Capex cycle revival vital for rerating

While the short-term market movements are always unpredictable, the market does seem to be looking stronger from here, in my view. The post-Budget sell-off due to fears over tax residency certificate (TRC) is behind us after the government clarification on this front. India needs foreign capital inflows of around $90-100 billion in the next one year to protect its currency, given that the current account deficit (CAD) may not reduce meaningfully in FY14. While foreign direct investment, NRI deposits and debt flows can cover a part of it, the reliance on foreign portfolio flows will still be very high.

I think, the biggest reform that India needs now is to reduce its subsidy on diesel which, though at a slower pace, is already happening. Our new and young power minister is eager to solve the issues plaguing the sector, even though there are no short-term solutions for it. But the facts remain that power shortage in the country will only increase and India may have no option but to import around $5 billion worth of coal in FY14.

We cannot ignore the fact that the economy continues to be under stress and food- and energy-driven inflation may continue to haunt us for the next three to six months, at least. However, after a long time the Reserve Bank of India reduced interest rates in January 2013, responding to the government reforms, cutting both cash reserve ratio and repo rate by 25 basis points. Expectations are that it may cut rates again on March 19. While deposit rates may remain sticky till March-end, they should start seeing some downtrend from April onwards. Despite the high CAD that India currently faces, the balance of payments position appears comfortable. Foreign institutional investors have already pumped in $8.6 billion in equity so far this calendar year, despite domestic institutional investors selling $1.1 billion. Hence, India has a fair chance to move to an easy interest rate regime by the end of this calendar year. Global conditions, though volatile, are not looking so bad, with central banks continuing to follow easy monetary policies.

The Indian stock market also appears to be better placed regionally. China has recently faced some strict regulations in the real estate market. China also faces a scenario where interest rates can potentially rise, which is just the opposite for India. Moreover, India's banking sector, which is a barometer for the economy, is already in the advanced stage of the worsening of asset quality cycle and the market may start discounting an upturn from here.

However, India also faces certain risks, wherein the economy may fail to see an upturn, if problems relating to the infrastructure sector are not sorted out. Many corporates are heavily leveraged due to the ambitious projects taken up by the promoters in the power sector a few years back. Unless they are able to deleverage or see their projects get commissioned, the next capex cycle may get delayed and the growth in manufacturing sector, which has been less than 1.5 per cent this fiscal, may fail to pick up. This may restrict the sustained re-rating of the Indian stock market.

The author is ED- Banking & Finance and Head of Research, Daiwa Capital Markets Pvt Ltd