Indian markets have some catching up to do
Indian equity, currency and bonds have been one of the worst performing asset classes on a year on year basis. Table 1 shows the performance of markets across the globe and India stands out in its underperformance. The Sensex and Nifty are down over 10%, the Rupee is down by close to 10% and Indian ten year bond yields are up by 74bps year on year, as of October 2010. In equities only China (Shanghai Composite) and Hongkong (Hangseng) have performed worse than the Sensex and Nifty. The Euro, which should have been hit by the Eurozone credit crisis is up by over 1.5% against the US Dollar, while US ten year treasury yields are down 31bps year on year despite a US credit rating downgrade. India has a lot of catching up to do in terms of performance in the coming months.
The catalyst for India to start outperforming other markets can come from two sources. One is reversal of global risk aversion on the back of the EU (European Union) agreement on the bailout of indebted Eurozone countries and the second is reversal of tight monetary policy stance by the RBI (Reserve Bank of India).
The month of October 2011 has seen a sharp reversal in risk aversion trends with equities gaining across the globe, risk currencies rallying against the US Dollar (USD) and commodity indices trending higher. (See Table 1.). US ten year benchmark treasury yields rose 40bps over the month on the back of reversal of flight to safety trades. The reversal of risk aversion trades is good for Indian equities, currency and bonds as FII’s flows can improve. FII’s have been net sellers of Rs 2400 crores (USD 490 million) of Indian equities calendar year till date and if flows become positive, equities and the currency can benefit from the flows.
The RBI, which has been raising policy rates since April 2010, has now signalled that it is at the end of its rate hike spree. RBI has raised the benchmark repo rates by 375bps since April 2010 in an effort to quell rising inflation expectations. Inflation as measured by the WPI (Wholesale Price Index) has been trending at double digit or close to double digit levels for a major part of 2010-11 and this has led to a sharp deterioration of sentiments on the Indian economy. RBI rate hikes, rising inflation and global economic issues have prompted the RBI to reduce GDP growth rates from 8% to 7.6% for fiscal 2011-12. High inflation coupled with slowing economic growth is the reason for underperformance of Indian markets.
A policy reversal by the RBI will be a big boost to market sentiments. RBI signalled a pause/stop to rate hikes on the back of its expectations of inflation coming off from 9.7% levels in September 2011 to 7% levels by end March 2012. If inflation can hold below 7% post March 2012, there is a possibility of monetary easing. Indian markets will benefit from falling inflation and monetary easing and its equity, currency and bonds will do well in such a scenario.
A bit of patience is required and if Eurozone stabilizes and Indian inflation helps RBI, India will be a huge outperformer next year.