Should we expect a correction in the Sensex? - The 5 Minute WrapUp by Equitymaster
Investing in India - 5 Minute WrapUp by Equitymaster

Should we expect a correction in the Sensex? 

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In this issue:
» OECD trims growth forecasts for the global economy
» How India turned into an iron ore importer
» India is the top 'offshoring' destination
» Is the car industry really seeing a strong recovery?
» ...and more!

2014 so far has proven to be an optimistic year for Indian stock markets as the Sensex has gained around 27%. The trigger no doubt has been the Modi government coming into power and expectations that his government will set in motion the much needed reforms process for India.

Not surprisingly, once the rally got underway, predicting the next level that the Sensex would touch became a fad for the media and fund managers. Indeed, we had written in one of our editions of the 5 Minute Wrapup, how a panel of fund managers was of the view that the Sensex could very well scale 31,000 by the end of March.

Now, there is another article that we have come across in Business Standard, which questions whether the Indian markets have entered a bear phase. The indicator cited for this is that risk premiums on equities have been quite low and is something that was seen previously before markets entered a bear phase.

The rationale is as follows. An asset's risk premium in some sense is a form of compensation for investors who are willing to take on the extra risk. Now equity is perceived as the riskiest asset class. So when people buy stocks at higher prices expecting more returns, they believe that the risk is lower and so the premiums accordingly have come down. But the riskiness of the asset class itself is ignored. So based on this, there are views that stock markets are due for a correction.

We are not experts at predicting which direction the Sensex will head next. But we do know that one of the primary reasons that fuelled the rally in the first place was that Indian economy is poised for a recovery and that the infrastructure sector will receive a considerable boost. Basically, the focus of the new government will be on growth and development. So it goes without saying that should the government fail to deliver on this front, markets are bound to correct.

At the ground level, there is still quite a lot of work to be done and some problems that have plagued India for the last couple of years have not entirely gone away. For instance, consumer inflation is still high. Industrial production still has to grow meaningfully. And investments in capital goods and projects have still to take off in a big way.

So if the markets have rallied largely on the basis of expectations and sentiments, then it is hardly surprising that there will be some form of a correction. But this should not be viewed negatively, we believe. The Modi government still needs to prove itself and has definitely shown the inclination to do so as compared to the apathy of the erstwhile UPA government. That is why we believe that the growth story for India very much exists. What investors need to keep in mind therefore, is that should the stock markets correct, it could be a good opportunity to buy stocks of good quality companies, which at the current levels are probably too expensive to buy.

Given the recent rally in the Sensex, do you think that a correction is around the corner? Let us know your comments or share your views in the Equitymaster Club.

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02:01  Chart of the day
How is the global economy expected to perform? If the Paris-based Organisation for Economic Co-operation and Development (OECD) is to be believed, all is not well in the global economy. It has trimmed its growth forecasts for 2014 for all large economies except India.

What is the reason for the gloomy growth outlook? Geopolitical tensions appear to be a major risk. The conflicts in the Middle East and Ukraine have been intensifying. Moreover, Scotland is showing signs that may end its 307-year-old union with England. While it is reassuring that the growth forecasts for India have not been cut down, investors must not turn a blind eye to the vulnerabilities and tensions in the global economy. Any adverse developments in the global economy could indeed hamper the prospects of the Indian economy.

How do the growth forecasts look for 2014 and 2015?

What does it say of a country that suddenly turns importer from being a number 3 exporter for a commodity? And that too within a span of just one year. It may perhaps reflect a change in competitive dynamics, isn't it? However, for India it is red tapism. And the commodity in question is iron ore. Bureaucracy has made iron ore mining so painful in India that from being an exporter it will suddenly be an importer henceforth. Approximately 45 m tons of ore is expected to be shipped into India over the next 3 years as Supreme Court clamped illegal mining in mineral rich states of Karnataka, Goa etc. A sudden spurt in demand for steel amidst economic recovery has further increased the reliance on imports.

India is classic case where bureaucracy has hampered production. And turned it into an importer. This has many repercussions. For one, the global mining industry which is facing an oversupply of ore will find a ready market to dump their produce. Hence, a global corporation will stand to benefit as against a domestic player due to inefficacy in governance. Secondly, rising imports will obviously worsen our current account situation. This may put pressure on Rupee. However, with the Modi government seeming to be business friendly we reckon that bureaucratic hassles are likely to come down. And this may change the export-import equation of India soon than deemed.

Despite concerns regarding global growth, the Indian IT sector has done quite well for itself. The 'offshoring advantage' that India provides has stood the test of time. When measured by parameters like skilled labour, costs and business environment, India's lead as the top offshoring destination remains firmly intact. In fact, as per a global study, India may increase its market share over time. As per the study, second placed China, may fall further behind due to rising wages and the trend towards higher-end services. As global IT firms need to constantly move up the value chain to stay relevant, Indian IT firms stand to gain the most. India's leading IT firms have developed the domain knowledge needed, to offer end-to-end solutions. However, this does not mean that all IT stocks will do well. Investors will need to be very stock specific here. Only those companies with a well set business model and run by good managements will do well over time.

The auto industry is currently going through an interesting phase; more so for the passenger vehicle segment. While the volumes have revived in recent months, the fact of the matter is that growth is not seen across the board. It is only selected large players that have done well. For instance, during the April to August 2014 period, Maruti Suzuki, Hyundai Motor and Honda Cars volumes rose by about 16%, 12% and 48% respectively on a YoY basis; on the other hand, volumes of Mahindra & Mahindra, Tata Motors and Renault declined by about 14%, 33% and 33% respectively.

The discrepancy seems to be due to certain factors such as timing of new launches, combined with the demand for diesel vehicles coming down on the back of narrowing difference in diesel and petrol prices as well as change on consumer preference. Given this situation, the managements of the auto companies are not entirely convinced of a full-fledged recovery as yet.

According to us, this gives an indication of how tricky the situation can be. It was not long ago when SUVs and diesel variants of vehicles were in demand. But in a short period, the trend reversed. According to us, new launches made by M&M and Tata Motors going forward would play a significant role in bolstering volumes. And if the Indian economy starts posting a recovery, that in itself will result in the entire auto industry receiving a big boost.

Indian stock markets slipped deeper in the red in the post noon trading session. At the time of writing, the BSE-Sensex was trading down by 154 points (0.6%). Majority of the sectoral indices were trading in the red with realty and energy stocks being the major losers. FMCG and IT were among the few stocks trading in the red. Barring Korea, all the Asian stock markets were trading in the red with China and Singapore being major losers. European markets have also opened the day on a weak note.

04:56  Today's investing mantra
"One of the biggest mistakes is to focus on a stock price instead of its value." - Warren Buffett
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2 Responses to "Should we expect a correction in the Sensex?"


Sep 17, 2014

The market is poised for a correction because the RoCs of the SENSEX and NIFTY have been coming down as these indices were raising. The trigger for a reaction can be in any form and any source(national or international,political or economical).

Like (2)


Sep 17, 2014

your comment on IRON ORE import is in bad taste, why? reason,when court is trying to protect our mother nature and environment u call it RED TAPE? Few days back u were playing song PATANGA to say GAON ki mitti bhir bulave re, and here for wealth to get it ill way u r condemning JUDICIARY? U want to uproot all plant and trees, those nesting place for birds and animals and enter it with bulldozers to destroy everything?Dont just think abt yourself but think abt how u r killing such beautiful jungles and mother nature in name of growth just because they can not defend themselves.Let them at least live there while most of forests have been destroyed due to greed of heartless mankind.Think sometimes beyond money.I expect reply from writer of this sept 16 article.Thanks

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