Strong Momentum And Cheap Valuation In Indian Materials

Strong Momentum And Cheap Valuation In Indian Materials

India Equity FVMR Snapshot

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Remember that FVMR stands for Fundamentals, Valuation, Momentum, and Risk. Those are the factors that we look at to get an understanding of the market.

Fundamentals: Indian Consumer Staples has massive profitability

The return on equity (ROE) of India is above the global average, consensus expects it at 14.1% in 2017. Consumer Staples offers a massive 29.9% ROE followed by Info Tech at 21.8%.

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Overall, the Indian market has a lower dividend payout ratio (DPR) versus the world. Indian companies only pay out about 30% of earnings as dividends, while the global average is about 40%. Indian Telecom’s DPR looks better than it actually is, as earnings are expected to be low. Consumer Staples, though, offer a relatively high DPR of 60%.

Valuation: Materials and Utilities appear to be cheapest in India

The overall Indian market trades above the world on 2017 price-to-earnings (PE) and price-to-book (PB). Telecom is trading at high PE, partly explained by the earnings are expected to be low. The premium profitability in Consumer Staples also comes with a hefty price tag, 2017 PB at 11.9x.

Financials trades about in line with the Indian market at 2.8x PB, even though the Indian banking system has had a tough time in recent years following recognition of bad loans. However, about 90% of these bad loans were at state banks which should be compared to that state banks only held about 70% of total loans.

Looking at the PEG ratio (PE divided by EPS growth), Materials at 0.6 and Consumer Discretionary at 0.8 appear most attractive. A rule of thumb is that a PEG ratio below 1 is cheap.

Another measure to look at is ROE/PB, where a higher number means more attractive. On this measure Utilities appears most attractive, offering 7.8% ROE/PB. This means that you get 7.8% ROE for each unit of PB you pay. Second best ROE/PB you find in the Energy sector, where you get 6.7%.

Momentum: Indian Materials has strong price and earnings momentum

The Indian market as a whole is expected to see earnings grow slower than the world. Earnings contractions are expected in the Telecom, Energy, and Health Care sectors. The sectors with the highest expected EPS growth in 2017 are Materials, Consumer Discretionary, and Financials.

In the past one year, the Indian market has underperformed the world in terms of price performance. The strongest sectors in India during the same time period were Energy at 38.9%, Materials at 35%, and Industrials at 25.7%. Negative one-year performance has been in Health Care at -22.6% and Info Tech at -3.3%.

In the past two weeks, the strongest price performance was in Energy and Materials and weakest in Telecom and Info Tech.

Risk: Indian Telecom has high gearing and high price volatility

Gearing in India is above the global average. Three sectors with net debt-to-equity of above 100%; Industrials, Utilities, and Telecom. However, Info Tech in India is like in the rest of the world, net cash.

In the past one year, Telecom and Materials have had the highest price volatility. Telecom was also the most volatile sector in the past three months, followed by Health Care. The lowest price volatility has been in the Utilities sector.

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In 1992 Dr. Andrew Stotz, CFA, left a management career at Pepsi-Cola in California to teach finance in Thailand. In 1993, he found his life calling as a financial analyst, a job for which he was eventually voted #1 in Thailand. In the second half of his 20-year career in investment banking, Dr. Stotz was a Head of Research, leading teams of financial analysts. He served as a two-term president of CFA Society Thailand and now runs his firm, A. Stotz Investment Research, which provides research and tools for institutions and high-net-worth investors and helps CEOs make their companies financially world class.
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