Demon’s long shadow

Recovery from disruption depends on the policy response, impact of GST and other follow-up anti-graft measures

Demon’s long shadow
Demonetisation, which struck a rising market like lightning, has crimped the outlook for the equity market. Analysts, though still grappling with unfolding events, have scaled down one-year Nifty target to 7,500-8,000 points from close to 9,000 projected earlier.

Other events like the rupee weakening to 70 a dollar or lower and GST implementation from April would also cast their shadows on corporate earnings and the equity market.

Though perceived as a long-term positive, demonetisation will prove a negative event for the stock market in the medium-term, with currency disruptions badly hitting sales and revenues of a large swathe of Indian Inc.

The market is roughly down 5 per cent after currencies of Rs 500 and Rs 1,000 were scrapped from the midnight of Nov. 8.

Analysts do not foresee normalcy in the currency situation before six months, and believe the dislocation in the economy could take even longer to recover.

Though domestic consumption-focused firms have been hurt the most since the demonetisation, analysts believe consumer staples would recover fast when the cash crunch eases. However, the impact on banks and the auto sector could last longer.

As the government’s big reform has led to disruptions all around, analysts are still busy estimating the demonetisation impact on urban and rural demand through channel checks. Reports on the demonetisation impact are still interim and estimates for sales of goods and services across sectors vary widely.

Benchmark Sensex and Nifty 50 have dipped 4.93 per cent and 5.34 per cent since November 9.

As for the big picture, brokerages and rating agencies expect GDP growth in this fiscal (FY17) to moderate to 6 per cent to 6.9 per cent, though some even peg it as low as 4.7 per cent from the pre-demonetisation estimates of 7.7 per cent to 8.1 per cent. The GDP grew 7.3 per cent in the second quarter of this fiscal.

India Ratings & Research has revised its gross domestic product (GDP) growth forecast for FY17 to 6.8 per cent, down 100 basis points from its earlier projection of 7.8 per cent.

In the long-term, demonetisation, coupled with the government’s resolve to promote the digital platform for transactions, will increase the share of the formal sector in the economy and expand the tax base, said Sunil Sinha, principal economist, India Ratings & Research.

Romit Fernandes, analyst, HDFC Securities, in a report, said, “Before demonetisation, the economy performed robustly with a steady improvement in the quality of growth, highlighted by the acceleration in nominal GDP, but in the light of the paradigm policy shift caused by demonetisation, going ahead, it will stifle consumption growth and indirect tax collections (service tax) of the central government will stumble. The deluge of deposits would unclog the blocked channels of financial intermediation and provide a fillip for investments in the long run, however the near-term looks uncertain and unfavourable for credit fuelled capital investments. Exports will look up due to the favourable base and moderate fall in INR.”

Analysts expect the rupee to weaken to 70 a dollar or even lower with hardening global rates and strengthening US dollar.

“With weaker domestic growth, stronger USD, hardening global rates and significantly lower spread on Indian rates, there is a fair possibility of INR/USD breaching 70 levels; our new target is 70-72 (68-70 earlier),” analysts from Emkay Global Financial Services said.

The gains to exports-led firms and sectors could come with a lag and may not balm the short-term pains.

Most analysts see demonetisation leaving a cascading effect all around.

Dhananjay Sinha and Kruti Shah, analysts, institutional research at Emkay Global Financial Services, said, “The demonetisation shock is expected to nip the ephemeral recovery seen recently, as it will have a meaningful impact on demand, corporate performance, labour market and a ripple effect on various variables. The cumulative impact will depend on the time taken to satiate the currency note demand and on the quantum extinguished.”

“Expectation of even a modest earnings growth (5-10 per cent) for FY17 has been dashed, with the modest 2 per cent average in H1FY17 and the prospect of a decline in H2FY17 due to the demonetisation shock. We think Nifty EPS growth for FY17E may be just flat,” Sinha and Shah said, noting, “Demonetisa-tion-induced erosion of growth in India can be a near-term challenge for Indian markets—both equity and fixed income. We see further correction in the Nifty to the 7,500-8,000 range over the next 12 months.”

UBS Secur-ities India’s Gautam Chhaochharia, head of India research, and Sanjena Dadawala, analyst, said, “There is disruption but the extent varies across sectors/segments. There seems to be a significant decline (50-60 per cent) in sales for two-wheeler dealers, though enquiry and sales levels are improving now. The decline for cars appears lower at 30 per cent but still material. Commercial vehicle financiers and operators indicate freight activity is down significantly on long haul routes.”

“We have been expecting earnings cuts and demonetisation is a further drag near-term. It makes FY18/19 outlook more uncertain. What is a given in our view: (i) Near-term economic disruption which is negative for consumer discretionary; (ii) medium-term supportive of credit cycle which is positive for financials and (iii) in the long term formalisation of economy which is positive for consumer staples/discretionary and broader market.”

The UBS report says foreign investors see adverse impacts of demonetisation withering away soon.

“Our investor discussions suggest that they expect the impact to be short-lived and many view it as a big long-term positive.”

Cement sales and construction activity have taken a hit post-monetisation, but prescription drugs sales were not impacted as old currencies were allowed to be used.

“Average daily cement volumes dropped by 35-60 per cent of usual– retail demand, as it has a fairly high proportion of cash dealings. Construction activity in the urban real estate sector has also slowed down, especially in the case of small-to-medium-sized builders,” the UBS analysts said.

What remains uncertain for analysts assessing demonetisation is whether the ill-effects prolong beyond three to six months. It all depends on the policy response and its nature, scale and timing; the impact of GST implementation; and other follow-up anti-graft measures.


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