If you were to ask me the two most important factors that would determine the level of stock prices a year from now, the answer would be pretty simple: the monsoons, and the state of the global IT industry.
Notice I didn't say the US economy, even though that is the main driver ofworld, and consequently Indian, export growth. As things stand at present, most pundits agree that the US economy is on the road to recovery.
The Fed has flooded the economy with liquidity, and lower interest rates have led to more borrowing by consumers, providing a cushion for the economy. The passing of Bush's tax cut bill by the Senate will further boost consumer spending.
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The debate here is twofold. One, there are pessimists who hold that the consumer is yet to feel the brunt of the layoffs. The stockmarket obviously doesn't believe in this interpretation of events. The second point rests on the exact impact of the increased consumer spending.
For example, surveys peg current capacity utilisation in US industry at a comparatively low 78.5 per cent, much below the average of the last three years. How much of an increase in consumer spending will be required to spur investment demand is anybody's guess.
Here in India, we are concerned mainly with the state of the IT industry. After all, even if US consumer demand were to result in increased home and auto sales, that would be of no consequence for our software companies.
Unfortunately, the bulk of the capacity addition in the last few years has been in information technology, and it'll take a while before all that excess capacity is worked through.
Under these circumstances, hoping for a quick solution to the slowdown in IT would be pie-in-the-sky. The slowdown in investment in telecom, for instance, will rob software providers of a big chunk of revenue.
For companies dependent upon local demand, however, it is the monsoons that hold the key to performance. The main problem has been a lack of local demand, reflected in the flat toplines of companies like Hindustan Lever.
Good monsoons will spur demand, and boost corporate earnings across the board (except in the capital goods sector). Bad monsoons, coming on top of last year's skewed rainfall, will badly hit companies, and you can kiss goodbye to the old economy companies for at least a year.
The news that the monsoons have already arrived in Kerala and Tamil Nadu or the forecast of normal monsoons by the Met department is no big deal, given the many uncertainties in the progress of the monsoons.
Recall that last year the monsoons not only arrived on time, but were also declared to be "normal." The crucial factor, however, depends on the distribution of rainfall, which was highly skewed last year inspite of an overall "normal" rating.
And since the effect of the monsoon will be known only by September, the best we can do is keep our fingers crossed. Company analysts would do well to start learning to analyse the monsoons.
This more-than-usual uncertainty in the "fundamentals" has been compounded by uncertainty created in the Indian markets. Now that the might of the local brokers has been broken in what was essentially a power struggle between the old order and powerful emerging forces in the Indian markets, and with the market crisis having scared off domestic investors, it is the foreign institutional investors who move the markets. Will they keep pumping in money into the market?
Will they ignore, as several fund managers believe they will, the reduction in India's weighting in the MSCI index? That's another source of uncertainty. And finally, among all the talk of whether futures and options will take off, we lose sight of the clampdown on funding for the markets.
Futures and options are fine, but will they work in the absence of a well-funded cash market? It's no accident that margin trading has developed in the Western markets.
There was a newspaper report the other day that pointed out that with the badlamarket in Kolkata having slipped into a coma, money was flowing into all sorts of other areas, ranging from real estate to small businesses.
In other words, liquidity has moved away from the stockmarket to other avenues. The behaviour of the market after July 2 is therefore another uncertainty, and going by precedence, it is unlikely to be a pleasant one.
Given these risks, there seems to be little upside to the markets at present. Does that mean the investor would be best advised to stay away from the market, till the picture becomes clearer? Broadly speaking, yes.
But there are plenty of opportunities even at this juncture. One of them, of course, is the spate of buybacks. Yet another lies in the candidates for privatisation, and the open offers that these will trigger.
And the third opportunity lies in merger and acquisition activity, which will continue to flourish as restructuring continues. As for the government, continuing with its disinvestment programme, possibly with a portion earmarked for small investors ( as was the case in the UK), will help revive interest in the markets.