Mumbai: Inflation concerns and rising prices of commodities have weakened the outlook on Indian and emerging market equities even as analysts and fund managers have started betting on certain sectors catering to global markets and commodity plays.
Expectations of higher global growth have led to a rally in developed market equities and commodities and taken some shine off domestic demand-driven economies such as India and Indonesia, which were the top performers among emerging markets in 2010. The Sensex, India’s bellwether equity index, has fallen by 6.6% in the past three months underperforming the MSCI emerging markets index by 8.5%.
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Fund flows into all equity funds hit a five-week high of $10.1 billion in the week ended 19 January, according to fund-tracker Emerging Portfolio Fund Research Inc. While flows into equity markets have been rising globally, Indian markets have seen a net outflow of $850 million in January.
The International Monetary Fund (IMF) on Tuesday raised its global growth forecast for 2011 by a quarter of a percentage point to 4.5% for 2011 and the target on US growth to 3% from 2.3% earlier. Recovery in the US is good news for software firms and most analysts are bullish on IT stocks which have risen 8.11% in the past three months even as the 30-stock Sensex fell 6.5%.
Another favourite bet— pharmaceutical companies with overseas businesses. The defensive nature of these stocks has seen them outperforming in recent weeks. Several pharmaceutical firms such as Aurobindo Pharma Ltd, Cadila Healthcare Ltd, Glaxosmithkline Pharma Ltd, Sun Pharmaceuticals Industries Ltd and Torrent Pharmaceuticals Ltd have hit their lifetime highs this month.
Auto ancillary players such as Motherson Sumi Systems Ltd and Bosch Ltd have also seen their stocks hit lifetime highs on expectations that higher global trade will lead to larger exports. With the Indian central bank raising its inflation projection for the fiscal year ending March to 7% from 5.5%, the focus is now on sectors and companies that stand to benefit from rising prices or enjoy higher pricing power.
The “inflation debate has moved on from the risk of rising inflation to a focus on how to profit from what increasingly looks like a structural shift in prices,” said Clive Mcdonnel, Asia strategist of BNP Paribas bank, in a 20 January note to clients.
Metal firms seem to find favour over oil and gas companies among the commodity plays. “We can expect backward integrated metal companies to do well in the current environment,” said Deepak Jasani, head of retail research at HDFC Securities Ltd. Large steel companies such as Tata Steel Ltd and Steel Authority of India Ltd, for instance, have their own captive mines which help them contain input costs.
Even among FMCG stocks, the consensus seems to favour companies such as ITC Ltd and Asian Paints Ltd, which enjoy better pricing power.
Sticky food inflation could bring about higher investments in agriculture aided by policy measures, an 18 January report by Arya Sen and Ajay Mookim of Credit Suisse AG pointed out.
“The main listed beneficiaries would be in fertilizers and micro-irrigation,” the note said. Stocks such as Jain Irrigation Systems Ltd , Zuari Industries Ltd, United Phosporus Ltd, Finolex Industries Ltd and VST Tillers and Tractors Ltd could be the major gainers, it said.
Yet the fact remains that rising inflation and higher interest costs are not conducive to most domestic consumption plays such as automobiles or banks, which led the stock market rally last year.
Rate-sensitive sectors such as banks, real estate and automobiles have seen the biggest fall in the recent market correction. The Sensex has fallen 7.51% this year.
“Inflation is a concern for most sectors and rising interest rates would limit the potential of earnings upgrades,” said Amit Nigam, head of equities at BNP Paribas Investment Partners Ltd. The Sensex trades at 16 times its estimated earnings for fiscal 2012.
“While foreign investors have not turned heavy sellers, they are not making fresh allocations to India either,” said Vikas Khemani, head of institutional equities at Edelweiss Capital Ltd. “I expect the broader markets to remain flat and stock-specific movements, depending on results.”
Ashwin Ramarathinam contributed to this story
Graphic by Ahmed Raza Khan/Mint