Indian equities have consistently underperformed since the start of the calendar year, compared to other emerging market peers. While high interest rates and sticky inflation are obvious deterrents for foreign investors, the policy paralysis that gripped the government after various scams started surfacing has rendered India even more unattractive. Except for three months, foreign institutional investors (FIIs) have been net sellers all through.
It was widely believed at the start of 2011-12 that a big trigger for the markets would be a reversal or pause in the interest rate cycle. As anticipated, the Sensex closed 315 points up on Tuesday, when the central bank signalled a pause. The index gained another 515 points up (three per cent) on Friday, but foreign investors are busy giving a sell call, as they don’t think this rally is sustainable.
Typically, there are three big triggers that markets react to positively. The first is a peaking of interest rates, which has clearly happened, if the Reserve Bank of India’s (RBI’s) observations on Tuesday are anything to go by. Liquidity is another big trigger. While foreign investors remain reticent, Indian banks are flush with funds, claim strategists. The third trigger is bottoming out of earnings, expected at the end of this earnings season. After the second quarter, fund managers believe the worst of earnings downgrades would be done. Corporate India’s earnings have hit a rock bottom and analysts believe the last two quarters will not see a further fall.
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MIXED BAG |
Compiled by BS Research Bureau
Credit Suisse feels an extended period of sub-trend growth is exactly what India requires to bring down inflation expectations. Over the next couple of quarters, as inflationary expectations are anchored, the investment cycle may see some revival. Though all ingredients of a decent rally seem in place, the conviction is missing. FIIs continue to sell Indian equities. The lack of FII appetite for Indian equities is apparent from the September quarter ownership data.
An analysis by Morgan Stanley shows holdings of FIIs in India’s top 75 companies fell by 40 bps quarter-on-quarter to 19.5 per cent. For the broad market, FII ownership fell 43 bps to 17.6 per cent. “The value of FII holdings of 1,200 companies at the end of September was $215 billion, down 21 per cent from June,” states the report. FIIs are overweight in three out of the 10 MSCI sectors, with financials in the lead position, followed by telecom and consumer discretionary.
Does this mean anything for Indian equities? Macquarie, which organised a roadshow of investors in Hong Kong recently, says the biggest concern among investors revolves around the worsening fiscal deficit. “India’s fiscal situation has deteriorated sharply since the credit crisis. For 2011-12, we expect India’s consolidated fiscal deficit (including off-budget items) to remain high at 8.6 per cent of GDP, in the wake of slowing revenue growth and lack of expenditure management by the government, compared to nine per cent of GDP in 2010-11 (excluding telecom licence and BWA collection).”
Apart from failing to curtail expenditure, the government is also not taking major policy-related decisions like power rates and diesel prices. As coal prices remain high, the power sector is reeling under lower realisations and high costs. Also, India is not benefiting from lower crude prices, as the rupee has depreciated. This makes it imperative for the government to take corrective measures, which may have an impact on inflation, FIIs feel.
