Fiscal discipline, pace of Fed taper key to market stability ahead of election
Feb 02 2014
The recent RBI policy announcement was not something that the market was looking for. The apex bank clearly gave more importance to inflation than growth. This was in line with the Urjit Patel committee suggestion on accountability of central bank towards inflation. How can we interpret the policy review? Does the policy clear RBI’s stance on what would spur growth? What should investors holding interest rate-sensitive stocks do?
The core CPI inched up in December even as headline inflation fell sharply because of fall in food prices (mainly vegetable prices), core inflation has, however, remained sticky. Any signs of rise in core inflation will remain a source of discomfort for RBI and gain importance in policy ahead.
RBI is of the view that if inflation comes down on a sustained basis, then growth will return, as the purchasing power increases. Hence RBI has set the core inflation ex-food and fuel prices as target for rate decision. Going forward, core inflation is expected to be steady, and hence, the rate will stabilise at this level. Simultaneously RBI ensures enough liquidity in the system by way of periodical OMO and fixed period repo so that there is no tightening in the short-term rates. Hence, by and large, the interest rate hike will not affect rate sensitive stocks much, since there is a consensus among the market participants that the rate hike cycle is nearly over.
We have seen many state governments looking to cut power tariffs. Some other populist measures are also under consideration. This includes raising the cap on subsidised cylinder to 12. Can we expect the year ahead to be challenging? How is the market expected to react to such announcements, if any?
With election round the corner, such types of deviations are expected. As long as the fiscal discipline is maintained by meeting the fiscal deficit target, the impact of such measures will be minimal. And given the stability in crude prices and currency, and the benign commodity prices, the fiscal situation will remain under control. The expectation of the implementation of GST immediately after the new govt takes over gives hope for the increase in revenue generation. The expected push in infrastructure development by the new government is also expected to lead to higher growth in the GDP.
We are in the midst of the earnings season and there have been some hits and misses. Based on your assessment, which sectors and frontline stocks are expected to see re-rating, going forward? Any sectorwise turnaround expected?
The results so far are by and large on the expected lines. The software sector continues to show robust growth on the back of recovery in the US economy and stability in the euro region. The telecom sector is also showing signs of revival. The entertainment sector is showing good growth. The above three sectors are not majorly affected by the rate cycle also. Even though there is de-growth in the automobiles sector, the two wheeler and passenger cars segments are better placed to show good results. Other sectors may underperform the market in the short term.
However, we expect a stable and strong government post-election will drive the market as a whole to a higher level and we expect all sectors to participate in the rally.
How you read the US Federal Reserve’s policy review? What would be its implication on emerging economy currencies as well as on equities market? Can we see rupee tumbling to another low similar to August 2013? The government would take decision on lowering import duties on gold? Do you think it is feasible?
Again the US Fed policy was data-driven. The first round of tapering didn’t affect our financial market much. Rather FIIs have put in more money in debt and equity segment post tapering. However, the flow into the emerging market as a whole has reduced. The happenings in Argentina and Turkey and the upheaval in Thailand have made allocation to Indian market higher, leading to increased inflows and the effect on our currency is nearly zero. The recent rate action by RBI also helped rupee to remain stable.
The government may not reduce the duty on gold significantly till current account deficit comes within the manageable limit for a sustained period.
Can we expect some buying happening ahead of general elections? We have seen market rallying ahead of 2009 general election. Even in the 2004 elections, in which UPA I overthrew the NDA government, the market posted handsome returns before the general election.
If the opinion polls are to be believed and the trend continues, then the market will rally strongly closer to election. Already, the market has tested the all-time high thrice in the past six months. The recovery in the American economy, benign commodity prices, the downward trend in the CPI inflation figures the outperformance of index heavyweights except banking. All point to a breakout in the market before election and we may see a new high if the Fed continues on a smooth tapering by small amounts.
Market men have been bullish on export-oriented sectors, including IT and pharmaceuticals. However, there are fears that valuations on these sectors will soon turn rich. There may already be some stocks, which hold expensive valuations. Can you identify those stocks from the mentioned sectors that one can buy/avoid at present?
The drivers for these two sectors are the recovery in the economies of the overseas market and the rupee depreciation from the levels of 50 to 60. We need to accept the rupee will continue to be in the range of 60-64, given the current account deficit and the growing energy demand. However, the recovery in the American economy and euro zone has just started and it is expected to continue for a longer time. Hence, growth in this sector will continue to be robust.
However, the prices of these stocks have rallied to a large extent reflecting the growth and also due the under owning of these stocks by leading institutional investors. Still, stocks in these sectors will outperform the market in the next few quarters. We feel any meaningful short-term correction in these stocks should be used to enter these stocks. We also take comfort in remaining with the industry leaders in these stocks, which will give safety and liquidity to the portfolio.
Market benchmarks hit their all-time highs last month. However, a majority of stocks on exchanges are still lagging. Can we see some buying in second rung stocks ahead of general election? If yes, will it be wise to take risk and participate in these stocks?
Market rallied so far on the back of IT and pharma. The real economy is still reeling under pain. This is indicated by the IIP growth figures of around 1 per cent. GDP growth is largely driven by agriculture and services sector. Hence, many of the stocks are still lagging. The main drag is the banking sector with huge increase in the NPA.
Hence, any meaningful and sustained rally in these stocks will happen only when a turnaround happens in the economy as a whole. These developments may happen only in the first quarter of 2014-15. Long-term investors can take positions in these sectors of real economy slowly over the next three months so that they can get handsome returns in the next 12 months. Again, we would prefer to be with the industry leader in these sectors. The benefit to the second rung players will take longer time to materialise.
What were the investment themes LIC Nomura was playing in 2013 and what has changed in 2014?
The major focus of the investment theme in 2013 was to give the investors as many products to benefit the higher rate of interest by launching many fixed maturity plans (FMPs) and interval fund and capital protection oriented funds. We were fairly successful in achieving the objective by raising a fair amount of AUM under these schemes. Also, we have improved our performance in equity schemes to a large extent to be comparable to industry standards. We were also successful in increasing our AUM to above Rs 10,000 crore.
In 2014, we will continue to focus on the above theme, with more emphasis on increasing our AUM under equity since the equity market is poised for a breakout in the near future. We will also push duration products in the debt market. Based on our expectation, the rate cycle may turn downwards. We plan to launch many more capital protection oriented funds.
If you were given Rs 100, where would you put this money in (equities, gold, debt)? Can you elaborate the rationale behind your decision?
The answer to this question differs between different categories of investors. A risk averse investor will put his money only in gold and debt. A young and risk appetite investor will have highest exposure in equities. A pensioner should go mainly into the debt product with minimal investment in equities. Hence, we suggest each investor should analyse their requirement and their age profile to select the right combination with the help of a mutual fund financial adviser. We feel every investor should have exposure in all asset classes according to their risk appetite.
Lastly, how do you look at the Chinese slowdown? How much could it hurt commodity prices? Asian markets have been dancing to the tune of Chinese manufacturing? Do Indian investors need to worry?
There is a talk of Chinese slowdown, but the data so far do not suggest any serious slowdown. However, the strong Chinese government with huge forex reserves will be able to overcome this slowdown smoothly. There may be short term aberrations. The problem is severe in other countries like Argentina, Thailand and Turkey.