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India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Mostly cloudy with occasional thunderstorms
The monsoons have arrived on time, but India’s economy continues to face a patch of rough
weather in the near term. The latest data releases suggest demand continues to weaken, while
high oil prices are beginning to reflect in a widening trade deficit, and limited government action
on crucial reforms have not helped corporate and investor sentiment. Client feedback from over
50 macro, real money, and equity accounts over the past 10 days in Hong Kong and Singapore
suggests investors are generally cautious on India given the headwinds mentioned above. The
focus is on determining the cyclical turning point for the economy and markets. The bull case for
India depends on policy bottlenecks being eased, especially on infrastructure to kick-start
faltering investment demand, and if commodity prices ease due to a global growth slowdown. We
continue to expect the central bank to hike by 25 bp on June 16, though the pace and magnitude of
rate hikes will likely attenuate due to the soft demand data. The outlook for the INR remains
range-bound, with the cost of carry limiting the shorts, and the current account deficit restraining
the longs. Our view that the government will exceed its fiscal deficit targets substantially, suggests
to us that paying 5-year OIS looks potentially attractive, especially after the recent sharp rally.
Growth: The main concern for investors is how deep the current investment downturn could be,
and how prolonged. The April industrial production (IP) data confirmed that demand continues to
weaken. The slowdown that was evident in investment demand is also now being witnessed in
consumer goods (see India April industrial production: Sequentially lower suggests weaker
investment demand, Asia Economics Data Flash, June 10, 2011). Auto sales growth in May, at
15.6% yoy, was the lowest since late-2009, even as the largest car manufacturer warned that
future sales are looking weak. The May PMI for services fell sharply to 55 from 59.2 in April,
though the manufacturing PMI held up a lot better.
Clearly, the momentum that had been lost in January-March on the investment front has continued
through May, and will likely be increasingly be reflected in corporate revenues and margins. Until
the rate hiking cycle by the Reserve Bank of India (RBI) peaks, and more importantly, the
government starts de-bottlenecking infrastructure and reforms, we think there is little prospect of
investment demand picking up. Our expectation is that the investment cycle bottoms out by end-
2011, with a meaningful pickup only in 2012. As such, several clients believe that the risks to our
GDP growth projection of 7.5% for FY12 are to the downside.
Inflation: While market expectations are for higher inflation in the near term, we got some
pushback to our view that in FY13, inflation may fall to 5%, based on pressures on core coming
off due to growth being below potential, helpful base effects, and commodity price increases
largely feeding through the system. This would allow the RBI to focus more on growth rather than
inflation next year.
Monetary policy: Investors are interested in knowing when the RBI would turn to giving more
focus on growth rather than inflation. Our contention that this would be if growth slows below
7.5% is generally agreed upon. Our view remains that the RBI will hike again on June 16 by 25
bp, but beyond that, it may reduce the pace and amount of tightening. With demand clearly
slowing, we find it difficult to see the RBI hiking more than a total of 75 bp from here. The
choice between 2 or 3 more hikes (including the likely June 16 hike) would depend on the
trajectory of core inflation, and whether global demand witnesses a sharp slowdown. We think
that the RBI will likely signal a pause for the next policy meeting until it re-assesses global and
domestic data on demand. Our view that the RBI would start cutting rates in 2012 (see AEJ—
cutting regional growth from lower US and Chinese growth and higher oil prices, Asia Views,
May 24, 2011) evoked some surprise among investors.
Reforms: After the inactivity of the last 6 months, movement on reforms remains the key focus of
investor attention, especially on the infrastructure side. One client distinguished the state of
infrastructure in India as either in a ‘good’ equilibrium, where the successful completion of
projects inspires others to undertake better ones, or a ‘bad’ equilibrium, where governance issues
and poorly designed projects lead to a spiral down in attempts to build infrastructure. Clarity on
this would determine whether India meets its growth potential. The key reforms that are the focus
of investor attention are 1) fuel subsidy reform; 2) FDI in retail; and 3) the Land Acquisition Bill.
We find the current political environment, gripped with governance issues, as not particularly
favorable for reforms. That said, the monsoon session of Parliament which starts tentatively in
mid-July affords the government another opportunity for the passage of these bills.
Fiscal deficit: We are convinced that the government will exceed its fiscal targets significantly
due to higher subsidies, especially oil, and lower revenues. Thus, the central government’s deficit
may rise to 5.4% of GDP in FY12 compared to the 4.6% budgeted, leading to much greater supply
of government paper. Some concerns that weaker growth could put downward pressure on long
bond yields, and therefore it may not yet be time for a paid position at the long end of the OIS
curve. However, we think with the recent rally, paying the 5-year OIS looks attractive currently.
The risks to this view is if global headwinds worsen and continue to lead to a rally in long-end
rates, or if there is a ratcheting down in medium term growth expectations.
Current account deficit: The trade deficit widened to a record US$15 billion in May from US$9
billion in April, and an average of US$7 billion from January to March, partly due to higher oil
prices finally showing up in the import bill and also a large jump in gold and silver imports. Thus,
the current account deficit remains a key vulnerability for the economy, but perhaps less so than at
the start of the year due to export growth surprising to the upside. Our forecast of a deficit of 3.4%
of GDP for FY12, close to historical highs, suggests there is not much room for error on the
external account.
INR: There is very little conviction on either side of the INR trade, given the cost of carry on the
one hand, and rising oil prices and current account deficits on the other. However, a few more
clients are long INR now, given it has the highest carry in Asia, lower volatility, and less concerns
on the balance of payments. That said, we think the INR’s direction should be inextricably linked
to equity flows in the near term, which given the headwinds, are not looking favorable currently.
Finally, although the economy continues to face cyclical headwinds in the near term, the
monsoons kindle hope and income for millions of Indians on the farms, and drive their purchasing
power. A scenario where a good monsoon season, buttressed by government policy that can use it
to deliver on its infrastructure and reform promises, along with the rate hiking cycle by the RBI
nearing its end, could usher in a much more positive second half of the fiscal year, and lead us
into a more celebratory Diwali Festival.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Mostly cloudy with occasional thunderstorms
The monsoons have arrived on time, but India’s economy continues to face a patch of rough
weather in the near term. The latest data releases suggest demand continues to weaken, while
high oil prices are beginning to reflect in a widening trade deficit, and limited government action
on crucial reforms have not helped corporate and investor sentiment. Client feedback from over
50 macro, real money, and equity accounts over the past 10 days in Hong Kong and Singapore
suggests investors are generally cautious on India given the headwinds mentioned above. The
focus is on determining the cyclical turning point for the economy and markets. The bull case for
India depends on policy bottlenecks being eased, especially on infrastructure to kick-start
faltering investment demand, and if commodity prices ease due to a global growth slowdown. We
continue to expect the central bank to hike by 25 bp on June 16, though the pace and magnitude of
rate hikes will likely attenuate due to the soft demand data. The outlook for the INR remains
range-bound, with the cost of carry limiting the shorts, and the current account deficit restraining
the longs. Our view that the government will exceed its fiscal deficit targets substantially, suggests
to us that paying 5-year OIS looks potentially attractive, especially after the recent sharp rally.
Growth: The main concern for investors is how deep the current investment downturn could be,
and how prolonged. The April industrial production (IP) data confirmed that demand continues to
weaken. The slowdown that was evident in investment demand is also now being witnessed in
consumer goods (see India April industrial production: Sequentially lower suggests weaker
investment demand, Asia Economics Data Flash, June 10, 2011). Auto sales growth in May, at
15.6% yoy, was the lowest since late-2009, even as the largest car manufacturer warned that
future sales are looking weak. The May PMI for services fell sharply to 55 from 59.2 in April,
though the manufacturing PMI held up a lot better.
Clearly, the momentum that had been lost in January-March on the investment front has continued
through May, and will likely be increasingly be reflected in corporate revenues and margins. Until
the rate hiking cycle by the Reserve Bank of India (RBI) peaks, and more importantly, the
government starts de-bottlenecking infrastructure and reforms, we think there is little prospect of
investment demand picking up. Our expectation is that the investment cycle bottoms out by end-
2011, with a meaningful pickup only in 2012. As such, several clients believe that the risks to our
GDP growth projection of 7.5% for FY12 are to the downside.
Inflation: While market expectations are for higher inflation in the near term, we got some
pushback to our view that in FY13, inflation may fall to 5%, based on pressures on core coming
off due to growth being below potential, helpful base effects, and commodity price increases
largely feeding through the system. This would allow the RBI to focus more on growth rather than
inflation next year.
Monetary policy: Investors are interested in knowing when the RBI would turn to giving more
focus on growth rather than inflation. Our contention that this would be if growth slows below
7.5% is generally agreed upon. Our view remains that the RBI will hike again on June 16 by 25
bp, but beyond that, it may reduce the pace and amount of tightening. With demand clearly
slowing, we find it difficult to see the RBI hiking more than a total of 75 bp from here. The
choice between 2 or 3 more hikes (including the likely June 16 hike) would depend on the
trajectory of core inflation, and whether global demand witnesses a sharp slowdown. We think
that the RBI will likely signal a pause for the next policy meeting until it re-assesses global and
domestic data on demand. Our view that the RBI would start cutting rates in 2012 (see AEJ—
cutting regional growth from lower US and Chinese growth and higher oil prices, Asia Views,
May 24, 2011) evoked some surprise among investors.
Reforms: After the inactivity of the last 6 months, movement on reforms remains the key focus of
investor attention, especially on the infrastructure side. One client distinguished the state of
infrastructure in India as either in a ‘good’ equilibrium, where the successful completion of
projects inspires others to undertake better ones, or a ‘bad’ equilibrium, where governance issues
and poorly designed projects lead to a spiral down in attempts to build infrastructure. Clarity on
this would determine whether India meets its growth potential. The key reforms that are the focus
of investor attention are 1) fuel subsidy reform; 2) FDI in retail; and 3) the Land Acquisition Bill.
We find the current political environment, gripped with governance issues, as not particularly
favorable for reforms. That said, the monsoon session of Parliament which starts tentatively in
mid-July affords the government another opportunity for the passage of these bills.
Fiscal deficit: We are convinced that the government will exceed its fiscal targets significantly
due to higher subsidies, especially oil, and lower revenues. Thus, the central government’s deficit
may rise to 5.4% of GDP in FY12 compared to the 4.6% budgeted, leading to much greater supply
of government paper. Some concerns that weaker growth could put downward pressure on long
bond yields, and therefore it may not yet be time for a paid position at the long end of the OIS
curve. However, we think with the recent rally, paying the 5-year OIS looks attractive currently.
The risks to this view is if global headwinds worsen and continue to lead to a rally in long-end
rates, or if there is a ratcheting down in medium term growth expectations.
Current account deficit: The trade deficit widened to a record US$15 billion in May from US$9
billion in April, and an average of US$7 billion from January to March, partly due to higher oil
prices finally showing up in the import bill and also a large jump in gold and silver imports. Thus,
the current account deficit remains a key vulnerability for the economy, but perhaps less so than at
the start of the year due to export growth surprising to the upside. Our forecast of a deficit of 3.4%
of GDP for FY12, close to historical highs, suggests there is not much room for error on the
external account.
INR: There is very little conviction on either side of the INR trade, given the cost of carry on the
one hand, and rising oil prices and current account deficits on the other. However, a few more
clients are long INR now, given it has the highest carry in Asia, lower volatility, and less concerns
on the balance of payments. That said, we think the INR’s direction should be inextricably linked
to equity flows in the near term, which given the headwinds, are not looking favorable currently.
Finally, although the economy continues to face cyclical headwinds in the near term, the
monsoons kindle hope and income for millions of Indians on the farms, and drive their purchasing
power. A scenario where a good monsoon season, buttressed by government policy that can use it
to deliver on its infrastructure and reform promises, along with the rate hiking cycle by the RBI
nearing its end, could usher in a much more positive second half of the fiscal year, and lead us
into a more celebratory Diwali Festival.
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