Recent economic data points have failed to revive the market resulting in them touching a new eight-month low on June 11. Last Friday, it recovered a bit, perhaps getting a whiff of the IIP (Index of Industrial Production) numbers that were announced later that evening. IIP shot up by 4.1% as compared to an expected 1.5%.
Earlier, current account deficit (CAD) numbers too were encouraging, so was the step taken by Reserve Bank of India (RBI) in reducing interest rates. Yet markets have ignored the positive news flows and continue to fall.
All through the fall, market commentators offered reasons to justify it. Earlier it was the government’s inability to clear important bills, followed by MAT (minimum alternate tax) on FII’s, hawkish statement by the RBI governor in cutting interest rates and finally expectation of poor monsoon which will impact growth and result in higher social schemes outlays by the government.
Waning interest?
Recent conferences organised by leading broking houses show that there is still good interest in the India story. In the fund manager conference organised by Morgan Stanley there was a 25% higher participation to listen to the India story.
After the recent fall, India is comfortably placed on the valuation band. We are trading below the long-term average valuation band, corporate profits as a percentage of the GDP is well below the average and with lower commodity prices and interest rates earnings are expected to gallop in the future.
However, it will take a few quarters before the undercurrent in the economy starts getting reflected in corporate numbers. But management commentaries in the recent result season points toward a pickup in activity.
Two Flows
Despite the tailwinds, the market continues to fall. There are two main reasons behind the recent fall and both are related to money flows.
One is lack of money flow into the economy – non-food credit – and the second is money flow out of the country, FII (foreign institutional investors) withdrawing money from Indian markets.
Bad loans are preventing banks to lend money into the economy, which in turn is preventing companies to operate or take risk and start new projects. Credit has declined by 2.91% from the start of this financial year while deposits have declined by 1.92%. Loan disbursals are at a 22-year low growing by a measly 8.6% in 2014-15 while deposit growth has plummeted to a 51-year low of 11.42%.
While announcing an interest cut, RBI Governor Raghuram Rajan said that he is front-loading the cut and would wait for data to clarify. Low domestic capacity utilisation, mixed indicators of recovery, subdued investment and credit growth prompted him to cut interest rates. In short, even though many banks have not passed on the earlier cuts, Rajan did so in the hope that banks would do so in the future.
However, many banks have decided to continue with the old rates, but the good sign is that most of them have announced a cut in deposit rates. Cutting deposit rates would mean a lower cost of funds for the banks, which in turn would lead to higher profits and thus a higher risk-taking ability going forward.
Lower non-food credit flow has a direct impact on the fortunes of companies both on the demand as well as supply side. It has resulted in sales of top companies traded on the bourses and tracked by analysts to drop by 5% and profit by 10%.
FII Outflows Near 2008 Levels
FIIs have withdrawn money in eight of the 10 trading days in the current month, resulting in a net outflow of around Rs 4,290 crore. The amount does not look big given the more than 5% fall witnessed in the current month.
FII’s were net sellers in May to the tune of Rs 1,895 crore, but their selling was more than matched by domestic fund buying.
Domestic mutual funds bought Rs 4,176.3 crore worth of shares, more than twice of FII withdrawal, resulting in a positive closing for the month by 3.11%. Domestic institutions in June have pumped in only Rs 2,539.08 crore much lower than the withdrawal of Rs 4,290 crore by FIIs, thus resulting in higher fall on account of lower liquidity.
The only consolation is that the FII withdrawal is not an Indian phenomenon. Global investors have withdrawn $9.3 billion from stocks in developing countries in the week to last Wednesday. This is the highest withdrawal since the global financial crisis in 2008. Asia felt the brunt with $7.9 billion being withdrawn from the region, the highest level in the last 15 years. India being among the chosen destination by these funds was among the first to be hammered.
It does not take long for the FII flows to be reversed which can revive the market. But it is the non-food credit flow that needs to pick-up, which can fundamentally revive the economy and the markets.
(The writer in a Mumbai-based market analyst.)
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