Dear Advisory Client,
The climate for equity markets looks to be changing from one of extreme bearishness to a more moderate climate. The risks, while still present are seen as bottoming out and are also there in the prices while there are distinct positives emerging in the environment.
The economic climate is definitely weak with domestic demand for consumption falling while demand for investments has been almost non existent for a while given the bad loans hitting the system. The result of weak consumption and investment demand is a lack of business expansion and more of business contraction, leading to lack of job creations and also job contraction.
This demand cycle is still looking weak and here companies that are able to stay productive and are also able to consolidate and gain market share will see a sustained increase in shareholder value over a period of time. The positive aspect here is the opportunity for investors to identify and invest in such companies.
The government on its part is doing its best to spur demand and the Big Bank tax rate cut announced last week shows their intention. Government measures may help spur demand and take it to on a slow but steady growth path.
RBI has cut rates to multiyear lows and is likely to keep rates down and a low interest rate environment would at some point of time, defreeze credit markets that have been hit hard by corporate defaults starting with IL&FS. Banks too, after the recent consolidation announced by the government where PSU banks are being merged to create a few big banks, will have more incentive to lend given the low interest rate environment. The bank mergers will lower the consolidated bad loan ratios and with fresh infusion of capital by the government will enable them to grow credit.Read our note on PSU bank mergers.
A five year mandate for the government and good monsoons this are market positives.
On the global front, US-China trade dispute, weak economic climate and conflicts in the Middle East are being felt in markets. However on the trade war front, while a resolution is still a long way ahead, further deterioration with more tariffs may not happen given that most goods are already taxed and a US presidential election is coming up next year.
Central banks globally are cutting rates and being accommodative in their policy leading to low interest rates that can move liquidity into risk assets. Economic climate can improve on sustained monetary easing.
Low inflation globally is also positive for EM economies as it helps keep demand up.
Middle east tensions will always flare up but given a glut in oil market, oil prices are unlikely to scale highs and this will help oil importing countries like India to keep its trade deficit and CAD down.
Extremely risk averse portfolios can start to allocate some weights into risk assets like equities.