Will India's CEO Ensure That Stock Markets Rally Next Year?

Oct 17, 2015

In this issue:
» Demand for commercial realty in India picks up
» Jim Rogers' views on the Middle East turmoil
» Weekly Round-up of the markets
» ...and more!

Are the CEOs of India Inc a disgruntled lot? One can one assume that they are. For the kind of change that was expected from the Modi government has not really taken place.

An article in the Business Standard points out that most CEOs are not yet ready to entirely write off the current government. After all, it's just been a little over a year since he has assumed office. Indeed, these CEOs know better. They have run companies for longer periods of time and have seen good times as well as bad. In the same context, they think that Modi is the political CEO of India and to judge him properly one needs to give him more time.

So India Inc is ready to wait it out. But it only means that there is a lot of improvement that the current government still needs to work towards.

Let us first look at the positives. India Inc is happy with the prospect of change that the Modi government promises. And CEOs strongly believe that this is a much stable and more capable government than what India has seen in the past. Modi has also been working towards convincing world business leaders that India remains an attractive investment destination. Modi's 'Make in India' initiative has also generated positive responses.

So far so good. But there are challenges too.

The infrastructure, power and industrial sectors still need to be revived. Large number of projects still remains stalled. Investment cycle has yet to pick up in a big way as companies remain wary of investing in an uncertain climate.

The problem of rising bad loans in banks is an issue. Critical tax reforms have yet to be implemented.

In a nutshell, in a set of questions posed to the top CEOs of India Inc, around 70% opined that the business has not improved for their respective companies since the Modi government took charge. At the same time, around 75% are willing to invest more next year. This means that they are still willing to give Modi government another chance to start getting things going on ground.

Should the Modi government start delivering, how will this impact your stock investments?

You would recall that Indian stock markets were volatile in the fag end of the reign of the erstwhile UPA government. This changed when the Modi government won the majority and stock markets zoomed. The rise was so spectacular that it was only a matter of time before a correction took place. Indeed, the rally in the markets was largely based on unrealistically high expectations. And once it became clear that things on the ground will take more time to improve, a sell-off ensued.

So even if the outlook for India GDP growth and corporate earnings still remains positive, we believe that it is not sufficient reason enough to blindly invest in stocks based on this theme. The recovery in the Indian economy will influence the business and profitability of various companies differently. Moreover, what is the price that you are willing to pay for these corporate profits? It cannot be too high, because even if the profits of those companies grow at a healthy pace, your returns from those stocks will not amount to much in the longer run. Thus, be patient, keep your expectations realistic and only invest in those stocks which are trading at reasonable prices.

Do you think that the Modi government still has what it takes to turn things around for the Indian economy? Let us know your comments or share your views in the Equitymaster Club.

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 Chart of the day
Residential housing prices in India's metros have gone through the roof over last 10 years. But the rental yields have hardly been lucrative enough. Stagnating at low single digits the residential rental yields continue to reflect the oversupply situation. But the story is quite different when it comes to commercial real estate. On one hand, multinational companies have increasingly shown the inclination to have presence in India. Apart from their demand for quality office spaces, their deep pockets have boosted prospects of commercial real estate. On the other hand the e-commerce boom has taken over from where Indian IT sector left in terms of domestic demand for commercial real estate.

As per a Knight Frank report quoted by Economic Times, the demand for some pockets of commercial realty is so high that Mumbai, Bangalore and Delhi top global commercial property rentals. At a lofty 10%, the average rental yields in these cities stand much higher than the 2.5-3% yields fetched on residential properties. Not just that, the rental yields are almost double the yields from commercial properties in Washington, Sydney and Shanghai. This may be good news for the real estate players. But steep rental costs can be quite a deterrent for an economy that is trying to boost entrepreneurship with start ups.

Demand for commercial realty in India picks up

In investing, we can never really know all the risks that lie in the future. And if they are known, they are probably already reflected in the stock price. Therefore, the real threat is not from risks that are known but the ones that can hit us out of the blue. These are also known as what Nassim Taleb calls the Black Swan events.

And if commodities guru Jim Rogers is to be believed, one of these Black Swan events could be the current turmoil in the Middle East. Newsmax reports Rogers as saying the whole Middle East situation is just unbelievable. As a matter of fact, he cannot think of many times in history where there was so much just pure, pure chaos by so many people.

Well, Jim Rogers is a pretty well read person and therefore, there's a strong reason for us to at least take some cognizance of his prediction. However, what matters in investing is not whether something you've predicted comes right or not. But how are you preparing for it. And therefore from that perspective, it always makes some sense to keep some cash and gold handy. The former in case there's a correction and good long term opportunities come up. And the latter purely as an insurance against any strong currency devaluations.

Global markets closed the week on a positive note with a majority of the indices ending in the green. Asian indices rallied on growing expectations that the US Fed will hike interest rates only next year due to concerns of global economic slowdown. The Chinese market was the biggest gainer fuelled by speculation that the dragon nation would introduce more measures to stimulate the economy. Barring Japan, all the Asian markets posted gains during the week.

The US markets ended with marginal gains as upbeat prices and jobless claims data eased some concerns about the economy. The Eurozone slipped back into negative inflation exerting pressure on the European Central Bank to extend its quantitative easing program. Among European markets only Germany ended with gains during the week. Back home, the Indian markets ended higher. The BSE Sensex was up 0.5% for the week.

Among the sectoral indices, stocks from the capital goods and auto were the top gainers. Stocks from the software sector were the biggest losers for the week.

Performance during the week ended 16 October, 2015

 Weekend investing mantra
"Asset-heavy businesses generally earn low rates of return - rates that often barely provide enough capital to fund the inflationary needs of the existing business, with nothing left over for real growth, for distribution to owners, or for acquisition of new businesses"- Warren Buffett

This edition of The 5 Minute WrapUp is authored by Radhika Pandit (Research Analyst).

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