Do it yourself

Recently the Ministry of Statistics and Program Implementation, Government of India, released the results of the latest Annual Survey of Industries (ASI) for the reference period FY23. The Annual Survey of Industries is conducted with the primary objective to provide a meaningful insight into the dynamics of change in the composition, growth and structure of various manufacturing industries in terms of output, value added, employment, capital formation and a host of other parameters.

I note the following key points from the survey results.

Key statistics (five-year period from FY19 to FY23)

·         Number of total factories in the country has grown at a CAGR of 1.2%, despite the government’s strong emphasis on manufacturing and multiple incentives.

·         Total fixed capital (investment) employed in manufacturing has recorded a growth of 4.4% CAGR. Total invested capital has grown at a CAGR of 6.5% during this period, implying higher working capital requirement.

·         Total employment in the manufacturing sector has grown at a CAGR of 3.2%. This is sharply lower than the rise in the labor force.

·         Total factory output has risen at a CAGR of 11.8%, while output per worker recorded a growth of 4.8% CAGR.

·         Average industrial wage has grown at a CAGR of 5.1% against the average CPI inflation of 6.6%, implying sharp deceleration in the real wages.

·         The ratio of contract workers to the total workers has increased from 38% (FY19) to 41% (FY23).

·         Manufacturing productivity has shown some improvement, but this may be far below the desired levels. Fixed capital to output ratio has improved from 37% to 28%. GVA to fixed capital ratio improved from 44% to 53%. Wage cost to NVA improved from 36% to 34%.

Stark regional imbalances

Five states account for more than 52% of factories in the country. The nature of activities, productivity and employment level of the industry in these states also appear to be different.

·         Tamil Nadu accounts for 15.7% factories, deploying 7.9% of the total fixed capital, employs 15% of the total industrial workers and produces only 10.3% of GVA - implying more proportion of labor-intensive small industries.

·         Gujarat accounts for 12.2% factories, deploying 19.7% of the total fixed capital, employs 12% of the total industrial workers and produces 14.8% of GVA - implying dominance of heavy capital-intensive industries.

·         Amongst the top five industrial states, Uttar Pradesh is the least productive. The most populous state in the country accounts for only 7.5% of total factories, employs 8% of the total industrial worker and contributes just 6% of GVA.

Food business getting more organized

Factories producing food products, 16% of the total number of factories, are now the largest category of industrial units in the country. These factories employ 21,16,000 or 11.4% of the total industrial workers, more than any other industry. The traditional largest employer, textile industry, comes a distant second employing 17,23,000 workers.

Food products industry now contributes 7.1% of the manufacturing GVA, 73% more than the 4.1% contribution of the textile industry.

…but basic metal continues to dominate

Basic metals’ industry employs 17.6% of the total fixed capital, and contributes 11.6% of the GVA. The employment intensity of the Basic metal industry is low as it employs only 7.6% of the industrial workers.

Last weekend, I happened to meet a senior IT professional, aged 48yr. This gentleman has worked with many global IT services companies like IBM, Google, etc. He has his wife and two teenage daughters in his family. Four years ago, he quit his job and took to equity and derivative trading as his full-time occupation. He even developed an algorithm of his own for trading in options. He did very well till March 2024, earning an IRR of over 54% on his capital deployed in the trading business. With a material growth in his earnings, his lifestyle changed dramatically. He bought a bigger house, bought a luxury sedan for himself and a car for his daughters' use. They travelled business class on their Europe and America trips.

In April 2024, he grew in confidence and increased his exposure materially, deploying all his savings in the market. In the past 6 months, he has lost 70% of his enhanced capital in option trading; and is close to defaulting on his house EMI. The losses in the market are not his primary worry presently. He is more concerned about convincing his family for a downgrade in their lifestyle.

After discussing various aspects of his problem, I concluded that he may not be an isolated case. There may be hundreds of other full-time traders who have witnessed this ‘wealth effect’ in the past 3-4 years and may be fearful now.

Wealth effect

Arthur Pigou, an American economist, coined the term “the wealth effect” in a 1943 article. The idea was to measure the changes in consumption based on the change in the values of housing and financial assets. He argued when asset values are high consumers feel wealthy and go shopping: when asset values are low consumers slow spending. As a result of the concentration of American wealth in home equity, the level of housing prices can dramatically impact consumer confidence.

Daniel Cooper (Federal Reserve Bank of Boston) and Karen Dynan analyzed the Wealth Effects and Macroeconomic Dynamics in a 2016 research paper. The paper stated that “The effect of wealth on consumption is an issue of long-standing interest to economists. The relationship is particularly important from a policy perspective, given the large swings in financial asset prices and property values over the last few decades in both the United States and many other developed countries. The conventional wisdom is that the resulting fluctuations in household wealth have driven major swings in economic activity. Indeed, the plunge in asset prices during the financial crisis is frequently cited as an important contributing factor to the unusually slow economic recoveries in the United States and some other developed countries. Similarly, the large drop in asset prices in Japan following their peak in 1990 is viewed as having restrained growth during the subsequent decade in that country.”

The paper also highlighted that a great deal of empirical research over the last 25 years has focused on the so-called wealth effects – the impact of changes in wealth on household consumption and the overall macroeconomy. The research has yielded some important findings about the nature of household wealth effects, but consensus has yet to be reached on many important issues.

The authors concluded that “Understanding wealth effects is critical not only for forecasting consumption and broader economic growth well, but also for gauging the risks to the economic outlook and setting appropriate macroeconomic policy. Such issues are particularly important during periods of large fluctuations in asset prices.”

I could not find any noteworthy research related to the wealth effect specifically in the Indian context. However, anecdotally we can find several cases like the gentleman referred to earlier in this post. In my view, the policymakers in India need to take cognizance of the wealth effect generated by the supernormal returns from the equity investments and real estate in the past four years.

I also note, in this context, the outcome of the latest Consumer Confidence Survey (CCS) of the RBI. Despite several headwinds in terms of slowing growth, rising cost of living, slower real wage growth, and challenging employment environment, and pessimism about the current situation, the consumers’ future expectations remain optimistic. This might send erroneous signals to the policymakers, producers, sellers and service providers.

I shared some of my random thoughts with the readers last week (see here). Many readers have commented on my post. Some readers have raised some pertinent questions and also provided very useful feedback. Based on the readers’ comments, questions and feedback, I would like to share some more random thoughts. It is however important to note that I am a tiny insect living in a cocoon of my own. I cannot comment intelligently on the international markets, policy matters and geopolitics. Nonetheless, I reserve my rights to form strong views on global and domestic developments concerning markets, policies and geopolitics, for my personal strategy purposes.

The US debt end game

The current state of the Fed balance sheet and the US public debt is certainly not sustainable by any parameter. It is a matter of debate how the US government and the Federal Reserve would make fiscal and monetary corrections and eventually return to an acceptable level of public debt without pushing the economy into a deep recession (hard landing). One of the most talked about resolutions to this conundrum is to keep bond prices lower and buy back aggressively over the next few years. That may be one of the easiest ways to return to fiscal sanity. Creating an artificial shortage of USD and forcing UST holders to sell cheap could be one of the means to achieve this target. To create USD shortage, a reverse carry trade might be induced, by narrowing the yield spreads, besides reducing CAD through tariffs and other trade restrictions.

For context, the US is running a quarterly current account deficit in excess of US$260bn; a fiscal deficit of over US$1.7trn (2023) and USD supply (M2) of over US$21trn. The US GDP was US$27.4trn in 2023, accounting for roughly 26% of the global GDP.

The great gambler

The RBI governor's job in India might be the most unenviable one. He has to struggle 24X7 to maintain a balance between fiscal requirements, political consideration (inflation and small saving interest), growth needs (real rates) and balance of payment (USDINR exchange rates). Repo rate and open market operations are the only two major tools available to him.

The RBI has been maintaining a status quo on the repo rates for over a year now. This has sustained the US-India yield gap (to protect flows) to some extent, but the efficacy of high repo rates in ensuring price stability, which is the stated primary objective of the RBI’s monetary policy, is questionable. Besides, the RBI has been meaningfully enlarging its balance sheet in the post Urjit Patel era, while stated policy objective, until the last week, has been “withdrawal of accommodation”. This aspect is not talked about much in the public domain. One may speculate that the real objective of the RBI’s monetary policy has been to prevent USDINR appreciation (even if it means high imported inflation) and ensure sufficient inflow in small saving schemes, which are funding almost 45% of the union government’s fiscal deficit. It has been obviously playing a gamble with high stakes, US$700bn forex reserve notwithstanding.

 Indian lenders face challenges

The persistent negative credit deposit ratio of Indian banks has been a subject of discussion at all levels. The government, regulators (RBI and SEBI), bankers and analysts etc. have all expressed concern over the poor deposit growth, while the credit demand remains strong. The finance minister and RBI have even attributed the flow of funds towards capital markets as one of the reasons. In my view, high household inflation, poor real wage growth and very low real rates on deposits are the primary reasons for this trend. Besides, for most lenders the asset quality improvement trend that started five years ago may have already peaked.

I feel most Indian lenders may now face three challenges – declining margins as the cost of funds rises; flat to declining asset quality and slowing growth. Investors are cognizant about these challenges but as the response to a recent IPO of a housing finance company indicates, they may not have yet adjusted their respective investment strategies.

Focus on finding opportunities

As a wise man suggested, the small investors like me should not be wasting energy on bothering about these macro things and focus on finding the investment/trading opportunities which may be opened by policy missteps, fund flows, geopolitical tensions etc. I fully agree with this thought. For the next 4-5 months, I shall be focusing on finding opportunities and taking advantage of traders’ mistakes.

Last week we celebrated Dussehra – a festival that for centuries has marked the victory of good (Ram) over evil (Raavan). Burning of effigies of Raavan, his brother and son has been an integral part of this celebration (particularly in North India) for over a century. This year was not the same though. There were scattered instances of people worshipping Raavan and protesting against burning of his effigies. Some elements of the Indian society discovered a caste angle in this and termed Dussehra festivities as a conspiracy against the upper caste brahmins, to which Raavan is believed to belong. This may be a small beginning, but my discussion with many educated people indicates that it may not be long before Raavan worshipping emerges as a popular cult in India. For context, I have not heard or read any leader or wise man critical or concerned about this; though some social media commentators did appear amused.

                                        (Photo credit social media)

Many years ago, a wise man advised me to “Believe in your strengths and weakness”. Without giving it a thought, I replied firmly, “I do!” He paused for a while and said calmly, “knowing is different from believing. For example, you know that you will die someday. But do you really believe it!” I understood the meaning of what that wise man was trying to tell me, many years later.

We all, especially our politicians and social media activists, know the strengths and glorious past of our country. But do we really believe in that? In my opinion, no, we do not!

We all know, religion is at the core of Indian society. The Indian political and economic paradigms therefore must be constructed around religion.

Even a cursory study of Indian history, whether critically proven or mythological, would suggest that the best economic and political periods in the history of the sub-continent were when a righteous king at the helm protected and promoted religion. Conversely, the worst periods, economic and political, were those when some tyrant attempted to destroy religious beliefs and knowledge.

Traditionally in India, education, research, arts, architecture, science, and the State itself, have all developed and prospered around religion. Religion was also woven intricately with agriculture, which was the primary profession.

By adopting secularism as a major social construct, especially since the 1970s, the Indian State has unfortunately equated religion with bigotry. This has not only made religion a divisive (instead of bonding) force, but has also led to the degeneration of strong traditions of seeking spiritual, scientific and material knowledge for the larger welfare of the human kind.

In the past five decades we have reached a stage where religion is used to evoke fear & violent passion in people's minds and manipulate them. Money & power, and not knowledge & evolution, seem to have become the primary aim of religion. Ignorance and superstitions are destroying people's lives. It is commonly seen that the gullible people borrow money to feed illiterate and unscrupulous persons, whose only quality is their surname.

Intelligentsia and academics are scared to explore and propagate the tremendous wealth of knowledge stored in traditional scriptures for the fear of being labeled "communal and bigot". Politicians are scared to promote the traditions of knowledge seeking and spiritual evolution. A society of seekers is degenerating into a society of xenophobes. The consequences are that the entire nation bothers about winning one medal in any global supporting event but does never bother about winning a Nobel in mathematics, physics or medicine.

I had the opportunity to interact with many Indian Vedis scholars. I have no doubt about the superiority and purity of their knowledge base and understanding. The Vedic tradition is inarguably one of the best-known ways of life with "seeking" as its fulcrum. The modern problem however is that people claiming to have knowledge, do not want common people to "seek". They want us to accept whatever they offer. I want the Vedanta to be my spiritual guide. They just want me to wear the Vedanta as my identity (Hindu) as a badge, and claim superiority over other religious identities.

I have been hearing the phrase "21st century belongs to India" for the past three decades. Many politicians and analysts have used this cliché to emphasize the tremendous economic opportunities that India could offer in the next few decades, given its young demography. The list of investors and global States seeking strategic partnerships who have been excited by the potential is long and impressive. The list of investors and Statesmen who have been disappointed in the past two decades may be even longer.

The point to evaluate critically is whether India sans its core ethos is viable as an economic and strategic power house! In my view, perhaps ‘not’. Remember, startups and advanced technology are a necessary good in the modern times. But the policymakers must believe that Apple, Facebook, Twitter, NVIDIA, Tesla and Amazon etc. are outcome of a Society that promotes and cherishes knowledge seeking and freedom of thought. It is not the other way round.

The current market condition reminds me of one of my favorite bedtime stories. I love to narrate this time and again.

Once upon a time a sparrow couple made their nest in a wheat farm. In a few days, the lady sparrow laid four eggs. In two weeks, eggs were fully hatched and four chicks were born. In the meantime, the wheat stems had started growing tall. In another two weeks, the chicks started to fledge and the wheat kernels began to turn golden. This was the day when parent sparrows first discussed leaving their nest and moving somewhere else.

“The crop will soon be ready for the harvest. Our nest shall be exposed and trampled by the harvesters”, the lady sparrow feared. Her companion however was not worried as yet. “Nothing to worry as yet”, he assured her.

In another three weeks, the farm turned completely golden with wheat completely ripe to harvest. The lady sparrow was terribly worried now. “We must fly out now. The chicks have also grown up now and can easily fly to the woods behind the hill”, she argued with her companion. “Nothing to worry about yet. We have plenty of food here. Let chicks eat good and become strong”, the companion remained nonchalant.

In a couple of days, the farmer came to the farm with his wife. He looked at the ripe crop with pride and said, “we shall now call my brothers and begin harvesting the crop from tomorrow”. They soon left the farm. The lady sparrow was terribly frightened now. "Must fly out right now”, she coaxed his companion and chicks. “Nothing to worry for now”, the companion quipped, playing with the chicks.

After a couple of days, the farmer again came to the farm with his wife. “My brothers are all thankless and selfish”, he said annoyingly. I would help them whenever they need, but they have refused to help me in harvesting. I shall now call all my neighbors and begin harvesting from tomorrow. “I beg you please let’s fly out now”, the lady sparrow pleaded with the family. The children had become strong and comfortable in the farm by now. “Not yet”. The companion reiterated. The children agreed.

One more week passed, nothing happened. One day the farmer and his wife again came to the farm. He saw that the wheat kernels were beginning to wither now. The golden crop had developed many black spots. “We live in a world full of selfish and thankless people. We cannot count on anyone for help”, he said furiously to his wife. “Let’s buy our own tools and begin harvesting ourselves from tomorrow”, the farmer said resolutely. “Hey guys let’s get ready, it’s time to fly out”, the sparrow told his companion and children, with a sense of urgency. “What happened now” the lady asked. “Farmer have realized that no one helps those who do not help themselves”. He will definitely come tomorrow and begin harvesting, the companion explained.

In the past three years there have been many instances that made investors nervous about markets. The Russian invasion of Ukraine; ruling BJP reduced to a minority in the Lok Sabha elections, escalation of hostilities between forces of Israel and Palestine, Lebanon, Syria, Iran etc. All these instances raised the specter of a deeper market correction, provoking investors to lighten their equity exposure. The market however continued to belie their apprehensions, and continued to climb higher, simply because earnings were supporting. Now, for the first time in the past 3 years, earnings are showing fatigue and are expected to grow in single digit in FY25, with decline in margins. This is the time investors need to review their equity exposure and take corrective action.

As per the current estimates, FY25E NIFTY50 EPS is expected to grow ~8% (vs over 18% each for FY23 and FY24). FY26E estimates are presently hovering around ~15% growth but may see further downgrades.

In my view, earnings growth with margin improvement is the only sustainable factor for rise in stock prices. Rest all factors may add to the momentum, which if not supported by earnings growth, inevitably fizzles out in due course.

Yesterday, the Reserve Bank of India announced the outcome of the meeting of its Monetary Policy Committee (MPC) held on 7-9 October 2024. The MPC decided to:

(i)    Leave the key policy rates unchanged with a majority 5:1 vote. Dr. Nagesh Kumar (the recently inducted MPC member) voted in favor of a 25bps cut.

(ii)   Change its policy stance from change from withdrawal of accommodation to neutral with unambiguous focus on a durable alignment of inflation with the target, while supporting growth.

The MPC decision did not come as a surprise, given the resilient growth environment and inflationary risks emanating from geopolitical escalations and erratic weather conditions.

The MPC noted that—

(a)   The global economy has remained resilient and is expected to maintain stable momentum over the rest of the year, amidst downside risks from intensifying geopolitical conflicts.

(b)   The domestic growth outlook remains resilient supported by domestic drivers – private consumption and investment. Real GDP registered a growth of 6.7% in Q1:2024-25, driven by private consumption and investment. Looking ahead, the agriculture sector is expected to perform well on the back of above normal rainfall and robust reservoir levels, while manufacturing and services activities remain steady. On the demand side, healthy kharif sowing, coupled with sustained momentum in consumer spending in the festival season, augur well for private consumption. Consumer and business confidence have improved. The investment outlook is supported by resilient non-food bank credit growth, elevated capacity utilization, healthy balance sheets of banks and corporates, and the government’s continued thrust on infrastructure spending.

(c)   The progress of ‘disinflation’ is still incomplete. Headline inflation declined sharply to 3.6 and 3.7% in July and August respectively from 5.1% in June. Going forward, the September inflation print may see a significant pick-up as base effects turn adverse and food prices register an upturn. Recent upturn in key commodity prices, especially metals and crude oil needs to be closely monitored. Risks stem from uncertainties relating to heightened global geo-political risks, financial market volatility, adverse weather events and the recent uptick in global food and metal prices. Hence, the MPC has to remain vigilant of the evolving inflation outlook.

The MPC policy statement sounds to me as follows:

The resilience of growth and incomplete mission to tame inflation does not warrant an immediate policy rate cut. The upside risk to inflation, especially geopolitics (middle east escalation) and climate (LaNina impacting Rabi crop) are material and need to be provided for adequately. Besides, the evidence suggesting that the present policy rates are restricting growth is insufficient. A rate cut now could waste the whole effort made since February 2023. We are changing the policy stance to a ‘heavily guarded neutral’ just to secure an optionality to cut rates, mostly to keep the market participants engaged. December 6, 2024 rate cut is not on the table as of now. A pre-budget February 2025 cut discussion might take place, but the decision would be influenced by the need to protect INR rather than stimulating growth. 

For records the MPC projected—

• CPI inflation for 2024-25 at 4.5% with Q2 at 4.1%; Q3 at 4.8%; and Q4 at 4.2%. CPI inflation for Q1:2025-26 is projected at 4.3%; with the risks evenly balanced.
• Real GDP growth for 2024-25 unchanged at 7.2% with Q2 lower at 7.0%; Q3 higher 7.4%; and Q4 unchanged at 7.4%. Real GDP growth for Q1:2025-26 is projected at 7.3%, with the risks evenly balanced.

 2HFY25 - Market strategy and outlook

(Note: I had last shared my investment outlook and strategy for the second half of the year 2024, July 2024. Since then, there have been some changes in circumstances. Global central bankers have embarked on a policy easing path after more than a year. Geopolitical conditions have worsened. Stock markets have done very well and are close to the upper bound of fair value territory. Global economy is slowing down as the post Covid stimulated demand is waning. Accordingly, the corporate earnings growth trajectory is also flattening. I had accounted for most of these occurrences in my investment strategy in July 2024. Therefore, there is no notable change in my outlook and strategy for 2HFY25.)

In my view, the stock market outlook in India, in the short term, is a function of the following seven factors:

(1)        Macroeconomic environment

(2)        Global markets and flows

(3)        Technical positioning

(4)        Corporate earnings and valuations

(5)        Return profile and prospects for alternative assets like gold, real estate, fixed income etc.

(6)        Greed and fear equilibrium

(7)        Perception about the political establishment

The outlook for these seven factors for next 6-9 month is as follows, in my view—

Macroeconomic environment – Positive

My outlook for the likely macroeconomic environment in 2HFY25 is as follows:

(a)        Inflation: The consumer inflation may average close to the lower bound of RBI’s tolerance bound of 4% to 6%.

(b)        Fiscal Deficit: The fiscal situation of the central government may remain comfortable as the tax collections remain steady and revenue expenditure is controlled further.

(c)        Rates: Expect benchmark yields to average in the 6.85% +/- 15bps range. The RBI may stay on ‘pause’ for now and begin easing in 4QFY25. Deposit and lending rates may stabilize around current levels, the liquidity may ease in the forthcoming busy season as government spending accelerates.

(d)        Current Account: Expect current account balance to stay negative as import growth continues to outpace exports. The deficit may average around 1.25% to 1.5% for 2HFY25.

(e)        Savings: Household savings may continue to grow at a slower pace as real wage growth remains poor. Aggregate corporate savings though may be higher due to continued deleveraging and rise in free cash flows.

(f)         Investment: The government investment expenditure may sustain at current pace. Private capex may not see material recovery in 2HFY25. Overall, investment growth may be decent.

(g)        Exchange Rate: USDINR may average close to INR83.65 +/- 1 range.

(h)        Growth: The real GDP growth for FY25 may average around 6.75% despite a slower global economy, on the back of better manufacturing and good monsoon. Overall, macroeconomic outlook is positive.

Global markets - Neutral

The global analysts and economists are nearly unanimous on the growth decline in 2HFY25. The likely monetary easing and stable geopolitical conditions may support growth stability. The outlook for USD is neutral as central bankers remain on a corrective path.

Technical Positioning – Negative

Technically, in my view, the benchmark indices may witness a decent correction in 2HFY25. At present level thus Nifty offers a negative risk reward.

Technically speaking, Nifty may move in the 18910-26930 range in 2HFY25, averaging above 22635. There could be occasional violations of this range. Buying below 22700 will therefore carry a positive risk reward.

Corporate earnings and valuations - Neutral

The earnings growth momentum is peaking after three years of strong show. The visibility of margin improvement is clouded as capacity utilizations are high and companies are initiating expansion plans. Raw material prices are also now ticking up.

The present forward valuations are slightly above long-term averages based on still marginally optimistic earnings forecasts. However, 2HFY25 may not witness a material PE derating as macro fundamentals remain strong and visibility of flows is improving.

Alternative return profile - Neutral

Real estate: Real estate prices may not rise materially in 2HFY25 as more supply hits the market higher interest rates begin to bite and government incentives are withdrawn gradually.

Gold: Presently, the geopolitical and trade tensions are driving the global gold prices higher. We may see further rise in 2HFY25. However, on a 2-3 years horizon, gold offers a neutral to negative risk reward.

Cryptocurrencies: In the past couple of years, Cryptocurrencies have emerged as a notable alternative asset class. Being a new asset class the level of understanding and awareness about this asset class is still low, though the participation has risen exponentially. This combination of low understanding - high participation makes it highly volatile. Nonetheless, its popularity remains high and this trend may continue in 2HFY25 as well.

Fixed income: The corporate bond yields and deposit rates appear to have stabilized and may see some downward bias in 2HFY25. The yield gap is now not material. Overall, in my view, the return profile of alternatives is neutral for equities.

Greed and fear index – Negative

Historically, the most successful, though intuitive, indicator of greed overtaking the fear in the market is sharp outperformance of small cap stocks over large cap stocks. Besides, the volatility index, another gauge of fear, has remained low despite several concerns emerging.

The recent sharp outperformance of smallcap stocks and unsustainable euphoria in few pockets of the markets, indicate that greed is dominating the sentiments. The Greed and Fear balance therefore is negative presently.

Perception about the political establishment - Neutral

Strong commitment to promote manufacturing in India; positive outcome of thrust on self-reliance and firmly controlled fiscal balance is keeping markets’ perception about the political establishment positive. However, any significant losses for BJP in the assembly elections scheduled in 4Q2024 may require a review of this position.

Outlook for Indian markets

In view of the positioning of the above seven key factors, my outlook for the market in 2HFY25 is as follows:

(a)   NIfty 50 may move in a large range of 18910-26930 during 2HFY25. It would be reasonable to expect low single digit return for the 2HFY25 on diversified portfolios.

(b)   The outlook is positive for Metals, IT Services, Pharma, Specialty & Agro Chemicals, organized retail and consumer durables. Financials are neutral.

(c)    Benchmark bond yields may average 6.85% +/- 15bps for the year. Long duration yields may continue to do better in 2HFY25.

(d)   USDINR may average close to 83.65+/- 1 and move in the INR82.5-85.2/USD range.

(e)    Residential real estate prices may ease in most metro and large cities.

 

Some key risks to be monitored for the market in 2HFY25

1.    Weather conditions especially La Nina hitting the rabi crop.

2.    Worsening geopolitical situation in Europe and Asia.

3.    A recession forecast for FY26.

4.    Sharp rise in credit cost for lenders.

5.    Unusual rise in rural stress.

2HFY25: Investment Strategy

Asset allocation

2HFY25 appears to be worse than 1HFY25 as the market technical have worsened. Accordingly, I am keeping my primary investment objective to “low returns and capital preservation”. I believe that the market may continue to offer attractive opportunities to build a good portfolio for the period beyond FY25.

I shall continue to maintain standard allocation in 2HFY25; and increase active trading in my equity portfolio to optimize return. My target return for the overall financial asset portfolio for 2HFY25 would be 8% annualized.

Equity investment strategy

I would maintain a 60:30:10 mix of large, midcap and smallcap stocks.

(a)   Target 18% annualized appreciation from my trading portfolio;

(b)   Overweight on Chemicals (specialty and Agro Chem), IT Services, Pharma, organized retail and niche consumer stocks.

(c)    Underweight on financials and avoid PSUs.

The first half of the financial year FY25 has been good for financial and commodity markets. Despite elevated geopolitical concerns, inflation, and political changes in many countries, stocks, precious metals, industrial commodities and crypto made a steady move up, though not without higher volatility.

In 1HFY25, the global central bankers embarked on a path of monetary easing, with several of them cutting rates. Most notably, the People’s Bank of China (PBoC) and the Federal Reserve of the US, did rather aggressive easing. The Chinese (and Hong Kong) equities rose sharply in the last week of the 1HFY25 to erase months of underperformance. Indian equities were amongst the top performing global assets for 1HFY25. Japan, South Korea and European equities were notable underperformers.

Another notable feature of global markets was the sharp rally in precious metal. The central bankers across emerging markets accelerated their gold accumulation, in view of the geopolitical developments and trade tensions.

At present equity markets appear little jittery in view of the recent escalation in the middle east and resurfacing of the Sino-US trade tensions. Otherwise also, the post Covid growth momentum is evidently slowing down with stimulated demand waning across the globe. Fears of earnings failing to match the stock prices’ trajectory are rising. Uncertainties about the policy direction post the US presidential elections, and erratic weather conditions are some other points of concern.

India performance – 1HFY25

Indian markets performed very well in the first half of the financial year FY25. Indian equities have been amongst the top performing global assets. Indian bonds and currency have also been mostly stable. The key highlights of the India market performance could be listed as follows:

·         The benchmark Nifty50 gained 15.6% during 1HFY25; while the Midcap (+25.1%) and Small Cap (+25.6%) did much better. Consequently, overall market breadth has been strong.

·         Two third of the market gains came in the months of June and July 2024, post the elections. This was contrary to the pre-election consensus that the BJP failing to secure a majority on its own may result in sharp decline in market.

·         The total market capitalization of the NSE is higher by ~22.7%; more than gains in the benchmark indices – implying that stronger gains have occurred in the section of the market beyond indices.

·         The number of sectors outperforming the benchmark indices far outnumbers the sector underperforming. The rally was led by Consumers, metals, Pharma, and Realty sectors. PSU Banks was the only segment of the market that yielded negative returns.

·         Ship builders and chemicals were the notable outperformers amongst the individual stocks. Smaller PSU banks were notable losers.

·         Institutional flows to the secondary equity markets were positive for all six months. 1HFY25 witnessed a total flow of ~INR2697bn, out of which FPIs invested ~Rs375bn. The correlation of institutional flows with Nifty returns remained poor (~43%). 

·         The rates, currency and yields were stable in 1HFY25. Policy rates were unchanged; while money market rates were marginally lower by 20bps. Deposit rates did not see much change while lending rates were higher by 15bps.

·         The overall Indian yield curve shifted lower and flattened completely, as the RBI maintained the status quo on policy stance.

·         The economic growth for FY25 is expected to be ~7%, lower than the 8.2% achieved in FY24. Fiscal balance is expected to be better with FY25BE fiscal deficit projected at 5.1% (vs FY24RE at 5.8%).

·         CPI inflation has inched closer to the lower bound of the RBI’s tolerance band of 4%-6% with August 24 CPI inflation number coming at 4.2%.  

• Corporate performance has shown signs of slowing down in 1QFY25 with sales growth, margins improvement and RoE showing signs of fatigue. The steep post Covid upward earnings growth trajectory is now plateauing and showing signs of normalizing.