Volatility's the middle name! - Views on News from Equitymaster

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Volatility's the middle name!

Oct 7, 2006

The previous week saw the Indian indices finally giving way to profit booking after the recent strong gains, which saw them come within barely 200 points of their all-time highs hit in May. The week's trade was characterised by significant levels of volatility, as can be expected when the indices are not too far way from their all-time highs. With the BSE-Sensex trading at over 21 times its trailing 12-month earnings, this is not cheap by any means, and participants appeared to have finally decided to take profits off the table. The BSE Sensex lost 0.7% for the week, while the NSE-Nifty lost 0.5%. Coming to the trade for the week, Monday being a holiday made the week a holiday-shortened one. Resuming trade after the lengthened weekend, Tuesday saw some amount of weakness in the markets, as participants finally opted to take home profits after what has been strong gains for the indices post their lows hit in June. Weakness was also exacerbated by the poor sentiment across global markets. Wednesday saw a continuation of the weak trend, and in fact, was a day of significant weakness, with the Sensex losing as many as 162 points.

On Thursday, it was a totally different story, as the indices powered ahead into the positive after the weakness seen in the previous couple of trading sessions. Strength across global markets also encouraged local investors. Friday, however, saw a return to caution by participants, as they opted to take home some profits ahead of the weekend.

As far as the institutional activity on the bourses was concerned, Foreign Institutional Investors (FIIs) were net buyers this week to the tune of nearly Rs 13 bn. Domestic mutual funds (MFs) also turned out to be net buyers to the tune of Rs 3 bn.

Net investments
(Rs m) FIIs MFs Total
28-Sep-067,195 3,087 10,282
29-Sep-0612,936 1,211 14,147
3-Oct-06(2,943) 191.0 (2,752)
4-Oct-06(4,194) (1,314.7) (5,509)
Total 12,994 3,174 16,168

The benchmark BSE Sensex closed lower during the last week by 0.7%, while the NSE Nifty lost 0.5%. As regards sectoral indices, the BSE Metal and BSE Auto indices proved to be the biggest gainers during the week, notching up gains of 2.1% and 2.0% respectively. The BSE PSU and BSE Bankex indices also gained some ground. On the other hand, the BSE FMCG and BSE Healthcare indices lost ground. However, while the major indices lost ground during the week, the mid and small caps proved to be the gainers. It appears that given the fact that the large caps are currently fairly valued, participants are now starting to turn their attention to the lower rung stocks in the market where, in our view, there is more value at current levels. Going forward, these stocks could finally be accorded their true values that they deserve, after being out-of-favour after the May and June crashes. Thus, over a medium-term time frame, mid-caps could outperform large caps, given the fact that for many of them, the valuation gap between them and the large caps has increased after the May-June crash, which may not be warranted, as at the same time, their fundamentals continue to impress.

Key indices over the week
IndexAs on September 29As on October 5% Change
BSE AUTO5,366 5,472 2.0%
BSE BANKEX6,039 6,080 0.7%
BSE FMCG2,066 2,028 -1.8%
BSE HEALTHCARE/TD>3,684 3,623 -1.7%
BSE IT4,394 4,401 0.2%
BSE METAL8,509 8,687 2.1%
BSE OIL&GAS5,803 5,815 0.2%
BSE PSU5,816 5,864 0.8%
BSE MIDCAP5,148 5,264 2.3%
BSE SMLCAP6,162 6,329 2.7%

Having looked at the institutional activity and the movement in key indices in the last week, let us consider some sector/stock specific developments:

  • MNC pharma major, Pfizer India, announced decent results for the third quarter and nine months ended August 2006 (November ending company) late Saturday. Topline, during the quarter, has grown by 10% YoY, which could be attributed to the strong performance of its key brands such as 'Corex', 'Becosules', 'Gelusil' and 'Listerine' mouthwash. The company's three new launches i.e. 'Viagra', 'Caduet' (cardiovascular) and 'Lyrica' (nerve pain), could also have contributed to the overall topline growth. Operating margins have expanded by 60 basis points backed by improved efficiencies at the operating level. During the quarter, strong growth in other income and reduction in extraordinary expense has led to the bottomline growth (up 29% YoY) outpacing the operating profit growth (up 13% YoY). The stock closed the week with 4.3% losses. Other pharma stocks.

  • Public sector aluminium major Nalco is planning to set up a greenfield integrated aluminium complex in Orissa at an investment of Rs 150 bn. The company will conduct a feasibility study as it gets permission from the Orissa government. The complex will comprise a 1.5 m tonne (MT) alumina refinery, a smelter with installed capacity of 250,000 to 300,000 tonnes and a captive power plant. Power being a major input for making aluminium, Nalco is actively exploring the possibilities of setting up a smelter in joint venture abroad where cheap power is available. It has identified 3 Gulf States, Oman, Abu Dhabi and Qatar. The stock closed the week with 1.0% gains. Other aluminium stocks.

    Top gainers during the week (BSE-A)
    CompanyPrice on Sept 29 (Rs)Price on Oct 5 (Rs)% Change52-Week H/L (Rs)
    BSE-SENSEX 12,45412,373-0.7%12,671 / 7,656
    S&P CNX NIFTY 3,5883,570-0.5%3,774 / 2,307
    MOSER-BAER INDIA20824015.6%268 / 162
    MICR ELEC.252915.2%30 / 14
    D-LINK INDIA869813.4%150 / 64
    DREDGING CORP56863411.6%749 / 460
    MRF LTD.3,8374,26911.3%4,269 / 2,025

  • As per a leading business daily, home textile major, Welspun India, having acquired UK towel brand Christy in 1QFY07, is planning to introduce it in the Indian market. Currently, retailing their home textile range under Welspun Homemart (factory outlets) and Spaces brand of retail stores, the management is toying with the idea of adding another level after Spaces. Besides Spaces and Homemart, the company plans to add another layer catering to the top of the customer pyramid. Welspun currently has 8 Spaces stores and intends to multiply their existing retail network to 150 Welspun Homemart stores and 60 outlets under the Spaces brand by 2008. The capex for the retail expansion in the coming fiscals is estimated to be over Rs 1 bn. Also, the retail business turnover that was Rs 1 bn in FY06, is expected to scale up to Rs 5 bn by FY08. The stock closed the week with 0.6% losses. Other textile stocks.

    Top losers during the week (BSE-A)
    CompanyPrice on Sept 29 (Rs)Price on Oct 5 (Rs)% Change52-Week H/L (Rs)
    STERLING BIOTECH145135-6.8%157 / 87
    HDFC15341432-6.7%1,541 / 901
    NOVARTIS463433-6.4%635 / 381
    GUJARAT GAS12971218-6.1%1,530 / 920
    TATA POWER567 540 -4.8%613 / 376

  • According to a leading business daily, Tata Steel, India's largest private sector steel company, is in talks with Anglo-Dutch steel giant, Corus Group, for a possible takeover at a price of US$ 10.4 bn. Corus is the ninth-largest steel producer in the world and the second-largest in Europe, with a capacity of 18 m tonnes (MT). The details of the possible takeover are still to be disclosed. However, if the takeover takes place, it would be the largest overseas acquisition by any Indian company. The deal is likely to be financed through a leveraged buyout, where Tata Steel would raise funds against its future earnings. However, as company officials have denied to comment on the issue, we need to exercise caution at the current juncture. The stock closed the week with marginal 0.2% gains. Other steel stocks.

The BSE Sensex now trades at a price-to-earnings multiple of around 21.1 times its trailing 12-month earnings. As we have mentioned a couple of times in the recent past, this is not cheap, and despite the undoubtedly strong growth prospects of India Inc, we believe that most of the upside, at least in the near-term, has already been factored in. The upcoming second quarter results are undoubtedly expected to be the next trigger for determining the near-term trend of the indices. However, given the relatively high expectations from India Inc after a strong first quarter, we believe that any negative surprises on this front could lead to a correction.

We continue to believe that there are greater opportunities in select mid-cap stocks at the current levels. This has already been seen this week, with funds plumping for mid-cap stocks over large cap stocks, as is reflected in the gains seen in the mid-cap index, as opposed to losses for the benchmark indices. We continue to advocate a long-term view on stocks, particularly at these levels. Of course, we remain bullish on the 'India story' over the long-term, and believe that a bottom-up approach is the way to go for generating 'alpha' - superior returns over and above those given by the benchmark indices. Happy Investing!

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