 "Revival is still patchy")
One of the positive inputs for sentiment in the last fortnight came from Morgan Stanley's (MS) upgrade of India. MS advocated going overweight on India for emerging market (EM) investors. Among the multiple reasons it gave was that Indian equity has relatively attractive valuations compared to its peer EM. Another was relatively higher dividend yields compared to other EMs. According to MS, this signals optimism about growth. The third reason was that India was low-beta compared to the Morgan Stanley Emerging Market Index.
Apart from these reasons, MS also saw positives in terms of an improving macroeconomic environment for India. This is reinforced by the latest GDP (gross domestic product) estimates of 7.9 per cent growth in the March 2016 quarter. The advisory also believes earnings would grow through 2016-17. This would contrast with other EMs where EPS (earnings per share) is expected to contract in the current financial year. It doesn't take an astute observer to note that most of these reasons are comparative. India looks like a good bet compared to other EMs. It's true that the comparatives - lower valuation, higher dividend yield, better EPS growth - do justify the advice to go 'overweight'. Brazil, South Africa, Russia, etc. are certainly in much more trouble. So, the investor exposed across multiple EMs should be reviewing allocations and pulling money out of other EMs and parking more money in India.
The low-beta point is somewhat technical but interesting. MS expects other EM equity markets to go south, with negative earnings perspectives. Under those circumstances, a low-beta market like India will be less hard-hit. If the correlation between other EMs and India drops, it would also be useful for India investors at least for so long as the bear market lasts.
But the question remains: of what use is this advice to a retail India investor who is by definition, highly overweight in India and holds no exposure to other EMs? Rather than looking at comparative values, such an investor needs to look at absolutes. Are earnings trending up? There are signs it could be so. Banks, especially public-sector ones, have taken massive losses this financial year as they hiked provisioning. That distorts results at one level. Once banks are taken into account, profits have fallen by over 15 per cent year-on-year for a broad sample of companies.
However, ex-banks and ex-energy results have been better. Most sectors have registered some profits. There have been significant gains in infotech, and in consumer staples and consumer discretionary groups. If we discount outliers such as Vedanta-Cairn (which logged massive losses), mining and metals have also done reasonably well. Cement has seen volume growth though profits have declined. Private investment is still quite low and the government spending pattern, as outlined in the last Budget, will be more directed towards the agricultural sector.
Banking is likely to continue generating losses for at least a couple of quarters, and possibly for the entire 2016-17 financial year. That will be a drag but it is possible that other sectors will pick up substantially. A generalised revival of economic activity will also help banking to recover some bad loans.
However, in absolute terms, valuations remain quite high. The surge in the second half of May has pushed index valuations into dangerous territory. In Jan-March 2015, when the Nifty and Sensex were headed for all-time highs, the major indices traded at PEs of 22-plus. Right now, the indices are about 10 per cent off their all-time peaks. But the PE ratio is still at around 22-plus. It's hard to justify buying into the Indian market simply on the basis of absolute valuations.
The major utility of the MS advisory lies in pointing out the comparative edge for India. It may even have worked well since FIIs trading patterns have changed, with net equity buying after the advisory was released. But it should not really influence local investors to buy heavily, unless they are looking to piggy-back on FII buying.
Assuming that the investor is already holding substantial exposure to Indian equity, the Q4 results should encourage only a gradual increase of exposure. The revival is still patchy. Growth will remain heavily dependent on consumption demand in the absence of strong investment and much of that anticipated growth has already been factored into stock prices by the post-Budget rally.
Apart from these reasons, MS also saw positives in terms of an improving macroeconomic environment for India. This is reinforced by the latest GDP (gross domestic product) estimates of 7.9 per cent growth in the March 2016 quarter. The advisory also believes earnings would grow through 2016-17. This would contrast with other EMs where EPS (earnings per share) is expected to contract in the current financial year. It doesn't take an astute observer to note that most of these reasons are comparative. India looks like a good bet compared to other EMs. It's true that the comparatives - lower valuation, higher dividend yield, better EPS growth - do justify the advice to go 'overweight'. Brazil, South Africa, Russia, etc. are certainly in much more trouble. So, the investor exposed across multiple EMs should be reviewing allocations and pulling money out of other EMs and parking more money in India.
The low-beta point is somewhat technical but interesting. MS expects other EM equity markets to go south, with negative earnings perspectives. Under those circumstances, a low-beta market like India will be less hard-hit. If the correlation between other EMs and India drops, it would also be useful for India investors at least for so long as the bear market lasts.
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However, ex-banks and ex-energy results have been better. Most sectors have registered some profits. There have been significant gains in infotech, and in consumer staples and consumer discretionary groups. If we discount outliers such as Vedanta-Cairn (which logged massive losses), mining and metals have also done reasonably well. Cement has seen volume growth though profits have declined. Private investment is still quite low and the government spending pattern, as outlined in the last Budget, will be more directed towards the agricultural sector.
Banking is likely to continue generating losses for at least a couple of quarters, and possibly for the entire 2016-17 financial year. That will be a drag but it is possible that other sectors will pick up substantially. A generalised revival of economic activity will also help banking to recover some bad loans.
However, in absolute terms, valuations remain quite high. The surge in the second half of May has pushed index valuations into dangerous territory. In Jan-March 2015, when the Nifty and Sensex were headed for all-time highs, the major indices traded at PEs of 22-plus. Right now, the indices are about 10 per cent off their all-time peaks. But the PE ratio is still at around 22-plus. It's hard to justify buying into the Indian market simply on the basis of absolute valuations.
The major utility of the MS advisory lies in pointing out the comparative edge for India. It may even have worked well since FIIs trading patterns have changed, with net equity buying after the advisory was released. But it should not really influence local investors to buy heavily, unless they are looking to piggy-back on FII buying.
Assuming that the investor is already holding substantial exposure to Indian equity, the Q4 results should encourage only a gradual increase of exposure. The revival is still patchy. Growth will remain heavily dependent on consumption demand in the absence of strong investment and much of that anticipated growth has already been factored into stock prices by the post-Budget rally.