CLSA Global has published a big sell report on Indian equities - "On borrowed time. Ten reasons to book profits on India." The report has been published by their Chief Equity strategist for Emerging markets.
We are highlighting their rationale for the community.
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India has delivered the highest returns amongst Asian peers: 147% since March 2020 lows (29% in CY 2021 YTD).
Ex-Asia, it has been outpaced only by the net energy exporters of Saudi Arabia, UAE, Russia and Kuwait, which gain from rise in energy prices.
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CLSA cites 10 key risks for India:
#1 High energy prices:
India imports most of its energy needs (83%, 56%, and 30% of its oil, gas & coal consumption resp.)
Their premise is that Indian equities underperform when avg of real coal and oil prices exceed $100. We are there.
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"A sustained fall in oil & gas exploration and investment by global supermajors owing to the 2014-2020 oil price decline, coupled with intense pressure from ESG-related activism, may sustain the phase of elevated energy prices."
However, Demand dynamics are fast normalizing.
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Reason #2: Soaring input versus output cost pressure will erode margins
Evidence of corporates struggling to pass the rising input costs to end customers. They think a good proxy is (WPI - CPI differential) which is now at highest levels in 2 decades for India.
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Reason #3: RBI has begun withdrawal of its stimulus (Government Securities Acquisition Program) on 8th Oct, 2021, while maintaining repo rate at 4%.
Excess Banking liquidity with RBI moderated to INR 8.4 TN from peak of 10 TN in early Sep. They expect more.
<not clear to us>
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Reason #4: Absence of fresh institutional buyers
In 12m FY21, FIIs bought US$ 38.4bn of Indian equities vs US$ 8.7bn in previous 5 years. However, FIIs are net sellers since April 21 at US$ 1.2bn.
While DIIs have bought $8BN since Feb 21, pace is now declining.
cont..
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CLSA believes DIIs in India are over-saturated in equity asset class with allocation of 39% vs 19% in emerging market peers.
With earnings yield to bond yield ratio at lows, they think DIIs have no incentive to buy more.
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Reason #5: Aggressive EPS forecast built in valuations - significant risk of disappointment.
India has outperformed EPS estimates over last 12 months - "a rare occurrence." They quote India has underperformed estimates 83% of times in last 26 yrs, except for 24m in 2006/07.
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India has seen the swiftest reversal in earnings estimates for any emerging market. CLSA view is that the consensus EPS growth estimates of 25% for next 18 months (vs 11% for EM) is aggressive. 12m trailing EPS growth was 32% on low base.
Overall and sector-wise revisions:
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Reason #6: India relative valuation higher than any point in past 13 years, at 31.6x cyclical adjusted P/E (vs 18 yr avg of 22.6x).
However, the overall Emerging Market Index trades:
i. At less than half at 14.7x
ii. Cheap respective to 24 yr avg of 16.6x
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Indian banking is particularly expensively vs. regional and emerging market peers on a price book relative to profitability framework.
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Reason #7: CLSA anticipates INR pressure with an eroding external position.
View: India’s Balance of payments position will move back into deficit from March 2023 onwards. As FED removes its ultra-stimulus monetary policy, CLSA expects USDINR to weaken to 78.5 by March 23.
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We found the balance 3 points as subsets of earlier or not material enough to capture, so we skip them.
The crux of their view seems to be elevated energy prices causing margin headwinds, weakening external position and over-optimistic earnings growth expectations.
/end
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