The sharp correction in prices of listed equities has already had its impact in the private equity space. A few large deals have fallen through since the market crash, with the most noteworthy being ICICI Ventures’ plan to invest $800 million (Rs3,240 crore) in Jaypee Infratech Ltd for a 10-15% stake. Earlier, Indivision India Partners, the private equity fund of the Future Group, called off a Rs250 crore deal with Zee group’s Dish TV.
By and large, private equity deals have fallen through because investors toned down their valuation estimates in line with the drop in prices of listed peers, while promoters stuck to earlier estimates, based on the assumption that the fall in the stock markets is only a temporary phenomenon that will correct over time.
The numerous corrections in the past, such as the ones in May 2006 and in August 2007, only buttress this view, since prices soon recovered and even exceeded the pre-crash levels in a short time.
Private equity investors who scout for value before they make large capital commitments may be salivating after the recent correction, which has shaved off 25-50% for most sectors.
This is especially true in the case of funds that compete with investment ideas across the world, since India-based teams are now likely to have more propositions, as valuations are now more in line with fundamentals. But, they may have to wait before they can strike deals at attractive valuations. Prices would have to sustain at these levels some more time for promoters to be shaken off the view that the correction is a short-term blip. Until then, the private equity space can be expected to be low on activity.
Food retailing has done well during high inflation
Hopes of a rate cut by the Reserve Bank of India faded further on Friday as wholesale price inflation climbed to 5.11% in the year to 1 March. How does inflation impact the stockmarket? The obvious answer seems to be that it depends on the kind of inflation. If wages and raw material prices don’t rise but prices of finished goods do, then that could actually increase the earnings of manufacturing companies.
But, the kind of inflation we’re seeing now, with the WPI index for primary articles rising by 6.9% while that for the manufactured goods rises by 4.2%, would hurt the margins of manufacturers. Moreover, if interest rates rise as a result of higher inflation, then that would hurt earnings.
The latest issue of Citigroup’s Asia Investigator (“Prices are rising, but in all the wrong places”) examines the relationship between inflation and stocks. It finds that regardless of whether we are in emerging or developed markets, inflation has been found to lower all the valuation multiples such as price-to-book value, price-to-earnings, dividend yield and price to cash flow.
The note says, “The bottom line is that inflation and stocks do not form a happy couple...if the market is used to pricing in 2-4% inflation with corresponding interest rates, then 4-8% inflation makes for more challenging times.” The study shows that the only sector that has done well in both the US and the UK during times of high inflation is the food retailing sector. Banking, real estate, manufacturing have all lost investors money during periods of high inflation. In India, however, we have a paradox. Despite the higher inflation rates, the Bombay Stock Exchange’s auto index has been outperforming the benchmark index in recent times.
That’s probably because the central government has succeeded in persuading the state-run banks to drop lending rates, which the markets hope will lead to higher auto sales. The flip side of that persuasion is that the BSE Bankex has severely underperformed the benchmark Sensex. Part of the reason is the negative impact that the policy of forcing bank rates down in a high inflation environment will have on bank spreads.
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