The Reserve Bank of India s (RBI's) war on inflation has had many victims. Some more badly bruised than others. While 13 rate increases since March 2010 have hurt companies, and their stocks, the worst off have been shares that are collectively known as 'interest rate sensitives'. Some of the interest rate sensitive sectors include automobile, power, real estate, textile and construction. However there is a silver lining. The Reserve Bank Of India (RBI) has said its main concern, inflation, is starting to ease up. The central bank's move to reduce the cash reserve ratio (CRR) by 50 basis points in January is regarded as a prelude to a softer interest rate regime.
So with the anticipation of interest rate cut by RBI, one could think of increasing their portfolio exposure to several interest rate sensitive sectors. However it won't be advisable to switch the entire portfolio to the sectors given below immediately.
Automobile sector has been hit hard by high interest rates. The demand for automobiles heavily depends on interest rates as most purchases are on loans. Automakers have faced a tough operating environment in the current fiscal due to elevated auto finance rates and the hikes in retail diesel and petrol prices. So any easing on interest rate front will give a boost to auto demand.
Two sectors badly hit by rising interest rates are real estate and capital goods. Rising rates have affected both developers and buyers. With each increase in the repo rate, interest rates on loans taken for projects increase. The rates on loans to buy houses also increase, affecting demand for houses. Rising interest rates have impacted investment in machinery in all sectors. Further, the infrastructure sector has been under pressure as any investment made at high interest rates today will have a high chance of becoming financially unviable. Easing interest rates will help many companies in these two sectors meet their working capital finances more cost efficiently.
Banking and financial services stocks were among the worst performers in 2011. All sectors from manufacturing and infrastructure to construction and power were forced to delay or cancel capital expansion plans and reduce borrowing. As s result bad loans for banks exposed to these sectors increased significantly. Public sector banks were impacted the most. Cut in rates will help banking sector as banks profitability will improve and load off take will also increase.
While currently investing in such sectors may bode well with investors as many of the stocks are available at cheap valuations. However, it is important to also understand that the RBI may not cut down interest rates too soon. Demand for credit has been slow from companies that have been adversely impacted by the weaker economic conditions. As a result, banks still face high cost of funds. Therefore they may be reluctant about sacrificing their profits by bringing down rates on loans. At the same time, inflation continues to remain above the RBI's comfort zone. These reasons may be worth considering before investors decide to get overweight on interest sensitive sectors.