Overweight cyclicals, financials and real estate sectors: Morgan Stanley

In the past many quarters, corporate earnings have either been mixed or have been below estimates on the back of volatile crude price movements, rally in US dollar and US-China trade tensions.

But this time experts believe earnings cycle is likely to be strong. They are talking about at least 20 percent growth in financial year 2019-20 and 2020-21 each majorly driven by banking & financials.

Motilal Oswal in its latest report said it is building in an EPS growth of 24.8 percent for the Nifty for FY20. "Excluding corporate banks, FY20 Nifty profits are expected to grow 14 percent."

In case of Sensex companies, Morgan Stanley expects earnings growth of 24 percent in FY20. It feels the index could touch 42,000 by December 2019.

The global investment firm highlighted six key factors that support its profit outlook:

1) The rupee is no longer overvalued, 2) Start of a new investment cycle, 3) Risk appetite is coming back, 4) Return of pricing power in 2020, 5) Stronger GDP growth outlook, and 6) India is coming out of its deepest and longest earnings recession, which has taken profit share in GDP to its all-time lows.

"The best way to play an upcoming earnings cycle would be to buy domestic cyclicals – both consumer and industrials – and financials, including banks, select non-bank financials and real estate."

Accordingly, it is overweight on these sectors. And underweight global sectors such as technology, pharmaceuticals and global materials.

In domestic consumer cyclicals, its favourites are autos, hotels, airlines and cement.

"Pricing power is returning with limited capacity addition over the past few years as demand improves. With the one-time shocks induced by currency replacement and implementation of GST behind, we think headline growth should accelerate over the coming quarters. Both the Central Bank and the government appear to be more growth-oriented, especially given that headline inflation is under the RBI's target," it reasoned.

Morgan Stanley advises buying industrials as private capex cycle is expected to be good.

"As capacity utilisation climbs, signs of a nascent capex cycle should emerge after elections in May. Already industrials are showing improved order books thanks to widespread government capital spending."

Morgan Stanley also believes that credit growth is likely to accelerate, so large banks with deposit franchises are enjoying improved pricing power.

For real estate, it expects demand to strengthen, driving earnings of the companies in the sector.

However, there are some risks, highlighted by the brokerage, that can hamper the estimated earnings growth — politics (if the Indian electorate delivers a fragmented verdict), higher real rates (which could be a problem for profits), too much discipline in one go would be bad for profits, and globally adverse terms of trade and growth.