Another month has passed by and markets continue to trade in a narrow range, giving no major positive or negative performance. Equity markets in India are up about 4.5% over the past 11 months and Indian markets continue to trade near their recent highs, whereas most other markets like US, Japan, China and Europe trade much lower than their recent highs. Market did trade higher during the month, but corrected towards the end of the month of the back of continuing negative news from other global markets. Earning growth for the last quarter has also trailed analyst expectations, due to margin pressure.
Indian markets are influenced by twin conflicting forces, which currently are balancing out each other. On one side, the Indian economy continues to grow at a reasonable pace and the government fiscal situation continues to be reasonably good. On the other hand, stocks in India are trading at higher valuation levels compared to even the US market – which has traditionally traded at a premium. More importantly, there is a risk of Indian economy slowing down as the RBI continues with its policy of increasing interest rates to counter run away inflationary conditions.
Though large cap stocks continue to remain in a small trading range, small cap stocks remain buoyant, giving us some opportunity to exit from investments that are trading at expensive levels. Liquidity levels have also vastly improved in several of these situations, to a level which historically has not been sustainable. We are also starting to see some value emerge, among companies that we believe one should own for the longer term. These stocks are currently trading at interesting prices, but not compelling enough to commit large amounts of capital, but we look forward to adding these companies to the portfolio soon.
We believe the key driver for the stock markets in the coming months would be interest rates. It has been close to 2 years, where real interest rates have been negative. Inflation on one side is well in excess of 10%, whereas the bank deposit rates have been closer to 6%. Car loans and home loans are available at available at rates lower than inflation rates. Over the past couple of years the scale has tilted in favor of consumers and away from the savers. One can judge the performance of the economy only when this distortion is removed. So far the regulators have been reluctant to address this distortion, due to the need to continue stimulus measures. This stand by the regulators has started to change and we could see a period where these distortions are removed. This period can and will have implications on asset prices, including equity market valuations.