The volatility across India's financial markets in the past two months indicates a change in investor expectations. The mood remains broadly optimistic. But the expectations are more realistic. There were corrections after the Budget as investors expressed disappointment with the "gradualist" approach. Treasury yields rose, and the Sensex and the Nifty both fell by about 11 per cent. However, new buying emerged at Nifty 8,000 (Sensex 27,000) levels, indicating that the correction was triggered by reassessment, rather than abandonment. Things have indeed improved since Narendra Modi took charge, even if the improvements have not matched unrealistic expectations. There is promise of continuing improvement, assuming that inflation is tamed and the Reserve Bank of India continues to cut rates. But weak corporate earnings and gradually improving macro indicators make it evident that the turnaround will take more time. The chairperson of the State Bank of India (SBI), Arundhati Bhattacharya, says growth will visibly accelerate only in the January-March 2016 quarter. She is in a good position to judge since SBI has exposure across every segment of the economy. Other analysts concur with her assessment. Investors have readjusted time frames and earnings projections accordingly. Valuations have eased down. The Nifty and the Sensex are now trading at about 15-16 times their expected 2015-16 earnings.
A fair amount of "hot money" flowed out in April as foreign portfolio investors pulled out over $2.2 billion from equity and debt markets. Those exits were matched by rising domestic institutional investments, including large commitments by mutual funds. In April, mutual funds (MFs) bought Rs 7,600 crore of equity and Rs 20,000 crore of debt. Rising inflows via MFs is a healthy signal. A sizeable chunk of the MF corpus consists of household savings. It is good to see that Indian families are taking some exposure to financial instruments, even if they still seem to prefer gold. The trend of rising MF assets under management is a sign of growing middle-class confidence and should go hand in hand with stronger consumption in this fiscal year. The global situation also remains broadly favourable, with crude prices low and India slated to be an outperformer.
To be sure, the glass is only half-full. The investment cycle is showing no signs of revival yet. There is industrial over-capacity and part of the reason for low inflation is lack of demand. Banks are struggling to cope with sticky assets, since many infrastructure projects remain stalled. And foreign investor perceptions about the reformist credentials of the government have been vitiated by the minimum alternate tax demands, which have now been referred to the A P Shah panel. The government could do a great deal to improve international investor perception if it reined in the income tax department. In effect, the pursuit of Rs 600-odd crore (or less than $10 million) of retrospective tax demands (whatever the Shah panel may decide about the legal justification) has led to the foregoing of several billion dollars in potential investments. A resumption of foreign buying would ensure a rapid recovery of equity values. In turn, a buzzing stock market would aid in achieving the massive disinvestment target of Rs 69,500 crore.
The correction helped to temper euphoria. Investors now seem to be more pragmatic and prepared to hold for the long term. The entry of mutual funds in particular is a sign of returning middle-class confidence. It would behove the government to nudge investor confidence in the right direction, and embark on the disinvestment process as soon as it can.
