The turbulence that was January
Whether one talks about global markets, US markets, Indian markets or other emerging markets, January 2008 brought with it turbulence and volatility like never before. The “January effect” this year was far from pleasant for policymakers and markets. In view of the bleak outlook for the US economy which is currently undergoing a slump in their housing market with strained financial markets, rising unemployment rate and a clear softening in overall economic activity, the Federal Reserve has reduced its interest rate by a total of 125 basis points towards the end of January. In addition to this monetary stimulus there was an announcement of a fiscal bounty to fight recession. US is undeniably an economy powerful enough to drag the global growth engine. But the good news is that now we do have accelerators with the size of China and India. Unlike a few decades ago, there is a “finer” balance between these global economic powers. We believe this rebalancing has received a lot of lip service, but has not been assimilated as well.
Will the world’s largest economy slip into recession, or will it bounce back after a slowdown is a million dollar question. This uncertainty and fear took its toll on the markets around the world and India was no exception. Decoupling just didn’t work. These global cues combined with the domestic factors such as large ongoing as well as upcoming Initial Public Offerings (IPOs) caused wild fluctuations in the BSE Sensex. The Sensex gyrated between the high of 21,000 and a low of 15,000. The carnage was even more damaging to the medium and small sized listed businesses. The foreign institutional investors added fuel to the fire and were net sellers to the tune of USD 3.5 billion in the month of January. Amidst this volatility, the Reserve Bank of India (RBI) presented its quarterly monetary policy review and kept the interest rates untouched. By holding the policy rates unchanged, RBI has sent unambiguous signals that controlling inflation in India is its top priority.
The world is Changing!
From Uni-polar (1995-2000)
How different is the situation now? At the start of this millennium, the US - the largest economy - was almost twice the size of the next largest economy - China, and about three times the third largest economy - Japan. Thus, the size of the US economy “was” larger than the next two economies combined, revealing clearly the uni-polar nature of the global economy. The fourth largest economy, India, was a little over one-quarter the size of the US economy. The next five positions are taken by the big four of Europe: Germany, the United Kingdom, France and Italy. Brazil and Russia bring up the rear with their joint size less than that of India. In turn, the size of these three economies together is less than that of China.
To Bi-polar (2010-2015)
Enter China and the global economy is ready to be transformed from a uni-polar to a bi-polar one. China is projected to become the largest economy in the world by 2020. Before the end of the current decade, India's economy is already larger than that of Japan, thus taking it to the third place, behind the US and China. The incremental impact of an economy on the rest of the world is measured through trade and financial flow by change in GDP at the current exchange rate. By the end of this decade, China will become a larger driver of global growth than the European Union's six largest economies. Similarly, India will be a larger growth driver than the United Kingdom, the most significant growth pole in the EU.So by 2010 (which is not so far), the combined impact of the China, India and Japan will exceed that of the US.
To Triangular (2020-2025)
Enter India. As the share of the US in world GDP falls (from 21% to 15%) and that of India rises (from 6% to 11% in 2025), the latter emerges as the third pole in the global economy. By 2020, the Indian economy is projected to be about 60% the size of the US economy then. The transformation into a tri-polar economy will be complete by 2025, with the Indian economy only a little smaller than the US economy but larger than that of Western Europe. This scenario of course assumes that China will be able to sustain the "FDI-export" cum "zero capital cost" model of fast growth. By 2035, India is likely to be a larger growth driver than the six largest countries in the EU, though its impact will be a little over half that of the US. China's impact will, however, be about 40 per cent more than that of the US.
Back Home in India
Unlike the markets, Indian economy continued its strong growth trend. India’s GDP grew at 9.4% for the year 2006-07 as per the advanced GDP estimates by Central Statistical Organization (CSO). Also during this month, the quarterly results were declared without any negative surprises by and large. Indian companies continued to post solid but slowed earnings growth of around 15%. There is no denying that there is a visible slowdown in the growth, but it remains robust and capital efficient in any case. The rise in borrowing cost coupled with a rise in exchange rates in favor of Indian rupee has led to a slow down in the export-oriented manufacturing, and IT/ITES companies. The global fluctuations in metal prices also adversely impacted the metal companies. While the overall growth rate of manufacturing has come down to 9.8% for the period April-November 2007 as compared to 11.8% a year ago, the consumer durables sectors have recorded a decline of 1.7% for the eight-month period against a growth of 12.4%.
Despite the wide gap between US and Indian rates, the Reserve Bank of India (RBI) continued to follow a tight monetary policy to avoid the inflationary pressures built up with around 9% growth in the economy and major supply constraints. In the monetary policy review on 29th January, RBI decided to leave the repo and reverse repo rates unchanged. There is a growing consensus that the interest rates in India have peaked and are likely to adversely affect the growth if we continue with our tight monetary policy framework going forward. RBI outlined in its policy review that several central banks have confronted volatile and huge capital inflows. While China raised the reserve requirement from 8% to 15%, the Bank of Korea hiked it from 5% to 7% after 17 years. Thailand imposed un-remunerative reserve requirements of 30% on most capital flows to be deposited with the central bank for one year. RBI is committed to a fine balance between sustained growth, benign inflation and a fair exchange rate.
Corporate India slowing – Third Quarter results
The tight monetary policy has started showing its impact, and clearly so. Earnings growth for the Sensex companies has been steadily declining from a peak of 43.4% in the third quarter of FY07. For each subsequent quarter, the year-on-year (y-o-y) growth rates have been 33.1% in Q4’ FY07; 27.4% in the first quarter of the current fiscal year; 22.9% in the second quarter and now 16.4% for the December quarter (excluding DLF & Hinndustan Unilever Ltd (HUL). As far as our universe of companies are concerned, Sales grew by 24% yoy, Operating profit grew 29% yoy, PBT grew 34% yoy while Adjusted PAT grew by ~37%. The earnings per share for our universe however, grew by 23% yoy. Kindly note thet these calculations factor in 92% of our universe by amount, as the comparable results for the balance companies are unavailable.
Investment Management Team |
