• Contrary Forces
  A further 50-75 basis points cut may be on the cards. However, the impact could be limited by a sharp fall in the rupee value, which may lead to an increase in imported inflation.
• Stocking Up
  The current market conditions give ample opportunity to stack up bluechip companies with strong fundamentals and attractive valuations.

In the wake of the current macroeconomic challenges, the Indian markets have turned into one of the worst performing markets in Asia and the second worst performing emerging markets after Brazil’s Bovespa in USD terms. Fundamentally, the Indian markets are facing a lot of headwinds, right from raging inflation to policy paralysis and from the widening twin deficits to the sharp rupee depreciation. The disappointing GDP and IIP data have added to the woes. The combined effect is evident in the FII outflows seen in the past couple of months.

After witnessing subdued growth of 0.6 per cent in FY12 over FY11, we expect the Nifty earnings to rise by approximately 20 per cent in FY13 and just around 12 per cent in FY14. At the current levels, the Nifty is trading at 14x its FY12 earnings, 12x its FY13 estimated earnings and 10.5x its FY14 estimated earnings. The index is currently trading at an eight per cent discount to its forward multiple’s 10-year average, limiting its downside.

Overall, the Q4FY12 results were moderate, with the trend of strong sales growth and weak margins continuing. However, after several quarters of more than 20 per cent sales growth for Nifty companies, we saw 16 per cent growth in the fourth quarter, the lowest since December 2009. With commodity prices falling and the GDP growth slowing, topline growth is likely to continue falling. The RBI has hinted that a sharp fall in global crude prices would offer it more leeway to cut the rates, and we believe that a further 50-75 basis points cut is on the cards.

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The impact of a cut, though, would be limited to some extent by an equally sharp fall in the rupee, which may lead to an increase in imported inflation. Historically, this has been the worst decline in the value of the rupee. Given the worsening global and domestic backdrop, the currency has depreciated by 10 per cent since March 2012. Surprisingly, FIIs have sold just USD 400 million in Indian equities during the period under review.

From here on, we expect the rupee to stabilise at around the 53-54/USD mark. Of course, given the potential of further worsening of the Euro crisis, the flight from risk could exert a near-term pressure. In such a scenario, a further deterioration to the `58/USD level cannot be ruled out. On the flip side, however, another 50-75 basis points rate cut by the RBI, in an effort to address growth concerns, combined with more correction in oil prices and gold demand would be some positives for the rupee.

The monsoon can be a key trigger for agriculture, as only 40 per cent of India’s cultivable area is under irrigation. Since the sector employs around 60 per cent of India’s population, it is quite important for the economy. A normal monsoon with adequate distribution is essential to cool the stubbornly high and sticky food inflation.

The government policy initiatives to boost investments and cut subsidy burdens will also be a key catalyst. Efforts to control the widening fiscal deficit and attract FDI participation would be the top priority. On the international front, the EU-centric developments will definitely decide the course especially for emerging market equities. The elections in Greece and further liquidity easing measures (LTRO and QE) to tackle the global growth slowdown need to be tracked closely. China’s policy response to avoid a hard landing is another important event to watch out for.

Cyclical sectors linked to the economy could yield good returns on two counts. First, since they are already beaten down, any further downside is expected to be limited. Secondly, with the government taking policy action to revive the economy, these sectors will be the first to outperform. We prefer stocks with low debt, a cash rich position and positive cash flows, and are bullish on L&T, ONGC and RIL.

We recommend retail investors to have a 3-5 year time horizon while investing in equities, as the global economy will take time to fix the structural changes. The current market conditions give ample opportunity to stack up bluechip companies with strong fundamentals and attractive valuations.