Top sectors this year – Will they continue their performance next year?

This year too was full of surprises for the stock market. As we are in the last week of this year, the Nifty 50 index has delivered a return of around 3% for the year. While the Nifty returns are lower than expectations, some sectors were surprised by delivering high returns this year while sectors that ran up sharply in the last two years have fared poorly this year.
The surprise sector of this year was the PSU banking space which delivered 52.7% returns after having delivered 50% returns the previous year. The other outperforming sector was the FMCG sector whose index gained 19.7% as compared to 8.7% last year.

PSU Banking Sector

Among the PSU banks, the top seven are listed in the graph below. While two of them have given more than 100% returns over the last year, three others have given more than 50% returns this year.

PSU banks have historically been known for indiscriminate lending, losses booked every year on their balance sheets due to welfare schemes by central and state governments, which led to significant non-performance and losses for several years. The situation changed when the central government took the decision to launch Asset Quality Review (AQR) in April 2015 to unearth hidden non-performing assets (NPAs).

While the NPAs of PSBs were Rs 2.17 lakh crore on March 31, 2014, they surged to Rs 8.96 lakh crore on March 31, 2018, mainly due to indiscriminate lending. This was the first major step to clean up and strengthen the PSB segment of the Indian banking sector. The result of this cleansing exercise has been visible for the past few quarters.
During the pandemic (FY21 and FY22), these banks took measures to ensure that their NPAs were under control. As normalcy returned in Q1FY23, the lending of these banks also saw a jump. The combined effect of lower NPAs and growth in credit affected the bottom lines of these banks, with many of them posting their highest-ever profits in Q2FY23. As a result, the stock prices of seven PSU banks soared more than 50% since January this year.

In Q2FY23, the largest PSU bank, SBI, saw a 74% jump in its net profit, while it was 89% for Canara Bank at Rs 2,525 crore, 145% for UCO Bank at Rs 504 crore, 58.7% for Bank of Baroda at Rs 3,312.42 crore and 12% for Indian Bank at Rs 1,225 crore.
Post the Q2FY23 results, Union Finance Minister Nirmala Sitharaman tweeted, “The continuous efforts of our govt for reducing the NPAs & further strengthening the health of PSBs are now showing tangible results. All 12 PSBs declared a net profit of Rs 25,685 crore in Q2FY23 and Rs 40,991 cr in H1FY23, up by 50% and 31.6% respectively (YoY).”

SBI’s net NPA fell below 1% at 0.80% in Q2FY23, which was 5.73% in FY19. In Q2FY23, the net NPA of Canara Bank was down to 2.19%, as compared to 7.48% in FY19. Other banks also saw a sharp decline in NPAs. The net NPA of Indian Bank reduced by 176 bps to 1.50% in Q2FY23 from 3.26% in the same period in the previous year.
PSU banks have been around for a few decades, and Indian banking has seen remarkable changes with rising competition from private sector banks. During the past two decades, private banks led the banking sector in technology adoption, the introduction of customer-oriented products, and digital initiatives. Most PSU banks have now caught up on technology, another reason why they have given returns much ahead of the private banks this year.

FMCG Sector

The FMG sector was another outperforming sector this year. This sector winner was led by Varun Beverages which saw more than 100% gains this year, followed by ITC with 50.4% and Britannia with 21.9% gains respectively.

Throughout the year, FMCG companies continued to face cost pressures despite a fall in commodity prices. Except for palm oil, most other key raw materials like soda ash, milk, barley, and wheat remained volatile and elevated. The depreciating rupee amid high inflation has also impacted the input margin pressures for the sector.
High commodity prices have hampered FMCG players over the past few quarters. These rising prices led to food inflation and forced customers to cut down on discretionary spending. The impact of inflation has been stronger in rural markets. However, many companies believe that the cost of raw materials will start to fall in Q3FY23 and demand will improve.

“Going forward, we expect the quantum of inflation to moderate on account of high inflation in the base. While current demand remains weak, the festive season, near-normal monsoon, good harvest, and minimum support price increases should enable rural markets to recover soon.” Said Mohit Malhotra, CEO and Managing Director of Dabur India. Most FMCG companies saw their revenue rise in Q2FY23, mostly led by price hikes. Growth driven by price hikes continued as demand remained lukewarm due to high inflation. It has also restricted meaningful volume growth for a few quarters.

The demand growth for premium products continued to outperform the mass products category as inflation hit the middle-class and lower-income customers’ discretionary spending harder. Urban demand growth still surpasses rural demand growth as the effects of inflationary pressures are more pronounced in the rural market. Besides price hikes, the premium products segment and the urban market also aided revenue growth for most companies.

Conclusion

The PSU banking sector was surprised this year bettering their fundamentals as well as delivering investor returns. The demand for lending to has seen healthy growth which worked to the advantage of these banks. For the next year, not all of these banks may be able to match this year’s performance. Only those who continue to lower their NPAs and those who adapt technology faster will be able to sustain their performance at these elevated levels. Any slowdown in lending can lead to underperformance next year.
The FMCG sector was among the better performers this year. This sector saw fluctuating levels in raw material prices as well as inflation causing compression in margins. Stability in raw material prices and a pickup in demand from rural areas can make the sector continue outperformance next year also. The strategy of premium products forming a larger component can also aid performance next year. For this sector, a lot is dependent on how raw material prices behave throughout the year.

ABOUT THE AUTHOR

Ketan Sonalkar (SEBI Rgn No INA000011255

Ketan Sonalkar is a certified SEBI registered investment advisor and head of research at Univest. He is one of the finest financial trainers, with a track record of having trained more than 2000 people in offline and online models. He serves as a consultant advisor to leading fintech and financial data firms. He has over 15 years of working experience in the finance field. He runs Advisory Services for Direct Equities and Personal Finance Transformation.

Note – This channel is for educational and training purpose only & any stock mentioned here should not be taken as a tip/recommendation/advice

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