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Where Are the markets headed?

Monday, August 13, 2012

Will P. C. Chidambaram who has again taken over as Finance Minister make any material difference to the ground realities? Manik Kumar Malakar spoke to a cross section of market leaders who believe that, while Chidambaram may be fully competent, the man is operating in an extremely difficult and challenging political and economic environment. So what lies ahead for the markets and the economy? There are no easy answers... the only positive for the markets is that; the negatives are being attended to.

After a slew of positive announcements and hard posturing the stock markets showed signs of revival over the past few weeks. The consensus was ‘welcome Chidambaram’. “Certainly the new fiscal measures proposed by Chidambaram will be a shot in the arm for the existing languishing economy,” says K Jayaraman-Research Associate-Bonanza Portfolio. 

“Yes, I appreciate the Finance Minister’s promise to act on the fiscal deficit and inflation, which will lead to reducing the fiscal deficit in the country if acted upon,” says Milan Bavishi, Head Research, Inventure Growth & Securities.

Jayaraman and Bavishi were speaking of the slew of measure that were unveiled at his first official comments on the roadmap for the economy. The measures included fiscal consolidation, price stability, high interest rates, boosting investments, reforms and a rise in capital flows to bring stability in the exchange rate.

“We think the Finance Minister has struck the right note with the investor community, with a focus on the key areas, such as fiscal consolidation, reinvigorating reforms and easing supply-side constraints by focusing on infrastructure,’ says Nomura Economist Sonal Varma in an analysis of the Finance Minister’s moves.

Experts are however cautious about many a slip between the cup and the lip. “So far, the Finance Minister has assured his intent on these fiscal measures.

However, one needs to wait and see whether the government ultimately succeeds in implementing them,” says G. Chokkalingam, Group CIO, Centrum Wealth Managers. He did however note that if they succeed, they would be a great boost to the economy and equity markets.

Before focusing on the equity markets, a peep into what are the biggest hurdles that the Minister will have to vault over in order. And, the first would be the fiscal deficit.

“No. The government is in no position to control the fiscal deficit unless it restores the investment climate,” emphasises Bavishi. Last week, the government stated that they planned to reduce fiscal deficit from 5.7% of GDP in 2011-12 to 5.1% in the current financial year. Fiscal deficit could be termed as the gap between expenditure and revenues. ‘I think that the target is difficult to achieve,” Bavishi continues. Our fiscal deficit is the product of massive fuel subsidies and similar sorts of populist spending.

“Targets on disinvestment could be delayed due to current market conditions,” says Jayaraman of some of the challenges that may be out of Chidambaram’s control. Also the rupee depreciation against dollar is another cause of concern which is increasing the net import bills substantially.

And even time-wise the government will have to wait. “Significant improvement on the fiscal deficit front can happen, in our view, only from FY 2014 onwards,” says Chokkalingam. This is because the reversal of both the interest rate cycle and the exchange rate are crucial for improving corporate earnings as well as reducing the subsidy bill on imported crude oil and fertilizers.

The other genie that Chidambaram will have to tame will be inflation; the bugbear of the common man. Experts differ on this point. “Due to poor monsoons, global crude oil prices, the impact of the rupee depreciation, inflation will hardly be tamed,” says Bavishi. The globally weak economic scenario will not really help in curbing inflation either.

Any initiative to tame inflation is a gradual and slow process. “Chidambaram has expressed that an increase in supply-side will be addressed immediately to tame inflation. Again this is a long term process, but a step in right direction,” says Jayaraman.

“Higher inflation is largely driven by higher prices of both food items and crude oil, while manufacturing inflation is subdued,” says Chokkalingam. While manufacturing inflation is expected to remain subdued due to severe growth slowdown, according to inputs from Centrum, oil prices are also expected to remain quite weak as the global economy is also correcting significantly.

So what are the positives and negatives that are going to be Chidambaram’s allies or enemies going forward?

The slowdown in the Western Economies while impacting India’s exports would also benefit India by moderating commodity prices substantially. “Any possibility of the present monsoon failing beyond 20% deficit or again failing next year would be a major risk factor for the Indian economy,’ notes Chokkalingam.

Crude oil prices could shoot up if there are global anxieties for any reason. That in turn could harm India. “The rupee depreciation against the dollar will increase trade deficit due to higher imports,’ says Jayaraman.

There is however some good news for Chidambaram from the point of view of India being an attractive destination for investments.

“Certainly India is a growth story for the next few years,” says Jayaraman of Bonanza. There are blips in between raising alarm and anxiety on continuity and our pace of growth. “India is already out of gear in the last two quarters at least and that should be more than made up immediately by strong economic reforms and policy initiatives of the government,” he continues.

“Certainly – India’s demand story still remain intact,” says Chokkalingam of Centrum. Even now, corporate revenues are growing close to 20% year-on-year. What has impacted Indian corporate is interest costs and steep fall in exchange rate of the Indian Rupee. The “Domestic manufacturing sector is quite sensitive to interest rate cycles; once the cycle reverses the manufacturing sector will also bounce back. Further, rarely India’s growth slowdown lasted for more than two years in a row,” he opines.

Bavishi of Inventure is more cautious. “India’s lackluster growth and other factors have downgraded the Indian economy to junk status,” he says. “We should take several measures to kick-start the economy like allowing FDI in retail and aviation, fixing regulatory issues, curbing inflation etc. to boost the confidence of investors in the Indian Economy,” says Bavishi.

“Overall, we view the Finance Minister’s statements as positive and a promise that decision-making is set to accelerate. However, it is too early to rejoice. The government now has to walk the talk,” says Varma of Nomura.

Bottom-line; the only positive for the markets are that the negatives are being attended too. Meaning that; while the downside risks are limited, the scope for an upside increases...

Market  triggers...
“The market is waiting for major trigger in terms of the finance minister’s move to usher in the reform process and also in terms of accelerating investments in the country,” says G. Chokkalingam, Group CIO, Centrum Wealth Managers. Otherwise there is a major risk of downgrades by the global rating agencies.

“The market looks at the body language of the various policies of the government,” says K Jayaraman-Research Associate-Bonanza Portfolio. This helps improve the sentiment and attitude of people to risk and take bold investment initiatives which spur growth. “Various initiatives particularly the committee on GAAR and review of retrospective tax is a major step in the right direction for the equity market. Foreign investments are bound to come with stable and transparent tax laws and regulatory matters,” Jayaraman continues.

“The government’s decision to bring back P. Chidambaram as a Finance Minister is being seen in the markets as a positive move,” says Milan Bavishi, Head Research, Inventure Growth.

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