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Time to be selective...

Nov 3, 2004

The September quarter saw the Indian bourses clocking gains of over 18%. This was primarily led by ample liquidity prevailing in the market aided by strong FII inflows. FII inflows have been strong mainly due to positive outlook towards the country and confidence in corporate India to deliver performance. However, despite the Indian stock markets having rallied over the last 18 months, we believe that investments into Indian equities continue to remain an attractive proposition. As far as corporate India managing investor expectations is concerned, its performance over the last few quarters is proof enough. While there were (and to some extent they continue to remain) some apprehensions with respect to India Inc. sustaining performance for reasons, which included a faster and higher than expected rise in interest rates, global crude oil prices and to some extent, the high base effect, India Inc. has managed, as yet, to overcome all of these.

Of course, the advantage to Indian corporates here has been that things have not become as difficult as they had anticipated. It must be noted that domestic interest rates have not followed (thanks to ample liquidity) the global trend, barring the recent 25 basis points hike in repo rates in the recent Monetary Policy. Secondly, the high base effect, though distinctly visible in corporate results, is not a reason for concern for sometime as interest rates continue to remain benign and consumer spending continues to remain buoyant. This is vindicated by the fact that while during the June quarter, aggregate sales and net profits of 200 companies (out of BSE-500) increased by 14% YoY and 29% YoY respectively, the same was higher by 17% YoY and 20% YoY during the September quarter!

Thirdly, while oil prices remain the biggest concern, which has been witnessed in the lacklustre behaviour of Indian stock markets in the month of October 2004, the recent cooling off of oil prices by about 10% from their highs of US$ 55 per barrel have provided some relief to market participants. However, it is too early to assume that we are out of the woods considering the fact that oil prices continue to hover at US$ 50 per barrel mark. It is important to note here that as per estimates, every US$ 5 per barrel rise in oil prices retards India's GDP growth by 0.5% and increases inflation by about 1.4%.

Now, let us look at one of the most important parameters for equity investments, valuations. The Nifty is currently trading at 13x trailing 12 months earnings. The indices have sure come a long way since their 10x-11x days. So, have valuations peaked? Is this the end of good news?

Let's not forget that these are valuations based on past performance. The way India Inc. is growing, even if the Nifty stocks log in a cumulative 15% net profit growth, the forward P/E of Nifty becomes about 10x by FY06. It must be noted that the Indian stock markets have usually commanded an average P/E valuation of about 15x-16x, a fact justified by the CAGR earnings growth of approximately 18% of benchmark index companies over the last 8 years. In this sense, Indian markets continue to look attractive from a long-term perspective.

It must further be noted here that India and China are amongst the fastest growing countries in the world. Moreover, due to their size, the quantum of growth is enormous. India in recent years, has taken some good steps in terms of policy announcements for infrastructure development and also considering the reforms process currently underway in the country, the climate looks conducive for growth. Our per capita consumption of most goods is still much below global average. In this scenario, it makes sense to stay invested in India with a long-term view. But the key to success for the retail investor always lies in being aware and investing selectively in quality companies.

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