Sunday, February 12, 2012

>MARKET STRATEGY: Has anything gone wrong with India’s growth therapy (Indian equity markets to witness time based correction)

The year 2011 had one theme consistent across various asset classes i.e. safety first. Risk aversion remained at elevated levels forcing investors to dump sovereign bonds of troubled European countries in favour of relatively safer US bonds, thereby driving their yields to historically lower levels. Within commodities, gold remained in a sweet spot due to perceived benefits of hedge. The emerging equity markets including the BRIC brigade slumped with Indian equities at the bottom of the league.

CY12 would be an equally challenging year and is likely to be a rollercoaster ride for the investors. Politically, this year would be a mega carnival of leadership changes in major economies such as the US, China and France among others. Policy responses in the US and Europe region would be directed towards applying the liquidity balm to iron out current issues while solvency issue would be postponed. Emerging economies would spend their time and energy towards preservation of growth as higher inflation and interest rates eat up growth. In addition, global growth faces risk from higher crude prices due to Iran-Israel induced tension, political uncertainty in the Arab world, North Korea, Afghanistan and Iraq among others. Commodity markets may crumble under the Chinese slowdown fears. Domestically, the Indian economy could spot relief in terms of interest rate cuts and lower inflation while higher fiscal deficit, currency volatility and crude oil could still knock off a few basis points from our economic growth. In addition, perceived policy paralysis and gloom associated with it would continue to lead to procrastination in our thoughts and capture headlines.

We expect the Indian equity markets to witness time based correction. Hence, we expect the Sensex to be boxed in the range of 15442 (14x FY12 Sensex EPS of 1103) – 17822 (14x FY13 Sensex EPS of 1273, upside of 14%) in line with earnings growth of 15% in FY13 and historical average multiples of 14x. The fortunes of equities are also tied to the relative attractiveness of fixed income, gold and real estate. Any deterioration in risk return trade off in these asset classes would be a blessing in disguise for equities else equity markets may continue to be sidelined. In the event of an unlikely global sell off, Sensex multiples could shrink to 10- 11x FY13 earnings, implying a downside of ~15%. The long term case for investments in Indian equity markets still remains intact through periodic investments while investors should grab any opportunity arising due to sharp sell off where multiples contract further to 10-11x. Otherwise, investors should look at the next year end as a buying opportunity as by then we would have captured FY13 growth and a likely double digit growth in FY14 on the anvil, which would limit downsides from thereon. Parallel levels on the Nifty are 4637 on the lower side and 5351 on the higher side.

We believe that relatively safer sectors would continue to lure investors as the capital preservation despite lower returns theme is unlikely to fade away. Accordingly we continue to prefer IT (rupee to benefit though valuation expensive), pharma (rupee & patent expiry to benefit yet valuation seems expensive), telecom (financials to improve, reducing regulatory uncertainty) and auto (lower base, lower commodity, peaking interest rates).

To read full report: MARKET STRATEGY