In the long term, equity market returns are linked to corporate profitability, which in turn is broadly linked to the nominal gross domestic product (GDP) growth.
We expect the economy to grow at an average nominal GDP growth rate of 12 per cent over the next 3-5 years. This will translate into 15 per cent plus return for Indian equity markets. However, we expect an upside to the forecast on account of the re-rating of the markets based on sustainable growth rates.
We recommend investors to stay neutral on equities at current valuations and invest via systematic investment plans to marginalise the impact of volatility on their portfolio.
Interest rates have hardened in recent times with the 10-year gilt yields moving from 5.10 per cent to 6.85 per cent essentially because inflation numbers have peaked of over 8 per cent in recent times. The RBI removed the overhand of liquidity by issuing more than Rs 50,000 crore worth of MSBs.
The shorter-term outlook on the debt continues to be volatile. The crude prices have gone above $54 a barrel and it is likely that the government may revise oil prices in mid October after the Maharashtra assembly election.
We also expect festival season credit demand to keep pressure on liquidity. The NTPC issue over subscription will concentrate liquidity with a few banks and that will put pressure on the short-term yield curve.
We also expect the RBI to hike repo rate in the forthcoming credit policy in the second half of October. All this short term negative will have an effect on the interest rate market.
Notwithstanding the short-term negatives, we are turning positive on the longer-term outlook. We think that inflation numbers will start coming down towards first half of FY 06.
We also expect domestic liquidity to strengthen in the first half of FY 06 with the maturity of Market Stabilisaton Bonds. There is also a likelihood that US interest rates may not move as high as expected as the weak economic data indicates.
The higher oil prices are acting as a tax on consumers and a speed breaker on the global growth. The central banks around the world may decide not to raise rates in an aggressive manner to control supply-side inflation.
Hence, we continue to expect higher volatility in the fixed-income market. However, in the longer term, the outlook may turn out to be positive.
We will recommend investors to create a mix portfolio between fixed and floating rate funds so that volatility doesn
