As we take stock of the situation on the ground after a barrage of corporate results and policy announcements earlier this week, there are not many positive takeaways. On the whole, the fundamentals have only deteriorated.
Dr Reddy, as expected, was in full battle cry on July 29. The governor tightened the nuts further and brought both the CRR and Repo rate to 9 per cent. This takes the policy measures back to the 1999-2000 vintage. The moves came as a surprise to the markets.
With inflation now coming in at 11.98 per cent, the worries remain elevated. The RBI will not be comfortable till the inflation rate falls below 5 per cent. That is a long haul and probably would need more doses of the bitter prescription. Knowing Dr Reddy’s single-minded devotion, one can expect the tightening to continue. Unfortunately, his tenure comes to an end this September and we could have a new face on Mint Street.
While corporate India’s sales have continued to rise by about 40 per cent, the rise in profits has been only 12 per cent. Higher raw material prices have resulted in lower profits. Some agricultural commodities as well as metals have shed some weight, but it is not an established trend as yet. On a YoY basis, even in the next quarter, margins would continue to be under pressure.
Taking a cue from the RBI, banks have raised their lending rates and corporates should see most pressure coming from this head. As interest rates rise, asset quality deteriorates and the chances of default increase. Banks and interest rate-sensitive sectors like autos and real estate should get adversely impacted.
The biggest trigger for the real estate sector in the last few years has come from IT and IT-enabled services, which has seen the creation of new campuses. The demand from the sector accounts for something like 75 per cent of the commercial space.
More From This Section
But after seeing a 55 per cent increase in recruitment in 2006, the hiring slipped to 17 per cent in 2007 and is now almost flat in 2008. Unless the real estate firms want to set up their own IT shops and sell their inventory, it will be a slow painful grind for the sector.
Across the globe, things still look grim for the financial sector. The National Australian Bank wrote down its book of CDOs to the tune of 90 per cent. That means 10 cents on a dollar. Merrill Lynch also had to resort to a fire sale of its risky home loan assets of $31 billion for just $6.82 billion. The going rate was 22 cents to a dollar. The implications of this for US financials is ominous. More banks would have to take similar steps.
Meanwhile, the passage of the housing bill has meant that distressed mortgages could get re-assistance. Under the plan, the Federal Housing Administration will guarantee $300 billion worth of mortgages if lenders first agree to reduce the principal to 90 per cent or less of the current value of the home. As financers would be unwilling to take such a large hit, the scheme may not take off for want of both parties agreeing to the proposal.
Two more banks went belly up in the US last week, bringing more pressure on the FDIC which guarantees bank deposits. The FDIC maintains a list of banks it suspects might go under. Currently there are 90 banks on that list. It was interesting to note that IndyMac, the second largest bank ever to fail last fortnight, was not on the FDIC list. So much for active credit tracking.
Meanwhile, the SEC has extended the validity of the modified short-sale rules on a select list of 19 stocks to August 12. History is replete with examples of how these measures don’t work in the long run. But in the short run, you can’t fight the government, whether it is the US or India.
Last week a prominent investment banker appeared on television to call the market bottom, something he wouldn’t do even if you put a gun to his head. If he has done that, it means IPOs from the government stable are soon going to be lined up.