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Weighing pros and cons!

May 7, 2005

After last week's excessive volatility, there was some respite for investors during this week, as the markets managed to post gains on all trading days. The continued flow of good corporate results during the week revived investor sentiment. Both the benchmark indices gained about 4% each with buying witnessed across sectors. After a lacklustre show in the earlier week (ended May 29), markets opened on a cautious note this week. Monday saw the benchmark indices opened rather subdued on the back of unfavourable global cues, particularly pertaining to the US markets. Though the indices managed to recover ground and close in the positive, the optimism seemed to have been clouded by caution. Something similar was seen on Tuesday as well. Positive vibes from the US Federal Reserve while raising the federal funds rate by another 25 basis points to 3% and maintaining a 'measured' outlook on the same led to strong gains on Wednesday. The Fed also indicated that the long-term inflation outlook remained benign, thus bringing some cheer to investors who had been fearsome of a faster rise in the US interest rates, which would then have affected Foreign Institutional Investors (FIIs) flows to emerging markets.

With respect to the implications of this move on the Indian stock markets, as we have maintained before, equity money flows into emerging markets like India could be impacted in the medium term. While we continue to be strong believers of the 'India story' from a long-term perspective, the recent slow down in FII inflows does point to the fact that it may not be a easy ride for the Indian stock market this fiscal. Therefore, investing in stock markets on the belief that FIIs will continue to pump in money into India is fraught with risk. To that extent, one has to be cautious.

Trades on Thursday and Friday again saw the indices notch strong gains, mainly led by buying in banking stocks. This was fallout of positive vibes from the government regarding the continuance of the reforms process in the Indian banking sector. During the week, the government announced the removal of cap on voting rights in private sector banks, linking them to the shareholding, which was a long-standing demand by foreign investors. This move is likely to empower RBI to supercede bank boards and order special audit of the accounts of co-operative banks. Besides, banks will be permitted to issue preference shares, an alternative mode of raising equity, without tinkering with the shareholding. The Reserve Bank of India (RBI) Act amendment will lend the central bank operational flexibility to set the cash reserve ratio (CRR) and statutory liquidity ratio (SLR). The twin move of flexibility in fixing the CRR/SLR limits will also aid liquidity management by banks.

Key gainers over the week (NSE-50)
CompanyPrice on
Apr 29 (Rs)
Price on
May 6 (Rs)
%
Change
52-Week
H/L (Rs)
BSE-SENSEX 6,154 6,388 3.8% 6,955 / 4,228
S&P CNX NIFTY 1,903 1,978 3.9% 2,183 / 1,292
ZEE TELE131 150 14.6% 189 / 100
HPCL303 334 10.2% 480 / 262
BPCL347 378 9.1% 500 / 230
HERO HONDA504 541 7.3% 616 / 320
INFOSYS1,887 2,022 7.1% 2,423 / 1,031

Now let us consider some sector/stock specific developments during the week.

  • Zee Telefilms stock was the biggest gainer for the week. The optimum towards the stock could be attributed to the good set of number declared by the company for the quarter and fiscal ended March 20005, and a positive outlook provided by the management. As far as the company's 4QFY05 numbers were concerned, they were in line with our expectations. Both the topline and the bottomline during the quarter managed marginal growth rates of 1% and 2% respectively. For the full year ending March 2005, the bottomline grew by 16% on the back of a 3% rise in topline, thanks to the 380 basis points improvement in full year operating margins. Going forward, the prospects for the company remain promising considering its efforts on the DTH front and the buoyancy in the Indian economy that augurs well for the company's advertisement revenues. Other media stocks

  • One of the biggest news of the week was the proposed acquisition of minority stake in Flextronics Software Systems (FSS, the erstwhile Hughes Software Systems) by its Singapore-based parent, Flextronics. The latter has offered to buy out the 30.3% minority stake in FSS at a price of Rs 575 per share and, consequently de-list the stock from the Indian bourses. When Flextronics had acquired a majority stake in FSS, we had asked investors to take this news with caution as MNCs have a history of delisting their subsidiaries from the Indian bourses. This deal only confirms our concerns regarding foreign parents delisting their Indian subsidiaries, thus denying the retail investors a chance to partake in the future growth. However, the offer price of Rs 575 implies a price to earning multiple of 16.1 times our estimated FY06 EPS, and considering these valuations and also the fact that the stock has been one of the most volatile ones from the sector in the past, we believe that FSS' shareholders have got a fair deal from Flextronics. Other software stocks

    Key losers over the week (NSE-50)
    CompanyPrice on
    Apr 29 (Rs)
    Price on
    May 6 (Rs)
    %
    Change
    52-Week
    H/L (Rs)
    HLL138 134 -2.5% 170 / 101
    OBC273 269 -1.4% 382 / 149
    SUN PHARMA499 494 -1.1% 575 / 278
    GRASIM1,163 1,150 -1.1% 1,404 / 840
    VSNL209 207 -0.9% 252 / 110

  • From among Nifty stocks, HLL was the biggest loser during the week. This was due to the fact that the company had earlier announced poor results for the first quarter of CY05. During the quarter, while profits have declined YoY by 15%, this was despite a decent topline growth of 7% YoY. Importantly, HLL's margins declined by a substantial 560 basis points to 9.7%. Though the company did hike its prices marginally by 5% during the quarter, it was not able to benefit from the same. This was because input costs have escalated owing to crude oil blues and continued brand investments. We have continued to indicate that HLL is in for tough times in the near term. We foresee the company taking radical steps to improve its performance, but these will be visible over the next couple of years. Other FMCG stocks

Apart from the above, there were some important results that were declared during the week, which included those of IDBI, Dabur, Flextronics, P&G, ICICI Bank, Bank of India, Gillette India, Maruti, Godrej Consumer, HDFC, Hindalco and GAIL. For our detailed analysis on all these results and more, kindly click here

Conclusion
Going forward, with almost all of the key India Inc. results now out of the way, investors would now get back to their number crunching game and re-focus on the future of these companies. While the current market valuations of 11 times one-year forward earnings does not seem expensive, the challenge for India Inc. to deliver from hereon would stand increased considering a scenario of hardening interest rates, stronger oil prices and no relief on the inputs front as commodity prices continue to hold ground. Further, another important parameter that would now come under investor radar would be the onset of normal monsoons in about a months time from now, which could set the stage for continued demand or provide a setback in the event of abnormal/uneven rains.

In these uncertain times, thus, investors need to ingrain in their minds what the legendary investment guru, Benjamin Graham once said, '...in the short term, the market is a 'voting' machine whereon countless individuals register choices that are product partly of reason and partly of emotion (consensus). However, in the long-term, the market is a 'weighing' machine on which the value of each issue (business) is recorded by an exact and impersonal mechanism (fundamentals).' Happy investing!

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