Set Your Sights Afar

With the Sensex at an average of 15,000, India is trading at a 15-18 per cent premium to its average 12-month forward P/E. The last time we traded at comparable valuations was in 2007. Most of the emerging markets are trading at valuations similar to late 2007 and hence there is not much to distinguish India favourably in this comparison. The Sensex P/E has nearly doubled from its trough level in March this year without any significant upgrade in EPS forecasts for FY10. A similar pattern can be observed in many other emerging markets and hence the valuation attractiveness of India is neutral.
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On the political front, a stable government with a reform orientation bodes well for economy. The shorter term trajectory for the economy is however more dependent on the global economic cues and an improvement in capital flows. And there are early signs of improvement on this front but this is likely to be offset by the negative impact of a weak monsoon. We expect GDP growth of about 6 per cent for FY10. Through the budget the Indian government has given more thrust on growth as against managing fiscal deficit. It is a trade-off and the government has chosen to back growth for now and worry less about the fiscal deficit.

It is a calculated risk but given the environment it is a risk worth taking. As of now we do not see this affecting our ratings. However, our bigger problem is that a large part of the deficit is structural in nature and that requires fundamental reform and political will to bring about change. The move to simplify the tax code, implement the GST, target subsidies and set up the unique identification authority are but necessary steps to prevent leakage of revenues and expenses/subsidies.

However, global cues will continue to play a key role in determining market direction. The degree of correlation between all risky assets is very high. This is a source of upside and downside risk. The key local factors to watch out for will be the impact of the weak monsoon on the fiscal situation and also the likely monetary response to inflation which we expect could top 6 per cent in the Jan-Mar 2010 quarter. Taking about India Inc’s quarterly results, the results for Q1FY10 were better than expected largely due to gains at the operating level on account of lower raw material costs, duties and cost control. However, the topline growth was sluggish and that remains a concern.
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We expect Q2FY10 to be healthy though margin gains may ease even as revenue growth revives. We expect financials and industrials to be weaker in Q2FY10 and consumer and IT to sustain their Q1FY10 performance. And we are currently overweight on domestic consumption-oriented areas such as consumer goods and automobiles. We are also overweight on pharmaceuticals and marginally overweight on IT. In the longer term we are positive about domestic-oriented consumption sectors and also diversified financials.

At Religare AMC, we believe that for a long-term investor looking to create wealth, equities should be a preferred asset class. But the exact allocation is something that investors should decide in conjunction with a qualified investment planner as this would depend on their savings rate, risk appetite and life cycle. And our advice to the retail investors is that equities are the best asset class to play the growth story in India and thus one should invest systematically with a long-term focus.