Wednesday, February 8, 2012

>INDIA EQUITY STRATEGY: India’s Swings: China and the Euro-zone, or Back Home; Look at Home, rather than at China or the euro-zone?

■ India has bounced back quite spectacularly in 2012— The bounce across equity (+15%), FX (+9%) and rates (- 38 bps) markets has caught the investing community by surprise. But where is this coming from? A low base (2011 was terrible), a more decisive turn on lower interest rate expectations or, critically (and a key driver of EM buoyancy (+9.3%)), easing of concerns on a euro zone/China slowdown. It’s probably a combination, but should India really be swinging so wildly to the euro-zone/China’s tune?

 The euro-zone/China matter, but less for India than for EMs — Relative to EMs, India’s a) trade exposure to euro/China is low (it’s a net importer), b) India accounts for only about 4% of EU bank exposure to EMs (euro banks’ deleveraging an overstated risk), c) FX reserves cover relative to off-shore debt is reasonable, and d) doesn’t really participate in China’s growth (vulnerability to a China slowdown is low). This does not make India immune to euro-zone/China troubles, but it is more so than EMs as a group, and distinctly more than the markets seem to suggest (underperforming (-18%) / outperforming (12%) EMs with rising/falling euro-zone/China concerns).

 Look at Home, rather than at China or the euro-zone? — India’s challenges, and potential upsides, lie at home; fiscal profligacy, high inflation, lack of policy/reform and execution challenges. The past years’ global economic challenges were an opportunity for India to break out of its near-EM straight jacketing, but it blew them away on global/euro-zone/China excuses. It needs foreign capital/markets, but we see India’s economic/market trajectory lying in fixing domestic issues rather than global gazing.

 Remain positive: though increasingly the market will likely wait for the economy to catch up — We remain positive on the market: we maintain our 18,400 Dec 12 Sensex target and a Financials-heavy model portfolio. But we do believe it will be a tough grind from here, as the market waits for the economy to signal the recovery that equities have now partly factored in. Our preferred picks: Axis Bank, Adani Ports & SEZ, Maruti, SBI, Dr. Reddy, United Spirits, Havells and M&M Financial Services.

To read the full report: EQUITY STRATEGY