India: How bad can things get?
„Murphy’s Law at work in India!
Geo-political tensions in Syria have led to a spike in oil and gold prices
compounding India’s weak rupee (down 8.6% this week). While we think this will
be short-lived, in this report, we look at a stress case scenario for India.
Markets: worst case lower; but watch for policy action
Our base case for the Sensex is that it will be range-bound between 18,500 to
20,500. However, as we mentioned in our earlier report (see report), the market
would stay below this range if the currency does not stabilize.
So where can the market go now on a worst case? The market is trading
slightly below the long term average forward PE of 14.1x. However, at its low, the
market tends to go to 10x whenever there is a global crisis. Given that the
developed world is recovering, we are assuming current valuations for the export
companies and 1SD below mean for the rest of the universe. Based on this we
get a stress case index level of 16,000 for the Sensex.
Equity investors have not yet panicked in India: One key risk for markets is
that FII holding at 21% (45% of free float) is close to all time highs. India remains
vulnerable to any GEM sell-off.
History tells us to be wary of sharp recovery: Looking at past instances of
sharp rupee depreciation of over 15%, the market has fallen in all the 3 instances
on an average 21.5% (ranging from 4.5% to 47%). Interestingly, markets
recovered practically the entire loss 3 months later on all the 3 occasions.
Markets will stop panicking when policy makers start panicking: Any policy
measures to shore up the rupee by say quasi sovereign bonds/NRI bonds is the
key and could lead to a spike in the rupee and help markets.
What do we think of other macro variables?
1. Currency: Our Fx strategist thinks a likely scenario is that the rupee
stabilizes in the Rs63-69 band due to likely policy action. However, any hike
in rates could see the rupee at Rs75/US$ by year-end. (see report).
2. Growth: We continue to expect downgrades to GDP and earnings growth. In
a stress case scenario, we could see GDP growth at 4% (vs current 4.8%)
and earnings growth at 0% (vs current 7-8%).
3. Bank NPLs: In a stress case, we could see Delinquency levels rising to ~4%
from 2.8% and gross NPL’s rising to 5.8% v/s 3.4% now (see report).
Sector & Stocks
In a stress case of continued rupee depreciation, we would stick to consensus,
out-performing sectors like IT (TCS, Infy, HCL); pharma (Sun, Lupin), Cairn, Tata
Motors. We would be sellers of stocks like HUL, Adani Power, NTPC, . Our
current mirror some of these – TCS, Lupin, Idea and Hero Motors.
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„Murphy’s Law at work in India!
Geo-political tensions in Syria have led to a spike in oil and gold prices
compounding India’s weak rupee (down 8.6% this week). While we think this will
be short-lived, in this report, we look at a stress case scenario for India.
Markets: worst case lower; but watch for policy action
Our base case for the Sensex is that it will be range-bound between 18,500 to
20,500. However, as we mentioned in our earlier report (see report), the market
would stay below this range if the currency does not stabilize.
So where can the market go now on a worst case? The market is trading
slightly below the long term average forward PE of 14.1x. However, at its low, the
market tends to go to 10x whenever there is a global crisis. Given that the
developed world is recovering, we are assuming current valuations for the export
companies and 1SD below mean for the rest of the universe. Based on this we
get a stress case index level of 16,000 for the Sensex.
Equity investors have not yet panicked in India: One key risk for markets is
that FII holding at 21% (45% of free float) is close to all time highs. India remains
vulnerable to any GEM sell-off.
History tells us to be wary of sharp recovery: Looking at past instances of
sharp rupee depreciation of over 15%, the market has fallen in all the 3 instances
on an average 21.5% (ranging from 4.5% to 47%). Interestingly, markets
recovered practically the entire loss 3 months later on all the 3 occasions.
Markets will stop panicking when policy makers start panicking: Any policy
measures to shore up the rupee by say quasi sovereign bonds/NRI bonds is the
key and could lead to a spike in the rupee and help markets.
What do we think of other macro variables?
1. Currency: Our Fx strategist thinks a likely scenario is that the rupee
stabilizes in the Rs63-69 band due to likely policy action. However, any hike
in rates could see the rupee at Rs75/US$ by year-end. (see report).
2. Growth: We continue to expect downgrades to GDP and earnings growth. In
a stress case scenario, we could see GDP growth at 4% (vs current 4.8%)
and earnings growth at 0% (vs current 7-8%).
3. Bank NPLs: In a stress case, we could see Delinquency levels rising to ~4%
from 2.8% and gross NPL’s rising to 5.8% v/s 3.4% now (see report).
Sector & Stocks
In a stress case of continued rupee depreciation, we would stick to consensus,
out-performing sectors like IT (TCS, Infy, HCL); pharma (Sun, Lupin), Cairn, Tata
Motors. We would be sellers of stocks like HUL, Adani Power, NTPC, . Our
current mirror some of these – TCS, Lupin, Idea and Hero Motors.
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