Global risk aversion and disappointing quarterly earnings led to marginal decline in equity indices last week; exporters and private sector banks outperformed
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· The beat percentage in quarterly earnings reported for our coverage universe fell from 45% to 30% over the week
· The softening bias in long bond yield reversed last week as the expert committee recommendation on monetary policy reduced probability of a rate cut
· Expectations are low from the RBI and the FOMC policy meetings
· FIIs turned marginal sellers towards the end of the week
· The relative size of cash in the overall money supply has been reducing for structural reasons; the trend has positive implications for monetary policy and beyond
External and internal discomfort. Recent economic indicators and country specific news flows * have adversely impacted global risk appetite. Of the two key macro views – acceleration in DM growth and stabilization in EM growth, the later is making investors more nervous. The re-balancing process of global growth seems to have entered a short-term bumpy phase. India is usually a victim of any unfavorable developments in global markets given the over-dependence on FII flows. Domestic factors were mixed last week. Quarterly earnings had a disappointing bias (see details below). Opinion polls indicate an improved performance for the BJP. MSCI India (US$) corrected 2%, largely due to INR depreciation. Exporters and private sector banks outperformed. In the current week, RBI (28th Jan) and the FOMC (28, 29th) meetings would impact investor sentiment.
Monetary policy towards a new road. The expert committee on monetary policy submitted its report last week. The report, if implemented, may have structural significance, in our view. Our economics team expects the key recommendations to be accepted. Three implications of these policy suggestions would have:
1. Headline CPI inflation would become more important. The suggested target CPI levels are 8% in 12 months and 6% in 24 months.
2. With a defined medium-term inflation target, the volatility in rate expectations should reduce. Theoretically the reduced volatility in the yield curve would be good for real sectors and also for equity market over the medium term.
3. These monetary policy measures have well-known limitations. In the absence of a complementary fiscal and supply side response, the effectiveness may not reach to the desired and optimal levels.
Expectations of a rate cut, post the submission of this expert committee report, have reduced. 10 year benchmark treasury yield has risen over 20 bps. Note that the RBI meeting is a quarterly one and there would be official changes in growth and inflation estimates, which would impact investor sentiment.
A disappointing week of 3Q FY earnings reports. After a good start of quarterly earnings, the surprise bias turned disappointing last week. Companies across the sectors – Financials, Consumers and Cement – disappointed. See below key highlights:
· Only ~ 30% of Indian large cap companies have reported earnings
· Adjusted profit for the J.P. Morgan covered large-cap companies grew 14% yoy (See sectoral details below).
· IT Services companies (ex TCS) have managed to meet elevated expectations. Company managements indicated an improved demand environment for the year ahead.
· NBFCs and private sector banks have reported increased asset quality stress and in select cases planned slowdown in the credit growth momentum.
· Consumer companies have reported margin pressures on account of higher A&P spending, as revenue growth momentum has moderated
· RIL reported a marginal beat on higher GRMs and higher other income.
For our coverage universe, we expect an earnings growth of 14%, ex Energy.
FII turned sellers towards the end of the week, DII remain sellers. FIIs’ buying patterns this year across EMs are mixed. Taiwan by far remains the leading EM to attract FII flows (US$ 1.4 bn); the second leading destination, India, has received US$ 520 mn. As per the latest EPFR data, FIIs’ Indian overweight as on December end was 160 bps. FIIs turned sellers of Indian debt also. Increased uncertainty in the currency market is making investors nervous. The money flow indicator suggests increased buying interest in Consumer Discretionary and Industrials last week.
The healthy shrinkage in India’s cash pie. Indian is different from the rest of the world in many a respect. The difference is particularly notable in the inflation dynamics. The risk of deflation persists for some of the key DMs. In India a 12-month forward CPI target of 8% looks ambitious. Without going into the well known reasons of stubborn inflation dynamics, just highlighting a few developments on internal value of currency, RBI announced a measure to replace old notes (prior to 2005) last week. See some facts below:
1. The relative size of “currency with public” in the overall money supply has been declining for structural reasons. As the reach of banking service broadens the need to carry “currency” reduces. There are a few sectors which are still cash intensive, but increasingly the economy is getting more cash-less.
2. The growth rate of M3 and currency with public growth has been 17% and 14% oya over the last two decades. Currency with public used to be 20% of M3 two decades back. Currently the ratio is just 13%.
3. In the current monetary tightening phase, the slowdown in Currency with Public has been much sharper, driven by the RBIs policies. Aside of the cyclical aspects, the Indian central bank has been announcing policies with structural significance e.g. report on monetary policy, financial inclusion , new banking licenses etc. These measures are likely to have impact on effectiveness of monetary policy and also on the real economy over the medium to long term, in our view.
Figure 1: Average annual growth rate of money supply and currency with public in India
Source: Bloomberg
Table 1: Quarterly Earnings Growth – Large cap companies
Sector
|
3Q FY13 PAT (INR bn)
|
3Q FY14 Adjusted PAT (INR bn)
|
Adjusted PAT Growth (% YoY)
|
Consumer Discretionary
|
10
|
11
|
4
|
Consumer Staples
|
24
|
27
|
16
|
Energy
|
89
|
84
|
(5)
|
Financials
|
46
|
54
|
18
|
Health care
|
2
|
2
|
2
|
Industrials
|
11
|
11
|
(1)
|
IT Services
|
86
|
117
|
36
|
Materials
|
9
|
7
|
(25)
|
Telecom
|
3
|
4
|
64
|
Utilities
|
0
|
0
|
NA
|
Total
|
279
|
317
|
14
|
Ex Energy
|
190
|
233
|
22
|
Source: J.P. Morgan
Figure 2: 3Q earnings reports vs. J.P. Morgan expectations
Source: J.P. Morgan
*Chinese PMI, Political developments in Thailand and Turkey.
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