T N Ninan: 3 in a row?

WEEKEND RUMINATIONS

Many punters will be disappointed that the Sensex stopped short of the 6,000 mark on Thursday, the last day of trading in the old year (going by the traditional trading calendar).

Topping 6,000 would have nicely crowned a year that saw the country's most widely tracked share index climb by about 20 per cent, on top of a near-record performance in the previous year.

In these two years, the surging index has accurately signalled the change of mood and reality in Indian business, from one of despondency to renewed optimism. The question is, what should one expect in the year that has just begun?

Ask most fund managers in Mumbai and they forecast a third year of buoyancy. The specific predictions vary, but few now talk of anything less than a 7,000 Sensex level a year from now.

The most important driver in their view is the fact that there is a sustained inflow of investment funds from overseas, chiefly because India seems to have gained favour as a story once again.

This trend will be sustained till new asset allocations begin to get made, and so far there is no reason to believe that the inflow of funds will stop.

That is partly because there is no shortage of good Indian corporate stories, Indian investors are getting warmed up, the macro-economic signals are mostly positive, and at a price-earning multiple of 15.3 in today's context, the Sensex is at a rational and defensible level, with some headroom for the optimists. Although the recent upswing has been in mid-cap stocks, the old rule remains true that a rising tide lifts all boats.

Of course, fund managers are not the best readers of tea leaves, and any cautious person will list the many things that can go wrong. Since the focus has to be on international developments (which influence the FIIs), the oil market could get tighter and prices shoot up further, derailing economies and sending inflation spiralling out of control. The wave of American spending that has caused a global liquidity overhang bigger than anyone can remember, and which in turn has caused share indices in most Asian countries to climb by double-digit levels this past year, could begin to end.

The provocation could be Alan Greenspan of the US Fed hiking interest rates in fairly quick succession, sparking perhaps an end to the housing bubble in the US and Britain, and forcing people to quickly re-assess portfolios and fund allocations, mortgage and EMI commitments""all of which could dampen consumer spending.

China could find itself caught up in the problems of managing a slowdown, and the global commodity buying binge could end, upsetting commodity producers.

Among the non-economic factors, the "war on terror" could go badly wrong, or some new part of troubled West Asia may blow up in everyone's face""and send shockwaves through many markets. Other accidents too are waiting to happen, and some of them presumably will.

The short point is that today's benign, liquidity-driven global business environment may not last, and while no one knows how exactly it will end, it has to become part of the overall calculus.

On the other hand, it should be re-assuring that the dollar has managed to adjust and drift lower against key international currencies in recent days. This reduces the risk of a large one-time dollar shock, should the world's appetite for greenbacks suddenly disappear.

On the domestic front, the big danger is that the sudden tightening of liquidity will cause interest rates to spurt sharply. Once bond yields have adjusted, equities could begin to look less attractive to risk-averse savers, who so far have been denied attractive fixed-income instruments in an environment of rising inflation.

Against this, the big question mark will be the next Budget. Manmohan Singh has said more than once in the last month that the Budget's focus will be on wide-ranging tax reform, and not just tariff reform. If the end product that is unveiled in February should enthuse market players, it could set off a new wave of optimism, even a bull run.

In short, there are dangers that can be seen quite clearly, sharp rocks in the water that can puncture your boat. But it remains a time of optimism for most companies, and therefore of opportunity for investors.