Poll euphoria may not be shot in arm for equities

Cogencis, Wednesday, May 15

By Apoorva Choubey  

MUMBAI – Equity investors hoping for a sharp rally after the Lok Sabha elections may end up being disappointed this year. 

While the equity market hopes that a Bharatiya Janata Party-led coalition will form a stable government, the euphoria based on this anticipation has died down to a certain extent, market participants said. 

That's because whichever government comes to power, it will have several macroeconomic issues to deal with. 

Tight liquidity in the banking system, slow transmission of interest rate cuts, slowing domestic consumption and the US-China trade dispute are being seen as risks to India's economic growth. 

"This time there are no legislative agendas for the new government like the GST (goods and services tax) that could boost the economy…so there are less hopes of anything changing drastically," said Rahul Singh, chief investment officer of Tata Mutual Fund. 

These macroeconomic issues have translated into investors not being ready to put in any fresh capital in the market. 

"Investors right now are more worried about the state of the economy than about elections as it's impact on market returns is minimal," said Amit Kumar Gupta, head of portfolio management services at Adroit Financial Services. 

The risk aversion among investors is palpable in the performance of indices. The Nifty 50 has fallen 4% in the last one month, while the broader Nifty Midcap 100 index has lost 8%. 

This is in sharp contrast to the trend seen in equities ahead of the last two General Elections in India. In 2014, the Nifty 50 had gained 7% in the month before the election results, while in 2009 it had risen more than 9%. 

Investors worry that if the world's two largest economies – the US and China – do not reach a trade deal soon, India will be hit on various fronts, including cheap goods being dumped, a rise in inflation and the dollar appreciating versus the rupee. 

The Indian economy may not be able to withstand higher inflation as it is already reeling under the impact of low credit availability for the past nine months, which has led to a slowdown in real-estate, non-banking finance and housing companies, besides hitting automobile sales. 

Brokerage Credit Suisse believes the economic slowdown could last a year, and is primarily driven by tight liquidity.

The slowdown in consumption, also a result of lack of easy financing, is starting to dampen the prospects of over 20% growth in corporate earnings. Various consumer focussed companies, such as Hindustan Unilever and Asian Paints have already said they expect slowdown in demand to persist in the near term.

As recovery in earnings of banks is also turning out to be patchy rather than extend to the entire sector, the prospects of earnings-driven gains in the equity market have come down, participants said. 

If India were to see cheaper goods being dumped from China, domestic manufacturers would be hit while a rise in the dollar would mar foreign fund inflows into equities as well as debt. 

If the trade dispute were to spiral out of control, cheap goods being dumped into India and weak rupee would only be the tip of the iceberg, believes Singh, of Tata Mutual Fund. "The bigger risk is of China retaliating by other means such as their selling of US bonds," Singh said. 

The worry over the US and China not reaching a trade deal has already driven foreign investors to sell emerging market assets recently. They have sold Indian shares worth around 45 bln rupees in the past five consecutive sessions. 

Investor confidence has also taken a hit because of various corporate governance issues that have emerged at certain blue-chip companies such as Vedanta, Sun Pharmaceutical Industries and Zee Entertainment Enterprises. 

What's more, retail investors are growing wary of mutual funds overlooking these lapses in corporate governance. 

The fact that even debt mutual funds–which are supposed to be safe–have given loans to such companies and promoters against shares, and are now taking a hit on their net asset value, could deter retail investments in mutual funds, analysts said. 

In this backdrop of caution, slowing demand and macroeconomic uncertainties, the steps that the new government takes to boost the economy could assume higher significance than the election itself, fund managers said. 

Even if a BJP-led coalition government is formed at the Centre, this risk aversion isn't going to vanish, said Rusmik Oza, head of equity research at Kotak Securities. "At best, equities will be able to recoup losses made over the past one-two months." 

Measures taken to boost systemic liquidity, tackle agrarian distress and ensure faster resolutions under the Insolvency and Bankruptcy Code, among others, will be the factors that the equity market will look forward too. 

The southwest monsoon rains and course of action taken by the Reserve Bank of India on liquidity and interest rates will also be important. 

For investors, the biggest event in five years in India's history may just end up being a sideshow as a lumbering economy steals the spotlight.  End

With inputs from Chiranjivi Chakraborty 
Edited by Maheswaran Parameswaran

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