The sudden turnaround in Indian equity market sentiments has started tongues wagging on risk on trades, high beta stocks and shift out from defensive stocks to risk stocks. The Sensex and Nifty have gained over 5.5% month to date while mid cap indices have gained over 8%. The “New Look” FM and PM have contributed to the improved sentiments by pledging focus on reforms. Markets were also aided by the bond purchase announcements of the Fed, ECB and Bank of Japan.
The improved market sentiments has led to speculation on turnaround in sectors such as infrastructure, leading to the BSE infra index returning over 16% month to date while so called defensive sectors such as the FMCG sector has returned a negative 1% month to date on the back of traders shorting high PE FMCG stocks.
The market may play favorites in such an environment where there are some signs of hope for the economy on the back of a government making the right noises. However it is going to take a while for things to change on the ground and while market outlook may remain bullish, that bullishness will definitely not show on the financials of many beleaguered stocks.
The government has just survived a key ally going out of the coalition and is now left to the mercy of “outside supporters” and these outside supporters have their own agenda. The government may find it difficult to push through more reforms in such a political environment. The government is also keen on placing a cap on the borrowing and there will be spending cuts and focus on improving tax collections. Cut in government spending is not good news for infrastructure stocks as many projects are dependent on government support.
The improved market sentiments will not brush the ongoing investigations of “Coalgate” under the carpet. There will be more revelations on favoritism and kickbacks leading to a question mark on many of the listed companies involved in the scam.
Public sector banks are not going to loose their purse strings in a hurry. Banks are reeling under loans to state power distribution companies going bad, loans to real estate and infrastructure companies being restructured or going bad and loans to entities such as Air India being restructured under government compulsion. The fact that more restructured loans are expected to turn bad this fiscal due to a weakening economy will weigh on banks financials and no amount of improved sentiments is going to help bring about a turnaround in bad loans
The sudden burst of reforms will not push up GDP growth, which is expected to fall to 5.5% levels for 2012-13 from revised forecast levels of 6.7%. The economy is still feeling the impact of high inflation, high interest rates, strained government finances and falling exports. Global economic growth will also not look up despite liquidity infusion efforts of central bank. RBI will lower rates but it will be done so in slow, small steps as inflation is still at 7.5% levels, which is much above RBI’s comfort zone of 5% and below.
Yes the positive sentiments on the back of global central bank actions and on the back of reform steps by the government will take up markets as markets are forward looking. However, given that there are still many risks out there, one should not increase portfolio risk by taking on highly leveraged stocks or taking on highly speculative stocks. Smart investors will leave those risks on trades and other relative value trades to the speculator and will focus on strong balance sheet stocks that are reasonably valued.
Markets are still tricky and one wrong move can cost one heavily.