No reason why India cannot get out of bear grip

Narendra Modi swept to election victory on a pro-business economic platform on May 16 2014, pushing India’s benchmark Sensex share index to a record high of just over 24,000 points. The Modi effect did not stop there: India’s bull market kept climbing, racing up a further 23 per cent to hit an all-time peak last January.

But with world markets in free fall, last week the Sensex finally gave up all those gains, closing beneath 24,000 for the first time since Modi’s triumph. Stocks have since recovered somewhat, with the market opening up slightly at about 24,550 on Wednesday morning (January 27). Still, hopes that India’s robust growth and reform-minded prime minister could offer protection against a worsening global sell-off have evaporated, with local headlines warning of a bear market instead.

India’s position still looks healthier than its developing market peers. Headline growth hit 7.4 per cent over the last quarter, making it the world’s fastest growing large nation. Falling oil prices provided a big boost to its energy import dependent economy last year too.

Even so, worries about vulnerability to a global slowdown, combined with diminished expectations over the pace of Modi’s reforms, have taken their toll. “2015 disappointed hugely,” analysts at Nomura in India wrote last week, arguing investors had been spooked by factors ranging from weaker than expected monsoon rains to the effect of plunging commodity prices on local energy, metals and resources groups. “The market was caught in a perfect storm.”

Global factors have weighed more heavily of late but weak corporate earnings have also played a part, according to Herald van der Linde, HSBC’s head equity strategist for Asia — with no signs of a rebound so far in the current third-quarter reporting season. “In 2015 it looks like earnings growth came in at about 7 per cent,” he says. “For 2016, expectations are for 19 per cent earnings growth, which is very high. We need to find a very good reason for earnings to accelerate like that.”

Investors have shifted India from a dominant consensus overweight position last year to a more neutral stance, according to a survey by Bank of America Merrill Lynch. Foreign fund managers have already pulled $1.6 billion out of Indian equities so far this year, reversing much of last year’s $3.75 billion in inflows.

Not everything is gloomy. Many analysts predict the Sensex will bounce back, possibly even moving back above 30,000 by the end of 2016, according to Morgan Stanley.

Optimists hope India’s growth will finally trickle down to the corporate sector, potentially helped by Modi’s upcoming annual budget in March, in which his government may loosen its fiscal target, providing a short-term boost to public spending.

Meanwhile, the recent weakening of the rupee is set to help exporters, aiding sectors such as IT services and generic pharmaceuticals. Having held steady for much of last year, the currency hit its weakest level in more than two years last week. Some analysts think global worries will now weaken beyond the record Rs68.85 required to buy a single dollar during the currency crisis of August 2013.

More generally, Reserve Bank of India and its governor, Raghuram Rajan, are likely to offer limited assistance, with a further 25 basis points in rate cuts expected early this year. Domestic inflows into mutual funds hit record levels during 2015, a trend that could also offset further outflows from foreign fund managers this year.

Meanwhile, for investors pondering whether India’s correction now offers a buying opportunity, the market no longer looks expensive. The Sensex’s 12-month forward price-to-earnings ratio dropped to 14.8 in mid-January, falling below its long-term average of 15, according to Nomura.

Even so many are likely to remain cautious. Structural economic reforms, notably the introduction of a long-delayed nationwide goods and services tax, could inspire confidence — but only if Modi can push them through a gridlocked parliament.

Here the prime minister’s record is mixed. With important regional elections looming later this year, his willingness to push through unpopular measures is also open to question.

Instead India’s best hope of a return to more bullish conditions may rest on the current global sell-off being short, and China’s economic situation in particular proving less severe than many fear.

If so, India remains one of the few bright spots in Asia. As Morgan Stanley’s India team put it: “India is still the best house in a bad neighbourhood.” It will want, at the least, to stay that way.

— Financial Times