Conditions turning conducive for capex acceleration: Nomura

MUMBAI: Nomura has made changes to its model portfolio by increasing the weight of construction and capital goods as also that of oil and gas stocks while reducing the weight of IT and reducing cash levels. The top picks of the securities firm are Maruti Suzuki, IVRCL, ONGC, Dr Reddy's Laboratories and Indiabulls Real Estate.

Nomura maintains its positive view on the market but recognises the return profile is now somewhat diminished following a close to 9% rise in the Sensex in September. The recent strong performance of Indian markets--the Sensex is up about 78% YTD and 18% since June 26, 2009--has come on the back of strong economic data, while the late revival of monsoons has erased a key short-term overhang, it says.

The investment firm is rolling forward its June 2010 Sensex target of 18,300 by three months and arrive at a new September 2010 target of 18,800, which provides about 11% potential upside from current levels. It sees an earlier-than expected revival of corporate capital expenditure amid a strong pick-up in demand and industrial growth in the economy. This is reflected in Nomura���s model portfolio by a move away from defensives. As corporate capex picks up, we expect the ensuing capital flows to drive the rupee higher. It has raised its exposure to construction and capital goods, and reduced the weight of IT stocks in its model portfolio.

The securities firm believes that conditions are turning conducive for an acceleration in capital expenditure by corporates. It sees 1) acceleration of demand in the economy; 2) dominant position of the infrastructure sector as the main contributor to overall capex; and 3) revival of fund-raising activity by corporates as signs of an earlier-than-expected revival in the capex cycle.

Half of the capex intentions in FY09 were accounted for by infrastructure, led by the power sector, which by itself accounted for about a third of total capex each in FY08 and FY09. Nomura expects this strong momentum in infrastructure capex to continue in FY10.

FY09 saw a significant drop in capacity utilisation, but it expects a rebound in key industries to lead to an appreciable rise in capacity utilisation, which, in turn, will induce firms to spend on fresh capex.

While bank credit expansion appears sluggish, momentum in loan growth picked up recently and has coincided with the spurt in industrial production. Meanwhile, corporates are actively raising funds through non-bank and external sources.

Nomura believes the other consequences of an improving capital expenditure cycle would be increasing capital inflows, with an attendant likely appreciation of the rupee.