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Indian markets have been buoyed by the abundant foreign institutional investor (FII) inflows over the past few months, thanks to overflowing liquidity in the global economy. Markets have also benefited from lower Wholesale Price Index (WPI) inflation leading to expectations of further interest rate cuts by the Reserve Bank of India. On the other hand, growth continues to be disappointing, with GDP having grown only 4.8 per cent in the January - March quarter and by 5 per cent for FY13 as a whole. Corporate profit growth has also been below expectations, with the Sensex profits increasing by only four-five per cent in FY13 compared with initial expectations of 10-12 per cent. The Nifty, however, has gained around 15 per cent over the past year - evidence that private equity (PE) multiples have expanded due to the abundance of liquidity.
While economic growth is expected to improve moderately in FY14 because of government's actions of the past few months, inflation is also expected to somewhat moderate further due to lower international commodity prices. However, there remain significant concerns on acceleration of capital expenditure and removal of infrastructure bottlenecks in both public and private sectors. Also, real interest rates still remain negative, thus slowing deposit mobilisation. Global strength of the dollar is also putting pressure on the rupee, which has again begun to depreciate significantly over the past few weeks. While the current account deficit is likely to somewhat moderate in FY14, it will still remain an area of concern.
Consequently, RBI might find it difficult to cut rates aggressively and the transmission of lower rates into the banking system may not be all that easy.
Global conditions over the past few months present a mixed picture, while global financial market conditions have improved. The US economy seems to be gaining ground, as recent data point to an improvement in the labour market, housing and consumption. Despite moderate pick-up in growth, the US Federal Reserve has affirmed it will continue with its efforts to stimulate the economy until the unemployment rate drops below 6.5 per cent. However, fears have re-emerged in the global markets that the Fed might cut the stimulus progressively going forward. This could mean further strengthening in the dollar and a consequent weakening of the rupee, which could have adverse implications for inflation and the stock markets.
At present, analysts expect a 13-14 per cent increase in profits for FY14. The jury is still out on whether these estimates would undergo downward revision as the year progresses. In terms of valuations, the markets are now trading at around 14-15 times of FY14 earnings and are therefore fairly priced. A further upgradation of valuation is unlikely, more so because of impending elections in 2014. However, the downside in the market is likely to be protected due to global liquidity conditions, as well as moderate improvement in the economy and somewhat attractive valuations at lower levels. The markets are therefore likely to trade in a range of 5 per cent plus minus from the current levels.
The author is Group CIO, IL&FS Ltd
