Expert Zone
Straight from the Specialists
‘Sense of disbelief’ in markets to extend current rally
(The views expressed in this column are the author’s own and do not represent those of Reuters)
As they say, it is always darkest before the dawn. Equity markets seem to be the finest proponents of this axiom. They have a habit of surprising investors. What we have seen so far in 2012 sums it up pretty well.
Rewind to December and it seemed that markets might fall into an abyss — falling rupee, rising inflation, tight liquidity, sovereign debt concerns in Europe, FII outflows, rising fiscal deficit and widening current account deficit made a perfect recipe for disaster. Fast forward to the present and we have seen the rupee recover by 10 pct from its lows, inflation down to 7.5 pct, RBI supporting the rupee and infusing liquidity by way of OMOs and a CRR cut, European Central Bank (ECB) on its way to infuse huge chunks of liquidity in the banking system, possibility of U.S. Fed keeping rates low through 2014, FIIs resuming their inflows in Indian equities and current account deficit being expected to narrow due to an import duty hike on gold imports.
Equity markets are up more than 15 pct in 2012 in a rally which at first looked like a short covering rally, but later, due to its sheer ferocity, has made some people think it may be the start of a more sustainable upward move.
Before commenting on whether the rally will continue, let us see what caused this rally. Was it fundamentals? Or was it liquidity?
Prima facie it seems like a liquidity driven rally that started on December 21, the day after the European Central Bank (ECB) lent 489 billion Euros to banks by way of LTRO (Long Term Refinancing Operations) for three years, to buy sovereign debt of troubled EU nations.
Today, markets have built in expectations of another trillion euros worth of liquidity infusion in the next tranche of the LTRO due on February 29. In terms of fundamentals, there have been some signs of hope both on the global as well as domestic front. Growth seems to have surprisingly revived in India as seen from the surge in HSBC PMI indexes in Dec 2011 and Jan 2012, whereas inflation has shown early signs of moderation. Even the RBI monetary policy stance seems to have turned pro-growth.
Stock market under stress
(The views expressed in this column are the author’s own and do not represent those of Reuters)
The first big jolt to the market after the 2008 crisis had come last August when FIIs disinvested 95 billion rupees worth of equity and moved into liquid assets. That brought the Sensex down by 1500 points and pulled the dollar up by 4 rupees.
The FIIs wanted to reduce their risk which had been heightened by the EU crisis. It was not Greece alone but even Italy, the third largest European economy, which was in danger of sovereign debt default. These governments could borrow only at interest rates over 7 pct, about 2 pct more than the average rate for EU countries.
Undoubtedly, the prospects for the Economic and Monetary Union (EMU) were grim and there could have been sheer chaos had a weak state like Greece or a strong state like Germany left the Union. France and Germany did finally persuade other members to accept fiscal consolidation and establish a permanent bailout fund. An early agreement failed mainly because of the veto exercised by Britain. Hence, a new treaty will have to be signed which is not likely before March.
The promise of a new treaty was not enough to create confidence among investors in the solidarity of the EU or the European banking system. For that reason the recovery of world markets did not come through. The BSE Sensex hardly changed its mood and, with the added fear created by the 5 pct fall in industrial production, declined further.
There were triggers that could have kicked up stock prices. A good opportunity for market recovery was lost when the government almost withdrew the earlier amendment to facilitate FDI in retail. With a fractured parliament and undependable allies, it is unlikely that any major reform will come through before the elections in Uttar Pradesh.
The next budget can be a trigger but is unlikely to be one. For, the kind of pressure under which it is at present requires the finance minister to seek approval to borrow another 550 billion rupees, mainly to fund subsidies. As such, it may be difficult to even maintain the fiscal deficit at 4.6 pct as provided in the last budget.
2012 – Boom or Doom?
(The views expressed in this column are the author’s own and do not represent those of Reuters)
What a year 2011 has been. Except certain commodities such as gold and oil, every other asset class has been hit. With Sensex down more than 20 pct YTD, 10 year g-sec yields up by almost 1 pct and rupee down by almost 14 pct against the dollar, it has been a poor year for investors. This was caused by a bout of strong global risk aversion led by the European sovereign debt crisis, high inflation in emerging markets and consequent monetary tightening, and lack of proper policy action in India. The only salvation came from commodities such as oil (up almost 26 pct in rupee terms) and gold (up almost 38 pct in rupee terms).
Are any of these likely to continue haunting us in 2012? Or will there be a new set of problems? Is the worst already behind us? That’s the million dollar question on everybody’s mind. The irony is few of us, if at all, have the right answers. Still based on evidence available today, one can hazard a guess.
What does 2012 have in store for the investor? There is no doubt that growth has slowed down. The poor industrial growth numbers over the last quarter and the latest second quarter real GDP growth of 6.9 pct (manufacturing growth was a mere 2.7 pct whereas mining output contracted) drive the point home.
Is it going to change in a hurry? Seems improbable. After all, more than a year of continuous rate hikes should have taken its toll on growth. And to top it up, inflation is yet to subside at least on a year on year basis, even though that is not the best way to look at it. The fall in the rupee hasn’t helped either, exacerbating the already high trade deficit and inflation by making imports costlier.
But aren’t we pricing it all in? Aren’t equity valuations cheap and yields already near 2008 highs? True. But stocks can get cheaper still? Markets can remain irrational longer than you can remain solvent. Remember, we are still looking at Sensex valuations with respect to FY13 earnings which price in a 16-17 pct growth over FY12. Whereas FY12 earnings growth is already being revised down to 10 pct, expected FY13 growth can be downgraded further if macro indicators worsen. Also, the Sensex earnings yield (basis forward PE of 13-13.5 as per FY13 earnings estimate) at approx 7.5 pct is still short (approx 0.8 pct) of the one year bond yield. Historically, equity markets have come out of a bear phase once Sensex earnings yields have been higher than bond yields by more than approx 50 pct i.e. the ratio between Sensex forward earnings yield and bond yields has been around 1.5. On this basis, valuations seem to be in a fair zone rather than being screaming cheap. For Sensex yields to become 1.5 times of bond yields today either the Sensex will have to be de-rated further or the bond yields will have to come down significantly. It is unlikely that either of these events happen in isolation. Rather a combination of both, i.e. a price or time correction in stocks coupled with the bond yields coming off significantly seems to be a more plausible scenario going ahead.
The initial part of the year 2012 (probably the first half) thus might continue to see high volatility as a result of the above. But as we move to the latter half of 2012, things should start improving. Bond yields are most likely to have come down quite some distance by that time (assuming that inflation moderates — month on month growth momentum in core WPI inflation is already showing signs of slowing down — and RBI starts cutting rates) and equities should be available at a real bargain by then. The second half of 2012 should thus be much better than the first.
Sensex: Key takeaways from 2011
(Nipun Mehta is an award-winning private banker with many years of experience across Asia. The views expressed in the column are his own and not those of Reuters)
About a year back in November, we were at the highest ever level of the Sensex with hopes of moving higher. A year hence, as we inch closer to the end of 2011, the Sensex has fallen more than 26 pct from its peak, and then recovered a bit.
In the interim, there have been bouts of volatility, long periods of dull range-bound movements, and a lot of events and learnings from the domestic and international markets.
The biggest learning in the last year has been for the present generation of investors who would not have seen such a long period of stock market underperformance and for whom the definition of long-term has changed. For those who started investing after 2003, the last three years have been an excruciating period yielding seriously negative returns. Most of these portfolios are still a few years away from returning to green. The key lesson is, short-term is out and long-term is in, with long-term to be defined as more than three years.
The other key learning during 2011 has been for the Indian corporate sector, where some hardly ever hedged their forex exposure. It was largely perceived by these companies that the rupee would remain stable and the Reserve Bank of India (RBI) would intervene whenever there were sudden bouts of currency inflows or outflows.
This prevented several mid-sized companies from taking a forex cover with the objective of saving costs. After losing significant sums during 2011 on account of foreign currency fluctuations, risk management for forex has all of a sudden become the buzzword for companies that have foreign currency exposure. The corporate sector is unlikely to take the currency fluctuations for granted any longer.
It is gradually becoming apparent that after a few years of excellent domestic economic growth, even when the global economy was struggling, the growth momentum for an 8 pct (or thereabouts) GDP growth for the country cannot be taken for granted any more. Estimates for closer to 7 pct GDP growth for 2011-12 have already been announced by rating agencies. The decision paralysis and governance deficit within the government is at an unanticipated new low and threatens to pull down GDP for 2011-12 to 6.5 pct levels. The greater threat, however, is for the Indian corporate sector — starting to look overseas for expansion rather than investing in India, a far cry from the ‘India shining’ story that used to pull large investments from other countries into India.
Indian stocks: Paradise for value investors
(The views expressed in this column are the author’s own and do not represent those of Reuters)
The BSE Sensex romance with the 16,000 level seems to have been rekindled, with the Sensex closing below it on August 26, after a gap of more than 18 months during which it touched a high of 21,109 (missing the all-time high of 21,207 by a whisker).
As is the case, when a key sentimental support level is broken, most experts on business TV channels (a strong contrarian indicator) started giving short calls on the market the moment 16,000 was broken. Why is the level so important? What does it mean for the near-term outlook for markets? What should the investors do now? These are some of the questions that must be roiling the mind of every equity investor in India.
For starters, the Sensex closing at 15,848 on Friday is the lowest weekly close after nearly two years. This means investors who had invested in index funds made only 1.66 pct p.a. on an average in the last two years (as on Aug 26). Those in diversified equity funds fared somewhat better getting 5.4 pct p.a. in large cap funds, 9.9 pct p.a. in mid-cap funds and 9.2 pct p.a. in flexi cap funds.
Though positive, these returns are dismal as compared to what is normally expected from equities. In real (inflation adjusted) terms, equities have hardly yielded anything as WPI inflation (and I am not even talking about CPI inflation) has averaged around 9 pct p.a. over this period.
Compare this with 31 pct p.a. from gold, more than 6 pct p.a. from money market and short-term debt funds, 6.75 pct from medium-term debt funds and 6-7 pct from long-term debt funds and one can see that equities have underperformed the other asset classes significantly. Isn’t it then time for stocks to start catching up with their long-term averages (theory of mean reversion)? After all, haven’t stocks proven over time they are the best when it comes to beating inflation and creating long-term wealth? Is it then time equities start outperforming other asset classes?
While the answer to the above questions is in the affirmative, this does not mean that stocks will start rising from tomorrow, as headwinds from global and domestic fronts continue to remain strong. A confluence of global and domestic concerns had led to this sharp fall in the first place and they are yet far from over.
Watch out for early signs of peaking inflation and slowing growth
(The views expressed in this column are the author’s own and do not represent those of Reuters)
Indian equities, after recovering smartly during much of 2009 and 2010, have again started exhibiting high volatility over the last six months. At a global level, this time it is emerging markets which are leading the downside in equities. Even among emerging markets, Indian stocks have looked weaker.
Macroeconomic headwinds in the form of high inflation, fiscal imprudence, corruption and lack of investment growth threaten to dent the premium that Indian markets enjoy over their emerging market peers.
Here’s a look at the various factors that can affect equities in the near future:
Global factors
With none of the headwinds that led to the global financial crisis in 2008 being addressed properly, problems that led to the biggest recession in the last eight decades are not yet behind us. The recovery in equity markets seen in 2009 and 2010 was more due to the flow of cheap money across the globe as a part of the RISK-ON trade. However, there are several issues today that we believe can be the RISK-OFF trade surfacing back, and this will not be good for risky asset classes such as equities and commodities. The following are some of the factors -
High inflation and rising interest rates in emerging markets An ultra-loose monetary policy in developed markets coupled with weakening currencies, particularly in the U.S., Europe and Japan, growing demand from rapidly industrialising nations such as India, China and Brazil coupled with production disruptions across the world have led to a sharp rise in commodity prices and hence inflation.
When will the stock market recover?
(The views expressed in this column are the author’s own and do not represent those of Reuters)
For nearly nine weeks now, the market has been entertaining the bears with the Sensex dropping 1,456 points. That was not a delayed reaction to the Budget. On the contrary, the market had responded well with a 9 pct jump in March. Obviously, there were other things that went wrong.
For one, inflation was taking its toll. Perhaps in two ways. First, the rise in the raw material prices, salaries, etc squeezed profit margins. For instance, in the quarter ending March, profit after tax (PAT) was up a mere 7 pct; in the previous quarter growth had crossed 20 pct. Surely, additional costs will be passed on and growth in profits will be regained. But the dismal balance sheets brought out by some of the important companies including banks like the State Bank of India knocked down the market.
Secondly, the RBI reacted strongly to inflation and increased the repo rate by 50 bps taking a more aggressive stance. Possibly the governor has gone beyond the recommendations of the technical committee on the assumption that stability is a precondition to healthy growth. That stance is likely to continue until inflation is keyed down to about 5 pct.
FIIs added to the problem. With lower profits, stocks looked overpriced. On April 6, when the prices had crossed 20 times the earnings, there was temptation on the part of the FIIs to sell in India and buy in other emerging markets. In May, FIIs disinvested to the extent of 1,612 crore rupees (up to 30th). In most of the South East Asian countries, even Australia and New Zealand, the P/E is around 14. A higher ratio in India was earlier justified because of the higher growth.
That justification no longer held because profits were slow to grow and the high rate of interest is bound to slow down the economy and industry. Even mutual funds lost the nerve and sold. Prices dropped to bring them in line with the PAT.
When will the market recover?
This is the time folks, out of gold bang into stocks. You will be the winner. A strong monsoon (pray to God, real hard) and all will be singing. Else you’d be better off holding the Gold. I say, sell GOLD, BUY STOCKs. Anybody agrees, huh v!!!
Value buying to emerge in key large caps
Selling pressure continued over fresh concerns of Europe’s sovereign debt crisis with derivative contract expiry providing the volatility. The market-wise rollovers were almost 83.2 percent as compared to 82.8 percent last month.
On the sectoral front, most of the rollovers were seen on the short side. Select long rolls were seen in pharma, OMCs and FMCG sector whereas sectors like infrastructure, banking, capital goods and technology saw short positions getting rolled in the month of June.
Index heavyweights Reliance Industries and ONGC remained in the limelight on reports that the subsidy share of upstream oil companies for FY12 will be restored to 33 percent from 38.5 percent in FY11.
PSU OMCs also edged higher on hopes of a fuel price hike. BHEL fell on FPO plans as market participants expected the FPO pricing to be at a discount to the ruling market price to attract investor interest in a choppy scenario. Similar stock behaviour was witnessed at the time of announcement of ONGC and SAIL FPOs. Hence, we expect a consolidation at lower levels in BHEL now — which could be a buying opportunity.
Fiscal 2011 results continued to provide stock momentum. Tata Motors fell after giving out a cautious outlook on the current macro-economic environment which could adversely impact demand for commercial vehicles with continuing concerns of high commodity prices and rising costs impacting its commercial vehicles division.
Overdependence on JLR too would result in lumpiness of earnings. Tata Steel and Coal India flared up on good March 2011 quarter results but we expect metal stocks to correct on our expectation of softening of metal prices especially steel and aluminium. For the coming week, key large cap results are ONGC, IOC, Oil India and Sun Pharma.
Value buying is expected to emerge as most of the negative news and earnings-related surprises have already been factored in the prices. Last week’s expected political fallout due to Kanimozhi too was misplaced.
Budget 2011: Good news for mutual fund industry?
(The views expressed in this column are the author’s own own and do not represent those of either Principal Pnb or Reuters)
When it comes to the mutual fund industry, the 2011-12 budget has good news and not so bad news.
Let’s first take up the good news.
In his budget speech, our Finance Minister has said “Currently, only FIIs and sub-accounts registered with the SEBI and NRIs are allowed to invest in mutual fund schemes. To liberalise the portfolio investment route, it has been decided to permit SEBI-registered Mutual Funds to accept subscriptions from foreign investors who meet KYC requirements for equity schemes. This would enable Indian Mutual Funds to have direct access to foreign investors and widen the class of foreign investors in Indian equity market.”
After being at the receiving end of rapid regulatory changes, these indeed point to better times, especially because overseas investors are expected to be mature and therefore longer term in their orientation especially considering that the long-term India growth story remains intact.
However, I would stop just short of popping the champagne because aspects like KYC, income tax and investor caps have yet to be unravelled.
Having said that, the industry should begin with obtaining approvals from overseas regulators so that it can exploit this very substantial opportunity.
