March 2017: Stability reassures markets

The Nifty was up 18.6% this financial year, but when we see it in the backdrop of a negative 8.9% return last year, it translates into a 4% per annum return over the last 2 years. The Nifty has been range bound since January 2015 and the market continues to be very stock selective. The capital goods cycle has been subdued for some time. The historical baggage of bad debts continues to affect the balance sheets of banks and this has had a concomitant impact on the incremental lending by PSU banks. Corporate revenue and profit growth over the last 2 years has been slower than its own historical growth trajectory.

On the other hand, we have also seen positive news building up steadily over the past 2-3 years, which should form a basis for a long term economic recovery. Lower inflation, and therefore lower interest rates, are now a reality. About 20 years back, infrastructure projects (like the Mumbai – Pune expressway) were getting funded at rates close to 16% pa. Similar projects can get funded at rates close to 7-8% pa, if they were to get implemented today. Such a large fall in rates makes many projects viable, and low rates are an essential precondition for a larger infrastructure project roll out. Consumer purchases, like homes and other consumer durable goods, will benefit from lower interest rates. With reduced stimulus and more efficient subsidy delivery systems, fiscal deficit is under control – and therefore there is a realistic possibility of low interest rates continuing.

Over the last couple of months, FII investments in India have picked up, with FIIs investing nearly Rs 27,000 cr in Indian markets in March 2017. Overall, investor confidence has increased, partly led by the election results in UP. The election results suggest a greater probability of the party in power continuing beyond 2019, leading to increased probability of policy stability. Equity markets love stable policies, especially so if they are pro development. The current electoral trends portend stability over the medium term.

Many of the key measures taken up by the government will have far reaching positive impact over the coming years. The new GST regime, which is being rolled out later this year, will lead to huge efficiency gains across the country. Recent moves, like providing interest subsidy to middle income housing has a huge multiplier effect on the economy. There have been some positive developments with regards to ease of doing business. Ability of the PSU banks to lend is a key bottleneck, and hopefully we should see some resolution to the bad debt problem soon.

Though equity markets have been consolidating over the past two years, and growth for companies has been relatively muted compared with their own historical rates of growth, we believe that the setup conditions are favourable for sustained long term economic growth. Not only is the Indian consumer on a favourable wicket (with lower consumer prices and lower interest rates), but the government policy environment is progressive and increasingly likely to continue.