Markets Weekahead – India story looks better; global headwinds could weigh

October 26, 2014

The truncated Diwali week saw the Nifty closing at 8,014, recovering from a “breakdown” scare and ending about 3 percent higher to welcome the new Hindu calendar year – Samvat 2071.

The markets were aided by the performance of the BJP in assembly elections and a slew of reforms, which laid to rest the growing sense of inaction on the policy front. These included the long-awaited diesel deregulation, gas pricing and labour reforms, and a roadmap on coal sector reforms.

Development was the key poll plank for the BJP and the state election results will give the central government renewed confidence and impetus to push forward its reform agenda.

The global environment has also been kind. Lower commodity prices, especially crude oil, have truly been a blessing for the government. If oil prices had hovered above $110, there was a bleak chance of either the diesel deregulation or any hope of reining in the fiscal deficit.

Being an “Internal Consumption” economy, India would benefit from lower input prices in a stable currency scenario. With China stuttering, India would look a shade better as the domestic industrial climate turns brighter. The government’s renewed mandate in state elections will ensure fast-tracking of reforms, which in turn could give the economy a much-awaited kick-start.

The moot question, however, will be the performance of the markets based on the hypothesis of the economy getting back on track. Although I am bullish from a longer term perspective, I still believe that the correction I was expecting is not yet complete.

The expected uptick in the economy due to the Modi factor has been discounted by the markets in the last few months with a 30+ percent appreciation, and if the government hadn’t moved on reforms even after 150 days in the saddle, market participants would have been sorely disappointed.

While the global environment is favourable for the Indian economy, FIIs, who are the prime movers of the Indian stock market, may react differently in the short term due to pressures at home. With a probable rate hike in the U.S. and slowdown in the euro zone and China, FIIs in the interim could prefer to be in a “risk-off” zone. Despite increased domestic inflows, the mismatch could lead to a correction, which below the recent support zone of 7,800-7,850 could lead to a sell-off.

The high expectation faced by the government is the other risk factor for markets. The pace of reforms in the past week could set a new benchmark for delivery going ahead. The big test lies ahead on smooth implementation of GST and the new coal block allocation policy. The industry would also look for higher FDI in insurance. One also needs to see the follow-up action on policy measures already taken. The government has cleared defence projects worth 800 billion rupees, mostly to be sourced domestically, but defense FDI of 49 percent is yet to draw visible interest from foreign majors.

On the macro data front, inflation has been benign and could continue to be so till November when the base effect wears out. The RBI too may not oblige the finance minister’s wish for a rate cut. IIP data is yet to show signs of a sustained recovery.

The festive season sales seemed to have got a huge sentiment boost. Hero MotoCorp sold about 150,000 units in a single day and there are similar stories across various consumer segments. The next few weeks would be important for a confirmation of the continued buoyant sentiments.

Company results have been mixed so far and I don’t expect any major positive surprises from companies announcing their earnings in the latter half of the season. The Nifty will stay in a broad band of 7,800-8,200 with an immediate resistance at around 8,050 levels. One should look to selectively accumulate in sectors such as infrastructure, capital goods, cement, power and metals.

The outperforming sectors such as pharma, IT and auto ancillaries could take a breather due to international headwinds. I would advise maintaining a healthy cash ratio to utilise opportunities during a sharper correction.

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