The government has tried to address various issues, including the NBFC crisis. These measures have brought back some confidence to the market, especially in housing finance
DHANANJAY SINHA, HEAD OF STRATEGY AND CHIEF ECONOMIST, IDFC SECURITIES
rapidly. “Investors should now go for only quality stocks and not try to catch sliding stocks where there are controversies or corporate governance challenges,” says Sedani of Anand Rathi. Some mid- caps remain attractive in pockets that are showing value such as those in chemical and oil and gas sectors, he adds. “Yet, one has to be very selective in small- and mid- caps for another six to 12 months.”
Corporates on Sticky Wicket
Caution for investors becomes all the more important because while markets have been regaining confidence, improvement in overall corporate earnings is a distant reality. In the first half of FY20, net sales of 2,398 BSE-listed companies were flat, showing growth of only 0.4 per cent. But more worrisome was the decline in net profit – it contracted
27.7 per cent over the first half of FY19. On a quarterly basis, net sales contracted 2.7 per cent in the September quarter, while net profits nose- dived 65 per cent.
One of the reasons behind this decline is the growth in the interest expenses of companies. Despite backto-back rate cuts of 135 basis points by the Reserve Bank of India (RBI) since February, the lending rates have been hovering between 10 and 12 per cent for most companies. This reduced the interest coverage ratio for companies from
5.4 times to 4.8 times in the first half of this fiscal. This means the companies’ ability to service debt weakened.
For companies, excluding those in the banking and finance space, the cost of power and fuel moved up, while depreciation jumped almost 24 per cent, in the first half of FY20. And for the September quarter, the mega losses posted by telecom companies have pulled down the overall profits of India Inc. The bankrupt Reliance Communications announced losses of ` 30,000 crore while Vodafone Idea posted India’s biggest-ever quarterly loss of ` 50,921 crore.
Corporate earnings are expected to deteriorate as the benefit of corporate tax cuts could be largely offset by a sharp deceleration in GDP growth, says Gohil of Credit Suisse Wealth Management. “Nonetheless, hopes of further reforms and global risk- on sentiments are likely to keep equity valuations elevated.”
Government Push
The government has already announced a ` 25,000 crore alternative investment fund for the real estate sector to bail out stalled housing projects in the affordable and mid-income segments. In August, it brought out a package to aid the auto sector by actively pushing government departments to purchase new vehicles and increasing the rate of depreciation to allow businesses to write off vehicles faster.
For the banking sector, Sitharaman announced an upfront infusion of
` 70,000 crore in order to boost lending and improve liquidity. Housing finance companies were given an additional ` 20,000 crore from the National Housing Bank ( NHB). And the funding to NHB was increased to ` 30,000 crore from ` 20,000 crore.
“The government has tried to address various issues, including the NBFC crisis. I believe these measures have brought back some confidence to the market, especially on the housing finance side,” says Sinha of IDFC.
But economists believe that only supply side measures aren’t enough. “The government, besides measures like reducing costs, also needs to step up spend on rural infrastructure such as roads and housing and the Mahatma Gandhi National Rural Employment Guarantee Scheme to generate large-scale employment, which could stimulate consumption demand,” says Sunil Kumar Sinha, Principal Economist and Director, Public Finance, India Ratings.
The central government’s total expenditure ( both revenue and capital) as a percentage of GDP has been declining since
2010/11. From 15.4 per cent of GDP in FY11, it has hit a low of 12.2 per cent of GDP in FY19. This slide is driven by the government’s aim to check fiscal deficit, which has gone down from 4.8 per cent of GDP in FY11 to 3.4 per cent in 2018/19.
“An important factor is the slowdown in demand led by poor government spending,” says IDFC’s Sinha. The Centre for Monitoring Indian Economy (CMIE) said in January this year that fresh investment in the public sector had reached a
14-year low at ` 50,604 crore in the December quarter of FY19. Government spending helps the economy both directly and indirectly. The direct help is through employment schemes and subsidies, which gives more spending power to people. And indirect spending through projects to boost housing, agriculture and infrastructure development also improves demand and consumption.
While the government has announced various sectorspecific measures and a cut in corporate taxes, economists believe it has not directly addressed the widespread weakness in consumption.
“The recent measures are likely to support growth only in the medium to long term. Also, as most of the measures aim to reduce the cost of goods and services, they are essentially a supply-side response to revive growth. The bigger challenge facing the economy is from the demand side as consumption has collapsed and private corporate investment is not forthcoming,” Sinha of India Ratings adds.
Market experts are hopeful that the current levels can be sustained till the Budget is presented in February next year or the end of this fiscal. “Expectations are building up around the Budget and stimulus packages that may be offered. Markets will more or less remain around these levels till then. They can witness 400 or 500 points’ volatility but no major correction is anticipated unless a big global news comes up,” says Sedani of Anand Rathi.
While on one hand, further deterioration in the growth environment is expected to hurt corporate earnings, on the other hand, equity valuations could remain elevated given ‘risk-on’ sentiments globally ( having an optimistic outlook or thinking that the market has not considered that outlook) and the expectations of further reforms by the government ahead of the Budget in early February, says Gohil of Credit Suisse. Additionally, a better rabi season, and a 10 per cent above-normal monsoon, which is the best in 25 years, is expected to lift rural demand. “Water reservoirs are full and a good crop season is expected. There is hope for improvement in income and growth. So people will give at least six months’ time for a turnaround. Beyond that, if there is no sign of revival on the domestic front or resolution of trade war ( between the US and China), then things can get difficult (for markets),” says Chokkalingam.
Above all, GDP growth needs to perk up from the six-year lows and analysts believe that revival in consumption is key. “The need is to take measures that will enhance disposable income and put additional money in the hands of rural and urban households,” says Sinha of India Ratings.
Clearly, the stock market has been pinning its hopes on a revival by the end of this fiscal. If the March quarter earnings point towards a revival and a turnaround, markets could continue to touch new heights. But if things don’t improve, a downward slide will become a reality. Till then, markets will continue to hang on to hope.