We are pleased to bring you the next edition of Equity and Debt Market updates for the month of March’14. This will enable you to gain insights about the macroeconomic changes and indices and HDFCL investment strategy and fund positioning.
Markets- Indian markets scaled newer highs in March with foreign institutional investor’s inflows continuing. The macro economy saw some signs of recovery with food inflation showing symptoms of easing although growth pickup remained muted. The rally was not only driven by improving macro but also by an expectation of a stable and decisive government post the elections. Capital market flows as well as the government’s fiscal coffers received a fillip with the 9% SUUTI stake sale in Axis Bank and the launch of the CPSE (Central Public Sector Enterprises) ETF.
Mid cap and small cap stocks fared better than the broader market with the mid cap index gaining 10.3% in the month. FIIs were net buyers to the tune of Rs. 223.5bn while mutual funds were net sellers to the tune of Rs.37.3bn. Sectors that outperformed were realty, banking, metals, capital goods utilities and oil & gas. Sectors that underperformed were IT, pharmaceuticals and auto.
India’s CAD narrowed sharply to $ 4.2 bn (0.9% GDP) in Q3 of 2013-14 from $ 31.9 bn (6.5% of GDP) in Q3 of 2012-13 primarily on account of a decline in the trade deficit as merchandise exports picked up and imports moderated, particularly gold imports. This was also lower than $ 5.2 bn (1.2% of GDP) in Q2 of 2013-14. On a BoP basis, merchandise exports increased by 7.5% to $ 79.8 bn in Q3 of 2013-14 (3.9% in Q3 of 2012-13) on the back of significant growth especially in the exports of engineering goods, readymade garments, iron ore, marine products and chemicals.
The IIP for January grew by 0.1% against consensus expectation of contraction of 0.9% as manufacturing contracted by 0.7%, capital goods contracted by 4.2% while consumer goods contracted by 0.6%. This was likely aided by the reduction in excise duties on automobiles. Basic goods grew by 0.9%, mining by 0.7% and electricity by 6.5%. April-January IIP growth is nil (0.0%).
The news on the inflation front continued to be positive as Feb CPI fell to a two-year low of 8.1% (vs 8.8% in Jan). Most categories saw a fall in prices and vegetable prices in particular eased significantly. Core CPI was recorded at 7.9%. Similarly, Feb WPI too surprised positively, coming in at sub 5%. Food inflation fell to a 10 month low of 8.1% and fuel inflation too eased to 8.7%. However, core inflation went up marginally to 3.1%.
Dates for the India’s 16th Lok Sabha elections were announced beginning April 7 to May 12, 2014, Lok Sabha would be constituted before May 31, 2014.
Overweight Sectors-Banks, Cement, Pharma, Energy, Telecom, Capital goods
Underweight Sectors-Auto, FMCG, IT, NBFCs, Power, Realty
During the month of March, the growth series of fund outperformed the benchmark by 260bps while Bluechip fund outperformed the benchmark by 50bps. The opportunities fund outperformed the benchmark by 200bps.
In last 5 months the market has been on an upturn and we are seeing interest coming back in the cyclical and midcap names on hopes of economic recovery. In last 2 quarters, the results of large companies have been better than market expectations. Also initial signs of cyclical recovery are visible on ground. Therefore we modified our strategy and while we continue to increase weights on defensives and align better with the benchmark, we do not plan to go significantly underweight on cyclical sectors. We will remain valuation focused and maintain exposure to select cyclical stocks, in order to capture the pre election upside while in case of a sharp rally would use the opportunity to align to the benchmark.
Outlook- Growth in India is expected to remain meaningfully below trend over first half. Recovery hopes are largely pegged on expectations of a decisive verdict in the national elections scheduled for April-May.
The RBI’s efforts over the past three months to boost forex reserves and the surprise rate hike has helped India weather the US Fed’s tapering storm better than other emerging markets. RBI is targeting 8% CPI by March 2015. Our estimates suggest some easing in CPI inflation over the next few months from the current 8.1% (lowest in two years), which would at least ensure that there may not be further rate hikes, which is a positive development in our view.
With this backdrop we maintain a positive bias on the market going forward. The market valuations are reasonable at about 14.9x FY15 estimated earnings for SENSEX, which are building in about 20% earnings growth in FY15.
Previous Month – The bond markets had a positive month amid low volatility in March. The key factor behind the calm was the thin supply of GSecs during the month and the relatively robust demand from long term investors. The Government’s efforts in reining in the fiscal deficit to 4.6% of GDP from the budgeted 4.8% meant that the borrowing requirements would be correspondingly lower. Hence, the Government wrapped up its scheduled borrowing by the middle of February. Secondly, both the inflation data releases during the month pleasantly surprised the markets. CPI inflation came in close to the RBI’s Jan-15 target, and the WPI inflation printed below the psychological 5% mark. The easing inflation sowed seeds of hope that RBI could move to a more dovish stance on Monetary policy, which was to be announced at the beginning of April. The 10-year benchmark Government security ended the month at 8.80%, slightly lower than the 8.86% levels at the end of last month. However, apart from the benchmark bond, yields of longer tenure securities eased by a greater magnitude as the demand-supply imbalance was acute in this segment.
During March, the bond funds had maintained a lower duration than the benchmark on expectations that period of low volatility in the markets would be short-lived. The easing of yields during March led to the minor under-performance during the month.
For the full year, performance has been a bit below the benchmark, as the volatility in the June to August 2013 months affected the funds adversely. The drying up of liquidity in most bonds apart from the benchmark papers, during that period, slowed down the portfolio re-alignment process.
Market Outlook – At the beginning of the new financial year, it is helpful to take a wider perspective on the bond market yield levels and direction. Bond yields were pushed higher last year when RBI reacted to the currency weakness in summer by hardening its monetary stance in July. Over the subsequent 3 – 4 months, the currency weakening trend had reversed. But bond yields stayed at elevated levels as the currency concerns were replaced by inflation worries and RBI raised Repo rates by a cumulative 75 bps. The level of CPI inflation has been RBI’s primary concern behind the stance of its Monetary policy. However, during this period, RBI has overlooked the volatility in CPI due to the spike in food prices during the year. It is possibly prudent to assume that RBI would look for signs of easing in the core CPI before it considers any easing in its stance.
A weak growth environment and a stable currency are expected to ease the pressure on core inflation. Hence, we expect that the probability of any further rate hikes from RBI is quite low.
The second factor is the supply of GSecs. In the absence of a clear view on rate cuts from RBI, appetite for long term bonds is likely to be tepid. Hence, yields are likely to be under pressure from the supply of GSecs. However, the appetite for bonds will come back if there is any hint of an easing in interest rates.
At current levels, bonds are trading close to the higher end of their long term range. If the view of low probability of further rate hikes from RBI holds, then these levels are attractive for investment from a medium term horizon. The near term volatility of yields is likely to be high, and any investment should look beyond this near term volatility.
The coming General Elections will also prove to be crucial in determining the direction of yields in the near term. The formation of a stable Government post the elections, is expected to continue the fiscal consolidation steps and put the Government’s finances on a sustainable trend. This will prove to be beneficial for the bond markets, as a fiscally responsible Government can afford RBI the room to ease monetary policy. Quite clearly then, the key risk is an election result that does not lead to a stable government which is likely to be detrimental to the bond markets. In such situations, any expectations of easing in policy rates are likely to get pushed out to a later period.
Strategy- The near term supply pressure is likely to keep bond yields under pressure. The lower duration in the funds is likely to be helpful in this period. However, we intend to raise the duration of the funds to take advantage of any spikes in yields and position the funds for delivering performance from a medium term horizon.
The short end of the curve has already seen some easing in yields in March, as the liquidity deficit was adequately covered by RBI’s term repos. We expect that short term yields will remain stable around current levels as liquidity improves and rate cut expectations are still not on the table.
Mr. Gajri joined HDFC Standard Life in April 2009 with a rich experience of 14 years in investments and banking industry. He started his career in 1995 with Citibank and was associated with it for over 6 years delivering various roles. He joined Tata AIG Life Insurance Company in October 2001 to start the investment function and stayed there until April 2009, the last role being that of the Chief Investment Officer.View Complete Profile
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