Volatile but undecided markets, awaiting cues

January 8, 2012

(The views expressed in this column are the author’s own and do not represent those of Reuters)

Trading for the New Year began on a positive note after the government’s decision to allow foreign nationals to invest directly in the country’s listed companies and after data showed a sharp improvement in manufacturing activity in December.

Food inflation plunged into negative territory in the fourth week of December mainly due to base effect. However, selling pressure set in on deepening fears of the funding ability of the euro zone economies and banking sector. There is also a fear the results season could be a trigger for markets to correct further. However, the week with extended trading on Saturday ended on a flat note amid high volatility.

With an intent to control forex volatility and attract foreign capital inflows, foreign individuals who were previously restricted to investing in India’s equity market through mutual funds or other institutional channels are now allowed to invest directly. Although this will not result in immediate flows, it shows the government’s intent of further opening up our markets. Earlier, the Reserve Bank of India had relaxed the norms for External Commercial Borrowings (ECBs) and raised rates for NRI savings deposits.

The government seems to be making an effort to get its act right this year. After succumbing to political pressure on the retail FDI front, the government is soon expected to issue the notification allowing 100 pct foreign direct investment in single brand retail. With key state elections around the corner, the government seems to be creating a feel-good factor. Shares of organised retailers have already gained in anticipation. Investors wanting to take fresh bets may well wait for further clarity and signs of concrete action on the policy front.

For the coming week, investors will look out for cues from the December quarter results. There are negative expectations being built considering a slowing economy, higher raw material costs and higher interest costs. Also, companies having significant exposure to the dollar with regards to foreign currency debt or imports will likely face forex losses. Among major companies, IT major Infosys and HDFC will kick-start the results season on Thursday.

Lower billing days and planned maintenance shutdowns in U.S. and the UK would result in lower revenue growth of Indian IT companies in the third quarter of the current financial year. Despite headwinds in the markets, we believe Infosys, TCS, Wipro and HCL Tech would register 4 – 4.5 pct of volume growth sequentially. We expect 3.5 – 4 pct sequential dollar term revenue growth for Tier-I Indian IT companies. However, due to sharp depreciation of the rupee against the dollar, rupee revenue is expected to grow by 13 – 14 pct sequentially.

We expect a favourable exchange movement would boost operating margins by 250-300 bps sequentially across companies, but most of this seems to be discounted in the stock prices of the sector which has outperformed the broader markets in the last few months.

On the macro front, data on industrial production (IIP) for November is due on Thursday which could provide cues on the RBI’s likely policy stance at the third quarter policy review on January 24. We believe that RBI may refrain from a rate cut so soon, but could announce a CRR cut of 25 bps.

National politics could be a focus with expectations there could be a realignment of UPA allies as Mamata Banerjee issued a veiled threat to the Congress. There was also talk of the Ambani brothers coming together post the social meet last month and this resulted in most of the ADAG group stocks showing an uptick in the last two trading sessions.

On the international front, French President Nicolas Sarkozy will meet German Chancellor Angela Merkel in Berlin on Monday to set new rules to enforce budget discipline across the European Union.

Overall, volatility is expected to remain high and the Nifty may find it tough to break the 4850-4900 mark, which if broken would bring a sense of optimism in the markets. On the downside, if 4500 is broken, it could pave the way for an imminent 4200 in the near-term and this could be triggered by the results.

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