STOCK MARKETS WHERE TO NOW

The markets have confounded sceptics and done very well for the first half of this year after two years of subdued returns. Besides international events that were supposed to be disruptive we have seen that markets have handled demonetization and the GST transition very well. Today we stand amidst a mixed global growth picture and an economic growth cycle in India that has underperformed expectations largely related to the lack of revival of investment demand. So where to from here.

Firstly let’s look at the Global perspective. Geopolitical risks have reduced to some extent with no further deterioration in any of the factors creating that risk. The French elections have reduced risks related to the Eurozone. Growth revival in the continent is also contributing to global economic growth stability. Markets have got used to the new administration in the US with the facts as they stand today being more towards a carry forward of status quo rather than any significant disruption. Chinese growth slowdown in a soft landing kind of scenario continues and the hard landing argument leading to a global risk off seems to be off the table as of now.

Currency wars also seem to be on the backburner with the decline of the US Dollar over the last few months. Liquidity seems to be ample with the highly accommodative stance of the ECB and BOJ. The risk factor is the stance of the US FED. If they actually move towards the kind of rate hikes they are talking of next year, combined with unwinding of their huge balance sheet it will not be non disruptive. However their stance seems to be very aggressive at this point of time given the fact that inflation is subdued and the growth momentum seems to be slowing down. However factually they ultimately have to wind down their huge balance sheet at some stage. The pace of unwinding will have a significant impact on global stock markets and is something we will watch out for.

My view always has been that till the US FED Funds rate crosses 2.5% it will not be restrictive for growth and as such positive for equity markets. That stage is still quite some way off. Moreover it will be tough for them to have rates that are very far off from that in Europe as it will put the US Economy at a disadvantage. There are many moving pieces and as they fall into place we will need to evaluate the impact.

The domestic economic recovery has been disappointing as far as I am concerned. The bad debt problem of the banks has been allowed to linger on for too long and as such impacted capital formation in the economy. Housing and Roads were big drivers of demand and both have seen a slowdown. The highways sector has again got disrupted as the Hybrid Annuity Model does not seem to be working very well and many projects have got stuck in getting financial closure. We have seen a revival in Urban Infrastructure projects and affordable housing but it’s not enough to drive the investment cycle in a big way.

Recent moves of the government to address bad debt problem head on is positive but something which will impact some time later. Today we are at a very positive macroeconomic standpoint. Inflation is low, household wealth is strong, central government fiscal situation is good and the external situation is positive. However job creation in the economy has been extremely slow. Erstwhile job creators like Technology and Telecom have slowed down drastically. Make in India has not taken off in any big way. Drivers of the economy continue to be consumer demand, some investment by the corporate sector and government expenditure. The stress in the banking sector due to bad loans has also restricted capital formation significantly.

The recent trend of the competitive populism via the farm debt waiver route will restrict the ability of the State Governments to undertake developmental projects. It’s ironical that it was driven by the ruling party at the centre via the promises made during the UP State elections when they actually had no need to do that. On the other hand a combination of a good monsoon, good rural cash flows etc will lead to a faster revival in rural demand and as such farm and rural economy related stocks should do well going forward.

GST as a move is positive as it will improve the efficiency of the economy as well as improve government finances. Destocking ahead of the 1st July deadline combined with an early festival season this time would mean a fast recovery post GST implementation irrespective of the kind of doomsday predictions being made by many. The last quarter of 2017 will also not have the demonetization impact. As such growth outlook for the second half of 2017 is positive and that is the window to take conclusive steps for reviving investment demand. If this window is missed we will be looking at below potential growth (AGAIN) next year.

PUTTING IT TOGETHER

From the Equity Market perspective there are various drivers. Global Equity Market outlook is still positive and will remain so till the cost of capital goes much higher (Which doesn’t mean that there will be no corrections). Domestic interest rates, a move towards financial savings as well as subdued inflation is also positive for equities. However accelerated market performance from here would need a step up in economic growth. 2018 and beyond will need a healthier banking system and greater job creation as we are right now in a jobless (not literally) growth scenario. Over the longer term technological advancements will make job creation even tougher and present a risk to a country like India with its demographics. Stock and sector specific opportunities continue to be strong and will need to be captured as concentrated bets to make big money.

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