & close above 20,000 outperforming global peers.
• Most developed markets globally gained ~ 1% amid expectations of interest rates nearing peak.
• Structurally, Nifty has given a strong breakout above 20k as it reclaimed 29 session’s decline in just seven sessions. We expect Nifty to head towards 20,700 by Diwali (support placed at 19,600).
• BFSI, IT, PSU, Auto likely to outperform while Metals offer favourable risk -reward setup.
• For the coming truncated week, Nifty target is placed at 20,400 (Support 19,800).
• Large caps performed better as Midcaps underwent profit taking after strong rally.
• Nifty PSU Bank index: Index has given a decisive decadal breakout. Similar breakouts in the recent past in Capital goods, PSU, Power indices has resulted in 20-30% rally post breakout. Bank of Baroda, Indian Bank, Union Bank, PNB, Bank of Maharashtra are preferred.
• Midcap index: Midcap index has rallied 40% over past few months. In a secular bull market historically, 8-10% corrections in midcap index provided incremental buying opportunity.

Domestic inflows at a new high

• August was a good month for the MF industry with AUM of the industry reaching all time high at Rs 47 lakh crore.
• Inflows came in sharply higher in August was Rs 20,200 crore vs Rs 7,600 crore in July. Inflows were higher across category.
• Inflows in Midcap funds increased from Rs 1,600 crore to Rs 2,500 crore, Multicap funds: From Rs 1,000 crore to Rs 2,000 crore).
• Outflows from Largecap funds significantly reduced. Thematic funds flows increased by Rs 2,500 crore.
• Smallcap funds continue to saw higher inflows at Rs 4,265 crore vs Rs 4,171 crore in July. Inflows in 8 months from Jan 2023 to August 2023 is at Rs 26,000 crore. Last year same time (Jan-Aug 2022), inflows were at Rs 13,000 crore.
• SIP inflows continue to rise. At Rs 15,814 crore vs Rs 15,243 crore in July 2023. The number of SIP accounts have increased to 6.97 crore in August 2023 compared to 6.81 crore in July 2023.

Monsoon 2023: Situation not bad as it sounds

• Despite muted rainfall activity in the month of August at -36% of LPA (driest month in over a century), cumulative rainfall till date domestically in June-Sep period is pegged at -10% of LPA.
• In all probability, we might end the monsoon season with below normal rainfall.
• On the sowing front, total acreages are broadly flat on YoY basis at ~110 million hectares.
• Encouragingly acreages in the case of Rice is up 3% YoY at 41 million hectares, a 5 year high.
• Situation is muted only in the case of pulses wherein acreages are still down ~9-10% on YoY.
• Domestic foodgrain production target for FY24 is pegged at 332 MT with present muted rainfall activity not expected to lead to any meaningful shortfall in agri-produce (except pulses) thereby keeping inflation under check.

Healthy start to the Festive season– Consumer sentiment positive

• As per media sources, Passenger Vehicle players witnessed healthy demand during the festive period of Onam with Maruti Suzuki witnessing a volume growth of ~24% on YoY basis during this period while the same for Hyundai stood at 10% YoY.
• Industry is geared up to sell ~10 lakh PV units this festive season (83 day period from Onam to Bhai dooj post Diwali) vs. 8.92 lakh units sold in the same period last year (expecting a growth of ~12% on YoY basis).
• Even the liquor sales during the Onam period hit all time high in the state of Kerala. 

View on Midcaps and Smallcaps post recent correction

• Structural opportunity of scalability in the mid to long term: We are coming off a relatively modest economic growth in last 3 years (with covid being a speed breaker). We believe that in a structural economic growth trajectory (7-8% real growth visibility over the next 8-10 years), the opportunities in the smallcaps and midcaps are massive in terms of both business as well as market cap scalability.
• Superior earnings Outlook: earnings estimates of midcaps and smallcaps have seen healthy upgrades in the last 9 months, driven by higher utlisation levels, margins and relatively superior balance sheets of the companies. It is interesting to note that major trigger of economic benefits such new capacity led revenues growth and as lower interest rates are yet to play out. Thus, we see earnings tailwinds in the smallcaps and midcaps.
• Corrections are part and parcel of the game; “Time in” more important than “Timing”: We see 10-15% corrections a normal phenomenon in an equity market. From a healthy run, such corrections are usually seen.

Source: Bloomberg

PSU banks - headroom for further re-rating makes compelling investment opportunity

• PSU banks have witnessed an outperformance in recent past with Nifty PSU bank index up ~15.5% YTD compared to 10.8% run up in Nifty and ~6.6% in Bank Nifty.
• Increasing focus on retail loans, healthy liabilities franchise and repricing of MCLR loans to keep margins steady in FY24E.
• Moderation in credit cost coupled with stable opex seen to aid further improvement in RoA.
• GNPA has declined from peak of 12.2% in FY19 to 5% in FY23; which is expected to decline further. With decadal high coverage at 71.5%, credit cost is seen to remain lower thereby aiding RoA.
• Anticipated inclusion of Indian bonds in global index and recent relaxation by RBI on classification of investment expected to aid yields and thus treasury gains, especially for PSU banks.
• Further re-rating in PSU banks driven by relatively lower valuation coupled with sustained loan growth (11-13% in FY24E), margins and further moderation in credit cost.

SBI (CMP - Rs 598, Mcap - Rs 5,33,736 crore, Target - Rs 725, BUY)

• Focus on retail/ MSME segment and strong pipeline of corporate sanctions is expected to deliver industry in-line growth at 14-15% in FY24E. Healthy liabilities franchise and repricing of MCLR book (~42% of advances) is seen to keep margins steadier for FY24E.
• Moderation in slippages and higher recoveries is seen to keep credit cost benign.
• Given large size of investment book, benefit of decline in yields to remain substantial and aid RoA trajectory ahead.
• Elevated provision buffer is seen to limit impact of implementation of ECL norms.
• Market leadership along with industry in-line growth, healthy liabilities seen to aid operational performance while moderation in provision (on the back of better asset quality) is expected to result in improvement in RoA trajectory. Thus, we remain positive on SBI.

Bank of India (CMP - Rs 108, Mcap - Rs 44,154 crore, Target - Rs 117, BUY)

• Bank of India (GoI stake at 81.4%) with gross advances at ~Rs 5.2 lakh crore, diversified across segments - Corp/ MSME/ retail segment contributing 45%/ 16%/ 22% of domestic advances.
• Advance growth targeted at 11- 12% in FY24-25E with continued focus on retail/ MSME segment (forming ~55% of book).
• Focus on retail/ MSME segment, repricing of MCLR based advances (53% of loans) is expected to aid yields, while healthy liabilities is seen to keep margin steady at ~3%.
• Asset quality has been on improving trend with GNPA declining from 14.8% in FY20 to 6.7% in Q1FY24. Steady slippages (Rs 8,000 crore in FY24E) & healthy upgrades/recoveries (Rs 12,000 crore in FY24E) coupled with write-offs is expected to result in further decline in GNPA and keep credit cost benign at 60-70 bps.
• Overall, continued healthy business growth, steady margins and moderation in credit cost is seen to aid gradual improvement in RoA at 0.8% in FY25E. Recovery from stressed and written off exposure to provide boost to earnings and thus act as re-rating catalyst.

Green Hydrogen – India Opportunity and beneficiaries

• India is aiming to be a global hub for production of green hydrogen in the next two decades.
• India is eyeing to capture 10% of global share in green hydrogen by 2030 with export of 10 million tonnes. In doing so, it is targeting to be a self-sufficient economy in terms of going green or decarbonizing economy.
• Share of green hydrogen in total hydrogen consumption is expected to increase significantly in the coming years.
• Sectors like fertilizer and refinery currently use hydrogen in their operations, which will be gradually replaced with green hydrogen.
• Other sectors like transportation, power, steel, shipping have been identified for green hydrogen applications.
• As per the estimates, green hydrogen provides total opportunity size of about Rs 14 lakh crores which includes capex in segments like electrolyzers, renewable power.
• Some of the companies that are leading the green hydrogen revolution include Reliance, Larsen & Toubro, NTPC.

Higher GRMs bodes well for pure refining companies

• GRMs have seen consistent improvement in Q2QTD as Singapore GRMs hover at US$8-9 per barrel in Q2QTD vs US$4 in Q1FY24.
• Average Brent crude has also seen strong movement in Q2QTD to US$ 84 per barrel vs Q1FY24 average of US$ 78.
• Average USD/INR exchange rates have increased Q2QTD to Rs 83.6 vs Q1FY24 average of Rs 82.2.
• Due to the movement in the crude oil prices, Oil refiners are expected to report a one-time inventory gain during the quarter.
• Due to the sharp movement in ending crude oil prices (current price at US$ 94.4 per barrel vs ending price of US$ 74.5 on June 30, 2023) marketing margins can be expected to have stepped in the negative territory vs blended profit of Rs 9 per litre in Q1FY23.

Impact

• Standalone refiners (MRPL, CPCL, RIL) stand to gain the most in the current situation, with improved GRMs prospects. Better crude sourcing is also expected to lead to premiums over Singapore GRMs.
• OMCs would be overall negatively impacted as improvement in GRMs will be countered by losses on the marketing side and also newly introduced LPG subsidy by the Central Government.

Hidden Gems

Astra Microwave Products (CMP: Rs 423, TP: Rs 510)

• The company is primarily engaged into electronic systems and subsystems like radar, electronic warfare etc., mainly used in sectors like defence and space.
• Order backlog at Rs 1,580 crore as of June 2023 (~2x of FY23 revenue) provides strong revenue growth in medium term.
• Order pipeline is strong as there is a huge opportunity in defence electronics. Usage of electronics in defence to increase gradually to 40-45% in the next 5 years (from 35% currently), provides an opportunity of Rs 2 lakh crore only in defence electronics.
• Execution of high margin domestic contracts is expected in the coming quarters. We estimate revenue growth of 15.5% CAGR over FY23-25E while EBITDA and PAT is expected at ~26% and ~47% CAGR respectively over FY23-25E.
• Valuation at 25-26x P/E on FY25E earnings looks attractive as compared to other private players in the same business.