Rising Commodity Prices A Risk For 46% Of Nifty Market Cap: BofA Securities

Rising commodity prices amid a growing investor appetite for everything from oil to corn pose a risk for India’s stock market.

“Our bottom-up analysis suggests, 31 corporates, comprising 46% of the free-float weighted market cap within Nifty, are exposed to commodity risks. So far, companies haven’t seen the full impact as they had low-priced raw material inventories, but we see this as an imminent risk,” BofA Securities said in a report. The discretionary sector, it said, is most at risk, followed by materials, staples, energy and industrials. “Healthcare and utilities sectors should be able to pass on commodity cost pressures. See no impact for financials and IT services sectors.”

Raw materials, according to the report, comprise 57% of sales for the discretionary sector, followed by 36% of sales for materials, 31% for staples, 29% for energy, 28% for industrials, 27% for utilities and 22% of sales for the healthcare sectors.

Commodities have been rallying since June 2020 on account of a post-pandemic recovery, rising global liquidity, a weaker dollar and a decarbonisation push. That prompted Goldman Sachs and JPMorgan Chase to say that a supercycle—an extended period during which prices are well above their long-run trend—may have begun. Copper and tin prices hit their highest in nine years earlier in the week, while oil continued to trade at a 13-month high owing to shutdowns in the U.S. Goldman Sachs expects Brent crude to top $70 a barrel in the near term.

Steel, cement, crude, coal, copper, aluminium, iron ore, palm oil and caustic soda are the key commodities relevant for the Nifty companies, BofA said. “These commodities are up by up to 75% since June 2020. Despite this, markets have so far ignored commodity risk as gross margins for most Nifty stocks (ex-staples sector) in fact expanded during Q3 FY21.”

Inventories, typically between 17 and 85 days, have so far cushioned the impact of commodities price spurt, it said. These benefits, however, are now behind. “Consumer durables and auto firms announced price hikes in January 2021 and suggested a potential for further hikes. This may impact volume growth. Besides, most firms are pushing for cost curtailments to avert cost-push, but margin pressures cannot be ruled out.”

Besides commodities, BofA expects rising bond yields and potential localised lockdowns amid a surge in Covid-19 cases to affect markets. “With Nifty already at our year-end target of 15,000, the continuation of a broad-based market rally appears unlikely.”

Sector rotation, it said, can help generate returns. Among sectors BofA has an ‘overweight’ stance include industrials/materials and financials. It has shifted its marginal overweight stance on telecom and staples to ‘neutral weight’, while remaining ‘underweight’ on consumer discretionary, autos, IT and energy sectors.

The research firm sees potential for a multi-year capex cycle among Larsen & Toubro Ltd., Adani Ports & Special Economic Zone Ltd., Cummins India Ltd. and UltraTech Cement Ltd.. Within financials, it bets on HDFC Ltd., HDFC Bank, HDFC Life, ICICI Bank, Axis Bank and IndusInd Bank. The commodity risk makes BofA cautious on stocks like Asian Paints Ltd., Maruti Suzuki India Ltd. and Tata Motors Ltd.

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