India, one of the very few Emerging Markets’ economies to have weathered the currency crisis well, is on the path to recovery. The macro adjustment process, along with a weaker external environment and lackluster agriculture / rural growth, has meant that recovery of growth in 2015 was weaker than expected.
The macro narrative over CY15 was one of softening inflation and weak growth; difficult credit cycle; and earnings expectations had to be consistently cut. Into CY16, we expect a modest recovery, driven by better margins– aided by lower input and interest costs –and subsequently a volume recovery. Government led investment spending and urban consumption are likely to lead with private sector investments and rural consumption lagging.
The government remains constrained on reforms requiring legislative action, as they lack numbers in the upper house of parliament. Progress on this will be a pre-requisite for valuations to expand.
Discretionary consumer spending has been holding up better, with passenger car sales improving. The weak rainfall trend in the monsoon season will keep agriculture growth weak, with repercussions for rural consumption.
What should one hope for in India?
The macro economic situation is improving. Inflation is declining and so are interest rates. However, a lot of the inflation reduction is imported in the form of lower crude oil prices. An errant monsoon and tepid industrial production are the major reasons to be worried about in the near future. The lack of any catalysts to the current scenario may prompt investors to conclude that there may be no upside left in the markets in the interim.
However, we would like to note:
- It is darkest before dawn.
- Not enough has been done on the reforms front.
- The current political scenario does not inspire confidence as the ruling party finds itself embattled with an increasingly argumentative opposition threatening to put the reform agenda on the back burner.
- State elections have emboldened weak political parties to unite in the face of a common agenda, giving the government a run for its money.
- The above factors are disappointing and can delay key reforms awaiting passage such as the Land Reform Bill and the GST Bill.
These are serious concerns and the sentiment toward equities in general is muted. The longer term outlook for the Indian economy remains robust. As the market corrects over the next few months, the risk-reward situation is likely to turn in the favour of Indian equities, as opportunities for alternative investments turn unattractive and foreign funds find India an increasingly attractive destination given very limited options elsewhere globally.
The near term outlook remains pretty challenging. But, in periods of fear when people are disinclined to invest in equity, those very times, in hindsight, offer the best opportunities to invest. In euphoric periods, the market would have already discounted the opportunity in the prices and very little incremental return potential remains.
The current market cannot be termed inexpensive or cheap; valuations appear dear only due to the non-deliverance of earnings. Once earnings growth resumes, the market may look pretty attractive on a 2-3 year basis. Equity investing is always for the longer term and today’s scenario reflects a good time to invest in this asset class.
Where do we find the opportunity now?
- The first incipient signs of recovery are showing up in some sectors of the economy.
- Auto sales- commercial as well as passenger vehicles -are seeing a sharp uptick.
- Interest rates are headed lower and will further sustain the momentum as liquidity in the system remains comfortable.
- Banks are a long way from starting to lend aggressively as they are constrained for lack of capital. Private banks and NBFCs are much better positioned for these opportunities especially in areas of personal finance, housing and auto finance.
- Infrastructure spending, while not in full flow, is showing up in the orders placed for road construction, certain urban infrastructure projects and in water management. Companies aligned to these activities are in line for good times driven by these factors.
- Export oriented businesses are likely to see some stability in earnings given the weakness in the INR as well as the prospect of a strong dollar outlook for the next year. Volumes in most industries continue to look up, given the de-bottlenecking of freight corridors and enablement of transport of commodities. Various industries crippled by the mining ban will also see a revival following the re-bidding process for mines set to recommence.
The imperative to kick start the economy also places some pressure on the government to announce a pro-growth budget early 2016. We believe that certain select sectors, as mentioned above, and those individual companies that are able to exploit the current environment, may provide significant opportunity to investors.
To conclude
We emphasise an asset allocation approach going forward. An optimal mix of assets can provide a smooth investment return over the interim; however, more intrepid investors are likely to garner attractive returns if they venture to sail in the equity market.
The views expressed are personal and for general information and do not necessarily reflect the views of the organization.
The above column has been taken from the online publication of India Markets Observer. To see the outlook for various asset classes, perspectives on the industry, investing insights, and the entire list of contributors, click here.
