Challenges And Opportunities

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The Indian markets are facing a number of headwinds and have corrected by over 13.30 per cent from their high and could be expected to be volatile over the next few months. Inflation, at 8.43 per cent,is showing no signs of easing. Though food inflation may ease a little, the rising oil and commodity prices will cause non-food inflation to rise. The RBI has already hiked rates by 25 basis points and could well hike rates by another 100 basis points through 2011. The extremely low IIP number for December 2010, showing a growth of just 1.6 per cent YoY as compared to 3.6 per cent YoY in November 2010, is not very encouraging. The FIIs can be expected to move money out of the emerging markets to the developed markets this year as the risk reward in developed markets is better. The view on the rupee is also negative and the rupee is expected to depreciate to around 48-49 in the current year. The FIIs have already withdrawn USD 1.6 billion this year. Another big worry is the fact that a large number of new issues will be hitting the market this year. The government disinvestment itself will absorb Rs 60,000 crore and if you add what the private sector is planning to raise from the market, well over Rs 1.6 lakh crore will be absorbed by the primary market. Though the valuations have corrected significantly,India is still the most expensive emerging market. The BSE Sensex valuation is at a one year forward P/E of around 14.5 times, which is its long-term average. But markets like Brazil, Russia,China, Korea, and Indonesia are still much cheaper.
The markets do not expect too much from the budget. The big problem that the budget will need to address will be the fiscal deficit and the current account deficit and it looks unlikely that the government will be able to bring fiscal deficit to the targeted 4.8 per cent of GDP. The key challenge will be to keep the subsidies in check.The rising crude prices will push up the oil and fertiliser subsidies. The Food Security Bill will require higher food subsidies. Also, the political compulsions to increase social spending will put pressure on the expenditure side.
From a long-term strategic perspective,some of the sectors that should do well are those driven by domestic demand such as FMCG and pharmaceuticals.Many banking sector stocks that were quoting at 1.8-2 times’ price-to book are now back to the levels of 1 time price-to-book. The IT sector is also looking good. The recovery seen in the US market bodes well for IT outsourcing. The rupee depreciation would also help the sector.[PAGE BREAK]

Lastly,commodities will clearly do well primarily because global liquidity will continue to be easy in 2011, and a lot of excess global liquidity will chase the commodities. While 2011 will be a year of challenges, it will also be a year of opportunities. For retail equity investors the last decade has given them a CAGR return of 18 per cent. There is no doubt that the next decade should also be able to deliver similar returns. Any correction in the equity  markets will be a great opportunity to increase exposure to equity.