The Indian economy is likely to go through a political and structural shift in the next few months. It needs to expand spending ahead of elections but needs to keep its fiscal deficit and inflation expectations under control. How the government manages to balance the demands of economics and the reality of politics will eventually determine how the Indian markets pan out during the year, said Mayuresh Joshi, fund manager, Angel Broking, in an interview with Sangeetha G. Excerpts:
Can you evaluate the market movement since the beginning of March?
After crossing the 11,100 level in late January, the Nifty has corrected close to 1,000 points from the peak. Although the Nifty did bounce after touching a low of 10,150 on March 3, the subsequent bounce has been met with consistent selling. While the downward trend was triggered by the long-term capital gains (LTCG) tax announced in the budget, the structural problem began with the $2 billion PNB fiasco. The US-initiated trade war has depressed sentiments in March and the undertone of the market has shifted from “buy-on-rises” to “sell-on-dips”.
Will energy and financial stocks keep dominating the market movement?
While private banks and NBFCs are still preferred, the overhang over PSU banks has been quite heavy. No immediate respite for PSBs appears to be likely for now. On the energy front, some of the downstream oil companies are benefiting from improved GRMs and attractive dividend yields. But the market undertone appears to be cautious.
The market witnessed major selloffs by FIIs in February. What were the reasons? How do you see the FII fund flows into the Indian equity market?
For February, FII selling was to the tune of Rs 18,619 crore in equities, but DIIs bought to the tune of Rs 17,813 crore. The equity selloff by FIIs was largely driven by concerns over valuation and the FII preference for other Asian markets at this point of time. With the US Fed likely to hike rates 3-4 times during 2018 and the trade war threatening to spill over, FIIs may be cautious on investing in India. Also, with just a year to go for the general elections, the government may focus less on big-bang reforms. That means there may not be any immediate trigger for FIIs to buy in India.
Has Indian market become resilient to FII outflows and why?
While DFI inflows have quantitatively compensated for FII outflows, the impact of FIIs on the Indian market may still be outsized for two reasons. First, FIIs own a bulk of the liquid names, which have bigger weightage in the indices. Second, FII selling impacts the market sentiments and also negatively impacts the Indian rupee. This dual impact is the reason it will not be so easy for the Indian market to become resilient to FII flows. However, DFI flows have been largely instrumental in sustaining market levels from correcting too sharply.
How did the PNB fraud highlight the chinks in the banking armour?
The PNB fiasco does raise some serious questions over the actual level of NPAs of PSBs. The market reaction has been negative for two obvious reasons. First, for banks like PNB the provision of $2 billion will almost be half of its net worth. It also raises questions about similar practices in other PSBs. Second, the government will now have to commit substantially higher funds for the recapitalisation of banks than was originally anticipated. This is likely to have a negative impact on the government’s fiscal planning for the coming year. The PNB issue has certainly created a huge pall of uncertainty over PSB stocks.
Last week we saw RBI discontinuing letter of undertaking (LoU) and letter of comfort (LoC). What will be the impact of this on India Inc?
We need to remember a couple of points here. The discontinuation of LoU and LoC will be effectively prospectively and not retrospectively. That means, all past LoUs and LoCs will be honoured, although greater diligence and oversight is expected now. The LoU was a quicker method for exporters to get credit guarantees and also a good source of fee income for the banks. Both exporters and banks will lose out as a result of this discontinuance of LoU and LoC. But we also believe the banking system overall becomes sounder and more sure-footed if RBI limits access to such products.
What is the probability of a trade war between the US and China? How did the global markets react to this possibility last week?
First and foremost, we need to understand that a trade war was last seen nearly 80 years ago and that led to the Great Depression of the 1930s. Technically, trade wars are negative for two reasons. First, higher import tariffs don’t encourage domestic industry but they surely lead to higher levels of imported inflation. Second, trade wars eventually degenerate into currency wars with countries trying to competitively devalue their currencies to make their exports more attractive. While EU and China have threatened to retaliate, we have not seen any concerted action. Both EU and China are just seeing their economies recover from a prolonged economic slowdown and they will not be keen to get into a trade war at this point of time. We are confident that a more acceptable solution will be found without degenerating into a trade war.
What will be key factors affecting movement of both global and domestic equity markets in the near to medium term?
for 2018, a mix of domestic and global factors could drive the equity markets. First, the hawkishness of the US Fed will be the key as anything above three rate hikes can be negative for global markets. Second, if the trade war actually degenerates into a currency war then the impact across emerging markets could be quite heavy. Third, Indian stocks appear to be fully valued even after the correction and that will limit the appetite for Indian equities.
Lastly, the Indian economy is likely to go through a political and structural shift in the next few months. It needs to expand spending ahead of elections but needs to keep its fiscal deficit and inflation expectations under control. How the government manages to balance the demands of economics and the reality of politics will eventually determine how the Indian markets pan out during the year.
Global markets will be betting a lot more on the return to growth and to witness the benefits of US tax cuts. How the US Fed rates and the trade wars pan out will be a key deciding factor for global markets.