Indian equities 2018

2018- Reality check for indian equities

The year 2018 proved to be a tough one for Indian equities with the SENSEX clocking minor gains of 6% as against 28% in 2017. On the contrary the BSE 500 posted 3% negative return against a gain of 36% in 2017. For broader markets, the year proved a dampener as the BSE Midcap index plunged 13% and Small cap Index crashed 23.5% after a 48% and 59% upside, respectively, in the previous year. An analysis of the performance of BSE 500 companies between 2015 and 2018 suggests calendar 2018 was the worst. During the year, 76% of BSE 500 stocks closed with negative returns.

The sectoral trend was mixed during the year with IT (up 24%), banking (up 6%), financial services (up 11%, though NBFCs mostly crashed) and FMCG (up 14%) as prominent gainers and auto (down 23%), infrastructure (down 13%), metal (down 20%), pharma (down 8%) and realty (down 33%) as top losers.

A historical look at the monthly return of this index suggests that the year 2018 has seen the second highest number of months recording negative returns after a gap of seven years. 2011 saw nine months of decline only higher than the seven months negative returns clocked by NIFTY 50 in 2018. February was a challenging month for the S&P BSE Sensex; the imposition of a capital gains tax on equity investments tested the Indian equity benchmark at the start of the month, before a US-led global equity market selloff dragged the index down further.

Foreign portfolio investors (FPIs) made a net withdrawal of about Rs 83,146 cr from the Indian markets in 2018. This comprised Rs.33,553 cr from equities and Rs 49,593 cr from the debt market, according to data available with depositories. This was the worst year for Indian capital markets in terms of overseas investment since 2002, the last year for which segregated FPI data for equity and debt markets are available. Before 2018, FPIs were net buyers of Indian equities for six consecutive years. India also lost to emerging markets in terms of foreign money allocation given the lower valuations in other markets at the beginning of 2018. Added to this, the uncertainty on the domestic political front, ahead of an election year, may also have contributed to FPIs staying on the sidelines. FIIs were net buyers to the tune of Rs.2300 cr in December 2018 but are again net sellers this month of Rs.1673 cr till 10th January 2019.

Mutual funds continued to be net buyers in 2018 to the tune of Rs 1.09 lakh cr in addition to Rs 1.17 lakh crore in previous year. During this period, equity mutual funds saw an investment of Rs.88,822 cr, an average of Rs 7,401 cr/month. That’s lower than 2017, which saw an investment of Rs.106,482 cr in equity mutual funds, an average monthly rate of Rs.8,873 cr. The Indian rupee hit a historic low of Rs.74.45/$ but a steep fall in oil prices helped the currency recover to around Rs.70/$. Brent crude oil prices surged to $86 a barrel in early October but soon fell sharply to close the year around $54 levels, down 13.5% in 2018.

Gold prices touched a five-year high on 10th January; following the move by central banks all over the world to buy the precious metal that they think is a safe haven in a risk-averse environment. The prices are at their peak since September 2013. Gold price in India are above Rs. 32,000/10 gm. Internationally, gold prices are moving closer to $1,300/oz up nearly $100/oz in last few months, as concerns about economic slowdown gripped global markets and fuelled demand for safe-haven bullion.

WPI based inflation fell to an eight month low of 3.80% in December, due to sharp decline in fuel price inflation and low food inflation. WPI inflation was 4.64% in November. Food inflation came in at 0.07% in December from deflation of 1.96% in November. Inflation in the ‘fuel and power’ basket in December declined sharply to 8.38% from 16.28% last month on account of lower prices of petrol and diesel. Prices of manufactured products, which account for close to two-thirds of the index, stood at 3.59% in December, compared to 4.21% a month ago. Inflation for October has been revised to 5.54% from 5.28%.

CPI inflation declined to an 18-month low of 2.19% in December from 2.33% in November. This was again largely due to low food & fuel inflation. Consumer food price index fell 2.51% in December, after contracting 2.61% in November. This is the third consecutive month of negative inflation in this category. Fuel and light inflation fell to 4.54%, down from 7.39% in November. Core inflation, excluding food and fuel costs, remained unchanged at 5.7%. With inflation easing to lower end of RBI’s 2-6% target, there is room for the central bank to change its currently hawkish stance & cut rates by 25 bps in February or in April.

The Nikkei India Manufacturing Purchasing Managers’ Index (PMI) eased to 53.2, from the 11-month high of 54.0 in November. Uncertainty surrounding the outcome of the Lok Sabha elections this year is weighing on business optimism. Consequently, companies are delaying hiring plans. Nikkei’s India Services Purchasing Managers’ Index slipped to 53.2 in December from 53.7 in the previous month. Services providers though remained more confident about business outlook than their counterparts in the manufacturing sector. Consequently composite PMI declined from 54.5 to 53.6.

Index of Industrial production (IIP) plummeted to a 17-month low in November as a post festival season decline in manufacturing, fewer working days in the month and tighter financial conditions pulled down output. IIP stood at 0.47% in November, down from 8.4% in October, with the high base of last year contributing to the slowdown. Manufacturing production shrank 0.4%, while electricity and mining output grew 5.1% and 2.7%, respectively. Only 10 out of 23 manufacturing subgroups reported positive growth.

With the economy already recording a 7.6% GDP growth in the first half of the current fiscal, low IIP numbers imply growth is likely to slow at around 6.8% in the second half. Growth so far in 2018-19 has been driven by government spending on infrastructure. Sustaining this may be a challenge as the government is likely to cut back on capital expenditure to meet the fiscal deficit target which stands at 112% of its full-year target in the eight months till November.

As per SIAM, domestic passenger vehicle (PV) sales declined marginally to 2,38,692 units in December, down 0.43% y-o-y. Domestic car sales declined 2.01% to 1,55,159 units.  Total two-wheeler sales in December declined 2.23% to 12,59,026 units. Motorcycle sales last month, however, were flattish at 7,93,061 units.  Sales of commercial vehicles were down 7.8% to 75,984 units in December. There was an inventory buildup at the dealer level due to lower than expected festive season sales this year which got liquidated over the last couple of months. Fuel prices have also started to come down and we expect to see its positive impact going ahead.

Q3FY19 results have just started being reported & results will be closely monitored over the next month. The initial set of numbers from the likes of TCS, Infosys & IndusInd Bank has largely been in line with expectations. There has been a decline in reported NPA levels this quarter form the banking results reported. Expectations are subdued this quarter & projections are for a deceleration in profits, thus a few positive surprises cannot be ruled out in results this quarter.

Apart from ups and downs in crude and rupee, the heating up and subsequent cool-off of the US-China trade tensions, the IL&FS-led liquidity crisis in NBFCs, increase in Fed interest rates leading to FII outflow, worries over long-term capital gains tax, additional surveillance measures, among other things kept the market volatile. Achieving fiscal deficit target of 3.3% looks difficult as GST collections are running behind the target & disinvestment + telecom also seem to be falling short of targets. To add to that announcement of various sops, government schemes, farm loan waivers pre-elections could be an additional worry.

The Reserve Bank of India needs to soften its economic growth narrative and lower its projections for the current fiscal year.  Given the softness in inflation and low IIP numbers we could have a rate cut in the next MPC meet scheduled on 7th February 2019.

SIP inflows remain strong, though equity inflows have slowed down marginally over the last few months. FII flows have been a bit erratic and remain a worry going ahead especially due to a decline in crude prices and expected global slowdown. While the short term is shaky and likely to be volatile due to multiple reasons, we continue to strongly believe medium and long term growth remain intact. A staggered investment in direct equities after sufficient due diligence may result in lowering their risks, in an era when the world is witnessing a paradigm shift in business models and the valuations assigned to them. Though latest inflation numbers provide comfort, IIP data & fiscal deficit is a cause of concern. One should accumulate good quality companies where there is a long term structural story in place.

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Sabyasachi Paul has been associated with equity research and advisory on equity markets in India for over 10 years & currently heads the equity research desk of Eastern Financiers Ltd, Kolkata. He also manages a portfolio on the online platform Kristal. Find link to the strategy named ‘The Tortoise’

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