Poll: At 5,400 levels...investors prefer caution! - Views on News from Equitymaster

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Poll: At 5,400 levels...investors prefer caution!

Sep 29, 2004

Amidst all the global developments, much of which is not good news for any stock market across the globe, the Indian bourses have rather quietly (relative to the 2003 bull run) headed, once again, northwards, notwithstanding the correction over the last couple of days. In fact, a small faction of the market is already talking about (very much similar to last time) the Sensex vaulting the 7000 levels! In this backdrop, we conducted a poll on our website with the intention of trying to gauge what you, the retail investor, feels about this leg of the rally this time around.

The chart above shows the results of the poll conducted by us, which was, "At index levels of 5,400, your investment strategy is to:" The options provided were buy, hold and sell. The surprise (though not much) was the fact that only 24% of the voters preferred to buy at these index levels, while 48% preferred to hold onto their positions. The balance, 28% of course, had a sell view.

Nonetheless, considering the above poll result in totality, it would not be inappropriate to conclude that there is a certain amount of bullishness amongst investors even at these index levels. But since the buying interest would be limited (as per the poll), the near term index movement seems rangebound. However, just to put things in perspective, compared to a poll conducted on similar lines during March 2004 at 5,300 levels wherein 58% of the voters had opted for the buy option, the optimism has reduced considerably since then.

The reasons for this are not difficult to assess.

  • One being inflation, which is comfortably hovering near the 8% levels that tends to point to the fact that a hike in interest rates is imminent. Further, with the international cues pertaining to interest rates also indicating a rising trend, can India stay insulated for long? We don't think so! This could adversely affect corporate balance sheets, their plans of expansion and also the low-interest rates dependant sectors like auto and housing. However, this would happen only if there is a spike (rapid rise in interest rates in a short period of time) in interest rates. While the possibility of a spike is limited, investor sentiment is likely to remain cautious.

  • The second big threat is a fall in agricultural output in the current fiscal considering the uneven rainfall patterns witnessed over the country in 2004. Since India continues to remain a pre-dominantly agriculture driven economy as nearly 65% of our population depends on this, it has the 'potential' to retard India's growth. In fact, most of the estimates pertaining to India's GDP growth have already been scaled to the region of 5.5%-6% range from the pre-monsoon predictions of 6.5%-7%.

  • The third reason, which actually is the cause for the first reason above, is high crude oil prices. Continuing strong oil demand and continued possibilities of supply disruptions have increased the threat of jeopardizing global growth, leave alone India.

However, the above is just one side of the story. But, if the investor is ready to extend his/her investment horizon period, then we believe that the long-term growth story for India Inc. is not over yet and still has some way to go. Just to jot down a few of the arguments in favour of Indian equity investments:

  • It must be noted that the government, in the last few years, has taken proactive steps in the development of the economy. For instance, introducing power sector reforms, infrastructure development, liberalizing the investment climate and bringing down interest rates. Overall, our economy has become more competitive and flexible.

  • Secondly, having proved its manufacturing (and service) mettle in the last couple of years, India is likely to be a huge beneficiary of the global outsourcing story. India has proved its excellence in many sectors including IT, pharma, auto ancillaries and textiles and is seemingly well geared to become a outsourcing hub for these sectors.

  • Thirdly, though the GDP growth target for FY05 may have been scaled down, over the longer-term, the Indian GDP is expected to grow (more or less) at a CAGR of about 6% (a higher growth is welcome as targeted by the Tenth Plan at 8%). Thus, it continues to remain one of the faster growing economies in the world. Further, with special emphasis having been provided to agriculture and improving irrigation facilities by the current government, there is an increased possibility that the dependence on rain Gods for a good crop would reduce in the future.

  • Last but not the least, from the stock market point of view, the BSE Sensex currently trades at a P/E ratio of 15x trailing 12 month earnings, which is relatively attractive when compared to stock markets of some other emerging economies. Moreover, while the Sensex constituents together have logged in a 17%-18% growth in earnings over the last 7-8 years, even if we assume a CAGR earnings growth of 15% over the next couple of years (including FY05), the Sensex valuation rests between 10x-11x earnings.

It must be noted that currently, the 'India story' is primarily that of growth and to a very small extent that of value (akin to 2003). Thus, while making fresh investments into equities, one has to keep in mind that the under-valuation in Indian equities no longer exists and hence, the investor must be content with the fact that he or she may not get the returns that has been seen during 2003. On the contrary, if one were investing in a stock expecting the growth story to pan out, then he would have to keep a long-term perspective in order to garner sufficient returns.

Thus, the bottomline is that investors, who intend to invest at these levels, must do so keeping in mind the growth story rather than the under-valuation story. Also, one must understand that investments in equities are a risky proposition and a higher level of involvement is required on the investor's part in order to realise consistent and adequate returns over a long-term period. The message here is that while short-term distortions may exist in the market, investors should not be completely oblivious to the same. The implications, on their respective sectors and stocks, have to be studied and factored into the prospects of their investment.

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