Will markets revive in 2009?
After being battered in 2008, the global financial system is likely to
begin recovering in 2009. In all probability, the Indian markets will
continue to be under pressure in the first half of calendar year (CY)
2009, but could begin inching up in the second half. However, don t
expect a rapid rebound as many negatives continue to dog the markets.
The global slowdown The US economy is not out of the woods yet. The
government s $700 billion relief package will provide liquidity that
will enable companies to survive temporarily. For instance, the three
automobile giants have received a relief package of $17 billion, which
will last them till March. But the larger question is whether their
fortunes will improve thereafter. While the US is looking at a 1-1.5
per cent negative growth this year, Germany is talking of a negative 3
per cent growth. In the UK, the banking plan is under stress and the
government might come out with a second bailout package. In the US the
central bank has already reduced the Fed funds rate to zero, thereby
exhausting the option of further cuts. Now the government will engage
in quantitative easing or printing currency: so far it has printed $650
billion. These steps are keeping the system afloat. But it will take a
lot of time before the credit markets sort themselves out. In the past
few years, an inflationary bubble had been created based on debt. Now
with de-leveraging, the size of economies is shrinking. Companies had
created capacities based on the larger-world scenario. The adjustment
process will take some time. The US is still debating how deep the
recession is going to be and what its full impact will be. In this
risk-averse mode, when people are investing in US treasury bonds giving
zero per cent returns, they will not invest in emerging markets like
India, says Aseem Dhru, chief executive officer and managing director,
HDFC Securities. Risk aversion and FII flows The Indian markets saw
foreign institutional investors (FIIs) pull out $13.4 billion in 2008
against a cumulative inflow of $44.5 billion over the past four years.
Unless FIIs return in strength, the markets cannot rise on the strength
of investments by retail investors and domestic financial institutions
alone. Fund managers are hopeful that FII inflows might resume in the
latter part of 2009, especially from pension funds and long-only mutual
funds. Says Sivasubramanian KN, senior portfolio manager-equity,
Franklin Templeton Mutual Fund: Slow growth in leading developed
economies means that economies that rely on domestic demand and are
growing fast offer better investment opportunities and have a better
chance of attracting new capital. Amitabh Chakraborty, president,
Religare Securities is optimistic. We are seeing risk appetite
increasing. Against the outflow of $13.4 billion in 2008, we would
expect net $5 billion inflow in 2009, that is in effect a $19 billion
positive swing, he says. Weak corporate results With demand slowing
down and credit flows to corporates getting squeezed, corporate
earnings are likely to be affected in Q3 and Q4 FY09. We may see sales
decline, both year-on-year and sequentially. We may also see a
depression in margins due to the high commodity prices of the past, and
rise in interest costs. If you keep oil companies out of the picture,
other companies are going to report pressure on all fronts in Q3 and
Q4, says Dhru. Adds Anup Bagchi, executive director, ICICI (ICICIBANK.NS : 471.25 0)
Securities: Earlier, we had a high-cost, high-revenue economy. It will
now adjust to a low-cost low-revenue economy. That adjustment pain is
what we are seeing in the markets at present. Gradually inventories
will get adjusted, companies will engage in cost-cutting, and so on.
Ballooning fiscal deficit The combined fiscal deficit for the centre
and the states in FY09 is likely to be about 10 per cent of GDP.
Increasing fiscal deficit could result in increased government
borrowing, which would crowd out corporate borrowing. This is not a
concern currently, but will become so once corporates have recovered
sufficiently and need more funds. Impact of politics The national
elections this year and the nature of the government that is formed
will determine the pace of reforms over the next five years. For
enhancing productivity, labour, pension and other reforms need to be
pursued. This will be possible only if the new central government is
both strong and positively predisposed towards reforms. A rise in geo
political tensions in the Middle East or in the subcontinent is yet
another risk that the markets will have to contend with. Against the
negatives mentioned above, several positives also exist: High growth
rate When the entire world is struggling with a recession, India and
China are dealing with only a slowdown. When the US was growing at 2
per cent, India was growing at nine per cent - a 7 percentage points
differential. Now when the US is expected to grow at minus 2 per cent,
the Indian economy is expected to grow at 5 per cent (FY10). In the
near-term, GDP growth is expected to moderate due to a cyclical
step-down from the high growth rates of recent years. However, India
will still be among the fastest growing economies in the world, says
Siva. Rising income levels and higher infrastructure spending have been
the backbone of India s shift to a higher growth trajectory. Domestic
consumption and investment constituted 67.8 per cent and 31.9 per cent
of GDP growth in FY08. Gross exports stood at 13 per cent of GDP in
FY08, while net exports to GDP ratio were negative. Thus, essentially,
India remains an economy driven by domestic demand that is less likely
to be affected by the global trade cycle. Weakening dollar America s
current account deficit and weak economy dictate that the dollar is
likely to weaken. Last year the world was seeking safety, so people
converted from other currencies to the dollar. Moreover, the US had
about $5 trillion of investment abroad. A large part of these funds
went back to the US as hedge funds de-leveraged and mutual funds tried
to meet redemption pressures. That caused the dollar to appreciate last
year. But those events have already played. Earlier, almost 70 per cent
of all foreign currency reserves of nations were kept in the US dollar;
now that number is down to 65 per cent. The euro and the yen are
emerging as alternate currencies. So the demand for the dollar is
expected to ebb. As the dollar weakens, non-dollar denominated assets
will become attractive. With interest rates in the US at zero, US
investors will seek investment opportunities outside. This could lead
to the beginning of the dollar carry trade. Falling interest rates
Inflationary pressures are now a thing of the past with WPI inflation
expected to fall as low as 1 per cent by May. Crude prices are expected
to remain in $30-50 per barrel range this year. The sharp fall in
global crude oil prices and commodities is a positive from the point of
view of current account and fiscal balance. Low commodity prices are
also giving more room for manoeuvre to the central bank. After Friday s
rate cuts (repo: 5.5 per cent; reverse repo: 4 per cent; and CRR: 5 per
cent), we have moved to a low interest-rate regime. Pressure on
corporate margins is expected to ease going forward as borrowing costs
come down and the sharp decline in commodity and energy prices reduces
input costs, says Siva. Low interest rates could well spark off a
revival of the markets and the economy. A low interest-rate scenario is
a precondition for a rising stock market, says Dhru. Today, despite
having liquidity, banks are wary about lending to corporates for fear
of loans going bad. Says Bagchi: My estimate is that by Q1FY10 credit
will begin to flow. And as loans become available to end customers at
lower interest rates, the cycle will begin to turn. Attractive
valuations Unlike January 2008, the Indian market is attractively
valued today. Today our market capitalisation to GDP ratio is about
0.66 whereas it had crossed one in January 2008. The Indian stock
markets are trading at about eight times FY10 earnings. So the market
has value. Says Siva: India has now gone from being one of the most
expensive stock markets in Asia to being one of the cheapest. Thus, the
markets have already priced in the negative scenario. As the world
realises that India is better positioned than a lot of other economies,
interest is bound to return to the Indian markets. It is expected that
the Indian markets could be among the first to bounce back once the
global situation stabilises. For investors this is a good time to begin
accumulating stocks through systematic purchases.
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