In spite of the sharp rise in wholesale price inflation in recent weeks, both the bond and stock markets seem to believe that, so far as inflation is concerned, the worst is over. Consider the way the interest-rate sensitive stocks have behaved since 29 July, when the Reserve Bank of India raised its policy rate.
Since then, the Bombay Stock Exchange (BSE) banking index, the BSE Bankex, is up 7.4%, while the BSE Realty index is up 3.1% and the BSE Auto index up by 5.8%. Since the Sensex is up only 4.4%, the banking and auto sectors have outperformed the benchmark, while realty hasn’t. The rate sensitives had rallied even higher during the middle of the month but have since been dragged down as crude oil prices bounced back last week.
Now consider what’s happened to the government bond market. The benchmark 10-year bond yield ended at 9.06% on Friday, a long way below the the 9.4% mark they had settled at on 29 July. The yield had earlier tumbled to 8.8% as crude oil prices fell. Rate sensitive stocks have moved in tandem with bond prices.
(BACK IN FAVOUR) CLSA strategist Christopher Wood is firmly of the view that inflation is yesterday’s story. Writing in his strategy newsletter Greed & Fear, Wood outlines the case for renewed bullishness on India. He says he is “now of the view that oil and the commodity complex in general have commenced a medium-term correction which will last for several quarters and not just weeks. This would be a major positive for India from a relative-return perspective in the context of dedicated Asian and global emerging market portfolios. For oil and commodities are correcting because of slowing global growth and India’s economy is much less externally driven than most emerging markets, especially Asian economies. This is why Greed & Fear will this week raise India’s weighting in the relative-return portfolio by three percentage points to an “overweight”, with the money taken from China, Korea and Taiwan.” Indian banking stocks are singled out for special mention, since they are seen to have the least exposure to “dubious structured products”.
India benefits from shifting its focus to growth
Recent market behaviour confirms that the “India is relatively insulated from a global slowdown” story is re-surfacing. The Sensex, the Bombay Stock Exchange’s benchmark index, is up 14.5% from its recent closing low of 12,575 on 16 July, just after international oil prices had peaked. The only other major Asian market that’s now at a higher level than where it was at its close on 16 July is Taiwan, which is up a mere 3%. (The Philippines market, however, has done even better than India). The rest of the Asian indices—the Nikkei 225, the Straits Times index, the Seoul Composite, the KLSE Composite, the Jakarta Composite, the Hang Seng and the Shanghai Composite index—are all lower than where they were on 16 July. The Shanghai Composite, Chinese index, hasn’t been buoyed by lower oil prices at all, falling 11% since 16 July. While the easing of political concerns has also had a hand in supporting the Indian market, there’s no denying that it’s one of the biggest beneficiaries of lower oil prices. Earlier, when oil prices were rising, the Indian market was one of the worst hit.
Does that mean the market will continue to outperform if oil prices go down further? That’s what it looks like if recent trends hold, but not everybody is convinced. A note by Goldman Sachs, India: false start, suggests selling into rallies because of three reasons: high valuations, an expected rebound in oil prices in the fourth quarter and lower growth in future. Even if oil prices do not rebound, the other two reasons will cap a rally. For instance, it says the Indian market trades at 14.4 times 12-month forward earnings and 3.2 times 2008 expected book value, which is a premium of 25% and 80%, respectively, to the region. It is also very negative on growth, estimating that growth in gross domestic product would fall to 7.8% this fiscal year and to 7.2% “or possibly less” by fiscal 2010. That would mean further downward revisions in earnings.
But even that note says, “In addition to the obvious benefits of stable or lower oil, we note that India has an added benefit relative to some other regional markets of being less exposed to G3 growth. Thus, if markets continue to focus on slower global growth (as opposed to low growth and high inflation), Indian equities could remain well supported.”
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