Indian Stocks – Time to aggressively load on!

My last article on October 07, 2007 titled “ http://www.theequitydesk.com/forum/forum_posts.asp?TID=1267 -  

a)      Actually raising cash and then re-deploying when the trend changes. I know no one who has been successful at this. If you sell at the highs then as the market falls your mind tells you that your initial decision of selling at the highs were correct and to actually transact diametrically opposite to a decision that has been proved correct by the market is almost impossible. The fear within the investor almost never lets him enter at the bottom.

b)      By avoiding stocks that look frothy or where earnings could be in trouble and where the management pulls all the tricks from its bag to help create a market cap.

In my case I opted for option (b) but for the moment we have all become poorer unless anyone was 100% in cash.

The markets seem to be pricing in all the bad events, US recession, Indian election and are hesitant to make a major move ahead. While all of us know that political instability does not affect the markets in the longer run it does however make the foreign investors extremely jittery about putting in further cash.

The reality check: India’s GDP should grow at between 8% - 10% for the next couple of years; we add inflation as 5% and what we get is a nominal growth of 13% - 15%. Now if the average Joe on the street is growing at 13%-15% it would not take a big effort for the top 30 companies not to grow at a 5% premium to that or at something closer to 20%.

The sensex should report an EPS of Rs 1050 for Fy 09 and some companies in the sensex have subsidiaries that are not yet contributing to the bottomline. ICICI, Reliance are two such examples and it is estimated that such subsidiaries shall contribute around 2000 points to the index.

So adjusting for those subsidiaries our index trades at (16,300-2000)/1050 = 13.6 times Fy09. Incidentally the index has never traded at lower then 12 times in its entire lifetime!

Bear Market Case: If we are presenting a bear market case for India then this premise can arise only from these possibilities:

a)      Our GDP growth actually slows down to 6% which (I shall later explain) looks extremely improbable.

b)      Some of our companies report losses because of corporate action forex derivative losses, sub prime exposure (limited to banking companies only and also immaterial compared to the balance sheet size of those companies). In this case the sensex companies will show declining profits even as the GDP continues to grow as per our assumptions.

c)       Some sort of a specific scam/scandal erupts where a major industrial group or a fund house is charged with improper dealings.

d)      The US goes into a tailspin recession and carries the entire global markets with it. Though in that case our GDP could be affected by a 100-150 bps the overall impact will be minimal. Liquidity/fund flows are short term events and in the longer term liquidity will find its way into good stocks.

A point which should be noted here is that points (b) (c) and (d) are one off events and should not affect the markets in the longer run. In the short run they can cause massive havoc as they have al the ingredients to affect sentiments and markets are full of emotions.

GDP Growth could touch 10% - Our savings rate and investment rates are at closer to 32% -34% and backed by the recent changes in the budget should grow upwards from here. Assuming an FDI flow of 2% of GDP (US $ 20 bn) the economy’s potential capital formation works out to 36% over the next couple of years.

Using the - ICOR 

with regards to interest rates i will assume that INFLATION being a political issue and that we r in an election year it could remain unchanged till yr end.dr reddy would like to see where food and crude prices reach  plus the effect of budgetary prposals before deciding on interest rates  till then lets assume that rates remain at current levels.

Basantji  one more point ..this is not the way a bull market ends right ? so as you mentioned "we will see significantly higher levels before we get into an extended bear hug " will most likely be the case.

Excellent Article Sir.   

I have a few questios:

Could there be any global circumstances under which foreign money keeps going out of the Indian markets for a long period of time (say 6 - 12 months)? US recession, mortgage losses weakening global financial giants etc?

Basant ji, excellent analysis!!

I do agree that long term market is in bullish trend but does catching a falling knife make sense? Isn’t it better to wait and start investing when there is some light at the end of tunnel?

Given the US recession a distinct possibility, banks started disclosing the exposures and figures of GDP growth getting revised downward… I feel to sit on cash for some more time and start investing when things start looking little bright.

I do remember before the start of this bull-run many blue chip companies were available at throw away prices and there were no buyers and SENSEX was languishing around 2800

Dear basantji,

Great article . I expect a FY09 sensex EPS of 1050 and FY10 EPS of 1150. This will give a FY09 p/e of 13.8 and FY10 p/e of 12.6

Thursday, March 06, 2008

A tsunami of liquidity

We’ve heard a lot about how the credit crunch in the Western financial markets is affecting liquidity. Huge losses have punched a hole in the balance sheets of US and European banks and till such time they are able to repair their net worth, their ability to lend will remain impaired. That has hurt liquidity. But there’s a flip side to the story.

High oil prices have led to windfall gains by oil exporters. That money has to go somewhere. So far, what seems to be happening is that countries in the Persian Gulf region that have their currencies pegged to the dollar, are seeing a big rise in inflation as their central banks mop up dollars and release the local currency into their money markets. Foreign exchange reserves held by these countries are rising.

Moreover, the magnitude of the rise in dollar gains is truly staggering. According to a research note from Morgan Stanley, A Petrodollar Tsunami Warning by Stephen Jen and Charles St-Arnaud, the market value of annual cross-border oil flows is around $2 trillion (Rs80 trillion), evenly split among Gulf Co-Operation Council (GCC), non-GCC and non-Opec oil ­exporters. While part of the oil receipts—Morgan Stanley’s estimate is 10%—will be invested by these countries within their borders, in infrastructure and the like, the bulk of the windfall will find its way into global financial markets. The note says that about half of it is likely to be invested by sovereign wealth funds, with the rest being direct investments in financial assets. The note ends with the dramatic flourish: “A tsunami is coming.”

At the moment, much of the money is going either into US bonds or, through sovereign wealth funds, into US financial institutions. But with the slowdown in the US and a falling dollar, it makes sense to diversify holdings. Indian markets should benefit, just as Indian engineering firms are already profiting from the boom in West Asia.

1. FY10 growth estimate is below 10% on yoy basis.
2. Could the market then be able to trade at >12 multiples?

Nitin ji.........Difference between perception and reality is mainly based on theory that strong GDP does NOT necessarily equate in strong bullish equity prices. This was exactly the case in China in 2002 - 2005, when Shanghai stock index kept hitting multiyear low for 1.5 years directly and became an international embarrasment for the communists.