'Quantitative tightening' bad for equities, says Morgan Stanley

Move to take a toll on equity and bond markets

Scaling back its Sensex target, foreign brokerage Morgan Stanley has said that the RBI’s move to squeeze rupee liquidity– quantitative tightening – will take its toll on equity and bond markets. 

“We reset our year-end base case for the BSE Sensex to 21500 (from 23097) on the back of this. Our bull case also falls to 23000 (from 28137 – given the change in earnings and rise in cost of capital) though our bear case is unchanged at 17918.

Our probability-weighted Sensex target for 2013 is now 21084 (versus 23069 earlier) representing upside of 5 per cent,” said a report by the brokerage firm authored by Ridham Desai, Sheetal Rathi and Utkarsh Khandelwal.

On Monday, RBI, in order to lower the rupee liquidity in the system, announced that it would cap the liquidity adjustment facility to Rs 75,000 crore from Wednesday. As a result of that, the marginal standing facility rate has been raised by 200 basis points to 10.25 basis points. 

This led to sharp reactions in the equity and debt market on Tuesday. The equity markets fell by about one per cent. The BSE Sensex was trading at 19831, while the NSE Nifty was trading at 5954.

Bond yields on the benchmark 10 year government securities shot up by as much as 50 basis points to trade over 8 per cent on Tuesday. 

Further, the US-based brokerage firm has also downgraded the earnings growth estimates for the fiscal. “Capex appears to be slowing all over again, and growth bears downside risk threatening any recovery in corporate earnings. We were expecting earnings growth to rise to 15% by the quarter-ended Mar-14; it is now likely to be low double digit by the end of Mar-14,”said the report.

The firm has also reduced the banking sector exposure in its portfolio and has increased the consumer staples exposure. “We are taking down our banks overweight by 200 bps and adding it to consumer staples. We remain cautious on SOE banks and turn negative on wholesale banks. We are removing IDFC from our Focus List and adding ITC to it,” the report said.