Over the last several months the stock markets were expecting big bang reforms from the government, but it was always evasive and for various reasons. The markets were also eagerly waiting for rate cuts from the Reserve Bank of India (RBI), but that too proved elusive time and again. In the meanwhile the monster called inflation continued to dominate and with less than anticipated monsoons, the economic outlook looked bleak. However, the week that went threw in a bonanza for the stock markets, both at local as well as global level. First the boost came from the European Central Bank (ECB), President Mario Draghi’s unlimited bond – buying plan to tackle the Euro zones debt crisis. It was expected that this move would bring back bond yields in troubled countries like Spain and Italy to sustainable levels.
Subsequently, a German Court approved the $1 trillion European Stability Mechanism.
Also the Federal Open Market Committee (FOMC) decided to extend its interest rate pledge into 2015 and launched a new and ‘open ended’ asset purchase program targeted at agency mortgage-backed securities (MBS), unsterilized (QE3 proper).
The Committee currently anticipates that exceptionally low levels for the federal funds rate are likely to be warranted at least through mid-2015. The pledge was not only extended, but also strengthened by the sentence that “the Committee expects that a highly accommodative stance of monetary policy will remain appropriate for a considerable time after the economic recovery strengthens".
The Fed will act as purchase agency for MBS at a pace of $40 billion per month, and continue so, “if the outlook for the labor market does not improve substantially". So it’s an open ended program, with a somewhat vague stopping criterion. The FOMC gave no explicit target for the unemployment rate below which it would terminate the purchase program. Unlike Operation Twist, the purchases of agency MBS will not be sterilized.
Operation Twist, the program to purchase longer-term US treasuries and sell an equal amount of short-term treasuries, also will continue through the end of the year, as announced in September. Together, these two asset purchase programs will increase the Fed’s holding of longer-term securities by about $85 billion per month through the end of the year. On the domestic front the last few weeks have witnessed a revival of monsoons, which could have a sobering effect on food inflation giving room for the RBI to consider a rate cut. The policy paralysis which was also instrumental in dampening investor sentiment has been welcomed with the government taking radical steps, on Friday last.
To begin with the long awaited diesel price hike was announced on Thursday. In a second major oil sector reform, after petrol decontrol of June 2010, the government capped subsidized domestic liquefied petroleum gas (LPG) for a consumer to six per year. Diesel prices were alsoincreased by Rs 5 per litre, while the excise duty on petrol was reduced by Rs 5.30 a litre to avoid a price increase. The market price for LPG, however, would be reviewed on a monthly basis.
Further the government has approved disinvestment in PSU’s – Nalco, MMTC, Oil India, Neyveli, and Hind Copper. It has also approved 49% FDI in aviation, 51% FDI in multi brand retail. FDI in power trading exchange and FDI in broadcasting services were also approved.
The union cabinet has already given approval for a stake sale in Bharat Heavy Electricals (BHEL) and Steel Authority of India (SAIL) and hopes to raise Rs 7000 crore or more than 20% of its disinvestment target. But with both these companies trading near their 52 week low, the disinvestment process is being postponed.
In fact the finance ministry was keen to raise Rs 30,000 crore this fiscal through the sale in state run companies to avoid overshooting the fiscal deficit target of 5.1% by a wide margin. However, as far as disinvestment is concerned the government has never succeeded in achieving its targets. In the year 2010-11 the government had set a disinvestment target of Rs 40,000 crore, but could garner an amount of Rs 22,144 crore. In 2011-12 the target was placed at Rs 40,000 crore, but the amount garnered was a mere Rs 13,894 crore. For the current year 2012-13 the target has been placed at Rs 30,000 crore, but no amount has been collected so far.
The news flows from Europe and the US have been positive. At the local level the proposed postponement of GAAR, the revival of monsoons, the diesel price hike, the policy reform in retail and aviation are all sentiment boosters. These actions could lead to lifting sentiment from a low to one of confidence.
The markets are now awaiting the decision of the RBI when it meets today. Any cut in rate will further brighten the sentiment and change the long term direction of the markets from negative to positive.
With the positive actions of the government the stock markets have been on a roll with the indices gaining around 4% last week. To a large extent short covering was responsible for the spurt in the markets and if a rate cut does materialize the markets could move up further and in case a rate cut does not materialize some selling could emerge, but these declines could be viewed as opportunities to invest in select large cap blue chip companies that could generate handsome returns over the next 12 months time.