Markets cheer monsoon forecast; analysts advise caution

True impact can only be gauged in the second half of CY16, analysts say. Global headwinds will also have a bearing, they add

From a closing level of 6,987 on February 29 when the government presented the Union Budget for FY17, the markets have gained ground steadily with the Nifty rallying over 800 points, or 12%, to reclaim 7,800 levels. This is the first time that the index has hit the 7,800 mark since January 06.

Government sticking to its earlier fiscal deficit target projection of 3.5% of GDP (gross domestic product) for FY17, interest rate cut by the Reserve Bank of India (RBI), fall in consumer price inflation (CPI) to a six-month low; and interest rate outlook by the US Federal Reserve for calendar year 2016 (CY16) at the global level are some of the factors that have aided sentiment.

The upbeat sentiment since the past few days, however, has been on account projection of a normal monsoon this year by Indian and foreign forecasters - Indian Metrological Department (IMD) and Skymet - after two consecutive years (2014 and 2015) of bad monsoons.

"The market rally had begun in anticipation of a normal monsoon. Also, there is an expectation that the direction for the IIP (index of industrial production) - that has been negative till now - will change. Inflation, too, has come down. All this has also brought back FIIs (foreign institutional investors) into the market," says U R Bhat, managing director, Dalton Capital Advisors.

While the markets have given a thumbs-up to the monsoon forecast, analysts say that it may be a little too early to rejoice the prediction as the real impact of a normal monsoon will only be visible in the second half of calendar year 2016 (CY16).

"Above-normal rains could support food grain output and lift agricultural incomes, acting as a tailwind to GDP growth. Both the spatial (geographical areas) and temporal (over time) rainfall distribution are as important. We find that the correlation between annual food grain production and rainfall is highest for the month of July. Hence, the true impact of rainfall on agriculture output will be known by mid-July, when the sowing season will be in full swing. Meanwhile, we do not expect normal rains to alter the food price inflation trajectory significantly," points out Sonal Varma, executive director and India Economist at Nomura in a co-authored report with Neha Saraf.

Bhat of Dalton also believes that there is more jubilation in the markets than what is warranted, as the impact will can only be ascertained later in the year.

"It is typical of the markets to overdo positive news. While the Nifty can hit 8,000 going ahead in the backdrop of this current sentiment and a few good early March quarter results of India Inc, I believe the markets will start correcting once the not-so-good results start flowing in, say by May-mid," he says.

While the domestic economic data has been positive, analysts also caution against the global headwinds, which have the potential to puncture the market rally.

Vaibhav Sanghavi, managing director, Ambit Investment Advisors, explains: "The market has been supported by FII flows, which is a result of global weakness in US dollar. As a result, money has found its way back into risk assets. The global central bankers have been successful in getting the dollar to weaken, and in turn, stabilise commodity prices. The domestic economic data, too, has been supportive. Till the time US dollar continues to remain weak and the expectation of a rate hike by the US Federal Reserve remain low, the global liquidity will keep markets buoyant. The overall market direction will continue to remain positive till the global liquidity tap remains open."