Vijay Kumar Gaba

 Continuing from yesterday…(see here)

“Policy paralysis” of the preceding Dr Manmohan Singh led UPA government was one of the main planks of PM Modi’s election campaign in 2013-2014. The business community, middle classes, and poor, all were convinced that the UPA government suffers from a severe degree of inertia in policymaking and is therefore responsible for the poor growth of the Indian economy. It was alleged that large-scale and blatant corruption, nepotism (lack of meritocracy), and weak leadership are the primary reasons for the “policy paralysis” and poor execution.

 The traders and investors, who directly access the trading platforms of brokers, are reminded and forced to acknowledge, every time they log in to the trading system, “9 out of 10 individual traders in the Equity Futures and Options Segment, incurred net losses”. This is in fact one of the conclusions of a study conducted by the Securities and Exchange Board of India (SEBI) (published in January 2023). From my study of the Indian stock markets in the past three decades, I understand that this conclusion is no exaggeration.

This state of affairs raises two pertinent questions:

(i)      How sustainable a market is where 90% of participants are losing money consistently?

(ii)     Does not this pose a material systemic risk for our markets, especially under the present circumstances where the global financial and geopolitical conditions are worsening every day, and the probability of an eight-sigma event like 9/11 attack and Lehman Collapse etc. is increasing?

Sustainability of market

In my view, the fact that about 90% of the participants are losing money consistently does not pose any risk whatsoever to the sustainability of the markets.

(a)   There is strong empirical evidence to suggest that a large number of traders on the losing side may have actually aided the market growth in the past twenty-three years.

·         The derivative segment turnover at the National Stock Exchange of India (NSE) has grown from Rs2365cr in FY01 to a staggering Rs3,82,22,86,018cr in FY23 – a CAGR of 91.4%. In simple terms almost doubling every year from the previous year for 23 years.

·         The transaction cost incurred by the ever-rising derivative traders has evidently contributed materially to the development of the capital markets. Brokers have been able to invest significant capital in technology and trading infrastructure, The regulator has also earned a tremendous amount of fees, enabling it to invest in technology and investor protection & education programs; the National Stock Exchange has become one of the most valuable financial service corporations.

(b)   This 10:90 ratio has been true ever since the financial markets came into existence in India. While doing research for my PhD during the early 2000s, I discovered that about 90% of the Indian households participating in the stock markets were actually not serious investors. They would “bet” some money on some random stock to test their luck. They seldom differentiated between buying a lottery ticket, a roll of dice in a casino, and buying stock of a company. However, since the amount of ‘bet” is usually very small in relation to their networth, a loss of 100% of their bet never deters them from testing their luck repeatedly.

(c)    Moreover, over the years the “investment” part of their exposure to the securities market has become increasingly institutionalized. In the past 10 years, the share of retail investors in the total NSE turnover has reduced from over 55% to close to 40% now.

Systemic risk

The rise in derivative turnover and a large number of traders losing money may not be contributing much to the systemic risk of the Indian stock markets. In the past two decades, the Indian markets have been best regulated and safest amongst the global peers. In fact, the Indian market was perhaps the only major market globally that did not impose any trading restrictions, or face any closure or trading halt, during the global financial crisis or during Covid-19 pandemic.

We have hardly seen moves of more than 3% on a daily closing basis in the past 5 years. Despite all the global noise and domestic issues, the implied volatility index (VIX) is persisting at its lowest level.

There are two key reasons for this remarkable stability in our markets.

(i)    Indian markets follow one of the strictest margining systems in the world. The chances of a contagion, in case any market participant defaults, are negligible. Besides, the regulators have also implemented a very extensive surveillance mechanism to identify and control unusual movements in stocks.

(ii)  
The composition of market activity has materially changed since the global financial crisis days when 3-5% daily moves in the index were not uncommon. In FY08 prior to the global financial crisis, the single stock futures (inarguably the most risky derivative product) comprised 58% of the total derivative segment turnover, where the safest product index options were just 10%. In FY23 Index options were 97.7% of the derivative segment turnover, while stock futures were just 0.5%. Obviously, the systemic risk is now minimal. The potential losses are very well defined and adequately provided for through margins.

To conclude, I am not worried about any systemic or sustainability risk to Indian markets. However, I am also not sure about the utility of the warning flashed on trading screens at every login. To deter people from stretching their luck too much and losing money consistently, much more serious efforts and paradigm shifts would be needed. 

 In a paper published in 1988 researchers William Samuelson and Richard Zeckhauser highlighted that a large majority of people have a cognitive bias against change in their present conditions. In their research, they found that “people show a disproportionate preference for choices that maintain the status quo.” They referred to this trait of human behavior as “status quo bias”. Several other researchers have added subsequently to the findings of Samuelson and Zeckhauser.

In my personal life, I have noticed several instances of status quo bias whether it is ordering in a restaurant, making investment decisions, buying vehicles, choosing healthcare professionals, or even voting in the elections.

I find that status quo bias is particularly strong during periods of stress or crisis. I have observed that during periods of stress or crisis (actual or perceived) people generally avoid trying new things, people, or places, etc. They prefer to trust their existing captain when the waters become rough, rather than preferring a change of guards.

The politicians world over perhaps recognized this cognitive bias of people a long time ago and internalized this in their election strategy books. In this age of social media, where information (especially falsehood) spreads faster than sunlight, they often manufacture crises to distract people from real issues and nudge them to maintain status quo, i.e., keep the extant establishments in power.

The reaction of many heads of government, e.g., the US, the UK, France, India etc., to the latest attacks of the Palestinian Hamas Militia on Israeli territories and people indicates their eagerness to shift the popular narrative away from the domestic problems to a distant localized geopolitical event, which may or may not have material implications for their domestic constituencies. To the naked eye, it appears that they are manufacturing a crisis that does not exist just to distract the attention of their domestic constituency and invoke their cognitive status quo bias.

The US economy is struggling to manage the mountains of debt it has accumulated in the past three years; elevated inflation that is hurting the household budgets badly; rising homelessness; rising crimes and drug abuse; crashing ratings of the incumbent President; an apparently clueless central bank; rising discontentment over its policy to fund Ukraine’s war efforts; and diminishing clout over global policy-making (especially in light of the total failure of economic sanctions on Russia and dismal impact of its tariff war with China), pensioners and savers staring at huge losses on their bond portfolios; and financial system placed precariously as MTM losses on their treasury holding climb (eroding their reserves), household delinquencies rising and corporate bankruptcies also rising ominously.

The situation in the UK and France is no different. It may actually be worse than the US, as any visitor to the cities of London and Paris would tell you about the collapse of civic infrastructure, and the rise in homelessness, petty crime, and racial slurs.

Back home, I find that “Hamas” and “Israel” are trending in all social media ahead of the Cricket ODI World Cup. This explains the kind of frenzy created to distract people from core issues that affect their day-to-day lives. Our government seems to have changed our long held Middle East policy of equidistance from both Israel and Palestine, without any discussion or offering any explanation, totally disregarding the fact that it could have serious implications for our energy security and internal security.

 Last weekend the already tense situation escalated materially in the Israel-occupied Gaza Strip area of the Palestinian state. Apparently, the Hamas controlled militia launched a massive ariel and ground attack on Israeli territories, killing over 700 people and injuring many more, including several civilians - women and children. In retaliation, Israeli forces attacked the Palestinian territories in the Gaza Strip, killing over 300 people, including women and children, and destroying several civilian targets. This is the deadliest episode since 1967, in the conflict that started in the late 1940s.

Economic Outlook (CARE Ratings)

Global economy

·         Global growth is projected to moderate to 3% in 2023 from an estimated 3.5% in 2022 according to the International Monetary Fund (IMF).

·         Global Inflation is projected to moderate to 6.8% in 2023 from 8.7% in 2022., however, it is still elevated compared to the pre-pandemic (2017-19) level of 3.5%.

·         Inflation though moderating continues to stay above the Central bank targets, warranting interest rates staying higher for longer.

·         In the September policy meeting, US Fed opted to keep the policy rate unchanged but offered a hawkish guidance indicating one more rate hike in 2023 and fewer rate cuts in 2024.

·         Global supply chains have normalized. However, weak domestic demand in China are keeping global commodity prices muted. Crude oil prices have also been volatile.

·         Bank of England held interest rates unchanged for the first time since December 2021, keeping borrowing costs at their highest level since 2008.

·         European Central Bank hiked rates by 25-basis points marking the tenth consecutive rate increase and taking the deposit rate to a record high of 4%.

·         Going ahead, the cumulative impact of volatile crude oil prices, demand-supply mismatch in China, further rate hikes, and geopolitical risks remain the key monitorables.

Indian economy

·         India’s GDP rose by 7.8% in Q1 FY24 from a growth of 6.1% last quarter, aided by a supportive base, healthy services growth and sustained momentum in manufacturing and construction sectors. CareEdge Ratings projects full year GDP growth to be at 6.5% in FY24 as against 7.2% in FY23.

·         In the coming quarters, GDP growth is expected to moderate due to base normalization. We project full year GDP growth to be at 6.5% in FY24 as against 7.2% in FY23.

·         CPI inflation high at 6.8% in August on account of elevated food prices; core inflation moderated to 4.9% Y-o-Y in August 2023.

·         High-frequency economic indicators such as GST collections, E-way bills, PMIs and bank credit point towards healthy economic activity.

·         On the external front, merchandise exports continue to feel the heat of global demand slowdown and trade deficit has shown signs of widening in the recent months.

·         Overall, healthy domestic economic activity and comfortable current account deficit at 1.8% signal resilience in the domestic economy.

·         However, resurfacing of inflationary pressures, especially food inflation, weather-related uncertainties and external spillovers remain the key watchouts.

 

August tax collections put fiscal risks at bay (ELARA Capital)

Tax revenue sees a sharp rebound; aiding Centre’s capex push

The Centre’s gross tax revenue rose by 16.5% in Apr-August FY24 vs a paltry 2.8% during Apr-July FY24 as corporate taxes rebounded allowing for continued front-loading of capital expenditure. Capital expenditure grew by 48.1% during first five months of the fiscal year to INR 3.74tn or 37.3% of BE – highest post covid.

The capital expenditure continued to be led by roads and railways with more than 42% and 47% of the budgeted amount being spent in the first five months respectively. Revenue expenditure grew by 14.09% this year vs ~3% during the same period last year, recording the highest pace of growth in last five years as spending on subsidies especially fertilizers picked pace. Overall fiscal deficit remained contained at 36% of BE during April-Aug FY24 vs 32.6% of BE in FY23.

See no fiscal slippages in FY24; inflows in small savings encouraging

If the current trend of revenue is sustained, we see no fiscal slippage despite the expected shortfall in disinvestment revenue (INR 350 bn). The disinvestment proceeds shortfall would be adequately compensated by the gains in non-tax revenue. Likewise, the LPG subsidy of INR 200 per cylinder can be comfortably financed by the tax on windfall profits of upstream companies leading to no additional burden on the exchequer.

The interest subsidy under the PM Vishwakarma Scheme is likely to be spread over four years and hence doesn’t entail significant burden this financial year.

With the rural incomes likely to be under stress in the run up to the state and general elections, we do not rule out additional spending to provide relief to the poor. Under the current arithmetic of government finances, should a relief up to INR 400 bn be announced for rural India, we see the upside to fiscal deficit of 15-20 bps.

With flows under small savings remaining robust, the additional spending can comfortably be funded through higher borrowing from small savings fund and/or higher T-bill issuance. Between April-August this fiscal, small savings collections rose by ~ 48%, helping the government mop-up INR 1.6 tn which is 34% of this year’s budget estimate. At this pace, it is likely the government may exceed its budget estimate of INR 4.71 tn from small savings collection.

Continue to hold our call for 10-year yield at 6.9% by March 2024E

An expected lower supply from States (as actual capex spending is likely to be lower than budgeted) and normalization of inflation as well as encouraging FII inflows into the debt market especially in the run up to inclusion in JP Morgan Emerging Market Global Bond Index are likely to create conducive conditions for India’s GSEC yield to moderate to below 7.0% by March 2024E.

We see FY24E-end 10-year yield in the range of 6.9-7.1% with a move towards sub 7% by March 2024.

State of Infrastructure (ICICI Securities)

Electricity demand: Grew by 16% YoY (5M at 6% YoY)

Electricity demand grew by 16% YoY in Aug-23 and the 5M print is at 6%. We believe a sharp rise in demand could be explained by cooling and agricultural demand led by weak monsoon activity.

Road: Fastag collections grew 22% YoY (5M at 22% YoY)

Tag users surged 31% YoY to 75mn as of Aug-23. Monthly volumes for Fastags grew 13% YoY to 308mn.

Railways: Grew by 2% YoY (5M declined by 2% YoY)

Railway cargo grew to 75k ntkm in Aug-23, while 5MFY24 cargo volume remained muted with -2% growth till Aug-23 to 367k ntkms. Containers volume grew 16% YoY in Aug-23 to 8k ntkms led by EXIM container growth of 20% YoY. Coal volumes grew 6% in Aug-23 to 60k ntkms. We expect coal volumes to grow at a faster rate in coming months to replenish the feed stock.

Airports: Pax grew by 23% YoY (5M growth at 23% YoY)

Indian airports freight grew 7% YoY (3% MoM) to 279 kTn. Passenger traffic grew 23% YoY (1% MoM) in Aug-23 to 30mn passengers, of which ~20% were international passengers. GMR Airports and Adani Airports had passenger shares of 27% and 24%, respectively. While share of GMR Airports has remained same, Adani Airports share has improved by ~200bps from Aug-22.

Monthly traffic at Delhi, Mumbai and Hyderabad airports grew 19%, 31% and 24% YoY, respectively.

Ports: Cargo grew by 4% YoY (5M at 3% YoY)

Major ports volumes grew 4% YoY in Aug-23 to 65.3mt taking the 5MFY24 figure to 332mt (up 3% YoY). A reduction of 6% in Kandla port’s volumes in the same period was offset by a 5% and 8% increase in JNPT and Paradip port’s volumes, respectively.

Container terminal volumes grew 8% YoY

5MFY24 container terminal volumes stood at 6.5mn TEU (up 7% YoY). Growth was led by Adani Ports, which grew 11% while JNPT grew ~1%. Share of Adani Ports in total container volumes increased to 65% in Aug-23, from 61% in Jul-23, and to 61% in 5MFY24 versus 59% in 5MFY23.

Automobiles & Components (Kotak Securities)

Domestic PV and 2W wholesales volumes grew by low single digits, ahead of the key festive season. The tractor segment’s volumes remained weak, mainly owing to the weak monsoon in August. Recovery in the export segment remains below expectations, especially in the 2W and tractor segments. Demand trend of the CV segment remains steady, led by strong growth in the M&HCV and passenger carrier segments.

Domestic PV’s wholesale volumes grew low single digits yoy

According to our estimates, the domestic PV industry’s wholesale volumes increased by low single digits yoy and retail volume grew 18% yoy in September 2023 due to a base effect, as Pitru Paksha (Shradh) was in September 2022.

Channel inventory for the PV segment remains around 5-7 weeks ahead of the festive season (Navratri and Diwali). MSIL’s total volumes increased 3% yoy in September 2023, led by 3-5% yoy volume rises in the domestic and export segments. According to our estimates, Maruti Suzuki’s market share stood at ~41.5% (wholesales) in September 2023 ((-)30 bps yoy). Tata Motors reported a 6% yoy volume decline, whereas Hyundai and M&M’s volumes increased 9-20% yoy in September 2023.

Domestic 2W demand remains steady; export segment recovery remains weak

The domestic 2W retail industry’s volumes improved ~22% yoy, led by (1) sustained outperformance of the premium segment and (2) a base effect. Wholesale volumes broadly grew low single digits yoy in September 2023.

Export demand trends remain weak and grew 5% yoy on a low base. HMCL’s volumes increased 3% yoy in September 2023. TVS Motors reported a 6% yoy rise in volumes, led by 8-10% yoy growth in motorcycles and scooters. Royal Enfield’s volumes declined 4% yoy, driven by a 49% yoy decline in export volumes. Bajaj Auto reported flat volume growth yoy in September 2023.

CV segment’s wholesale volumes grew low double digits yoy

According to our estimate, the CV segment’s volumes grew low double digits yoy owing to a strong performance in the MHCV and passenger carrier segments. Retail volumes remained flat yoy. Tata Motors CV volumes improved 13% yoy, led by (1) a 45% yoy increase in the M&HCV segment, (2) a 46% yoy improvement in the buses segment and (3) a 2% yoy improvement in I&LCV, partly offset by a 6% yoy decline in the SCV cargo segment. AL and VECV reported a 9% yoy volume increase.

Domestic tractor segment’s volume print came in below our expectations

According to our estimates, the domestic tractor industry’s volumes declined by low double digits yoy owing to weak monsoon in August. Improved rainfall, increased Kharif sowing, upcoming festive season and better terms of trade should drive a recovery in the tractor segment’s volumes in the coming months. M&M and Escorts’ total tractor volumes declined 11% yoy in September 2023.

IT Services - Demand remains muted; valuations not as much (IIFL Securities)

We expect the Indian IT sector to witness a muted 2QFY24, with CC revenue growth at 1% QoQ. This is because continued macro uncertainty is leading to inaction and hence, a slowdown in discretionary IT spend despite strong deal wins. Cross-currency headwinds are limited to 30bps. Ebit margins will expand by an average ~40bps QoQ, as wage hikes in some companies have been deferred amid favourable supply side. With a focus on cost take-outs, deal-win announcements have picked up in the quarter, which should lead to sequential growth improvement in CY24. However, given the weak 1HFY24, we see companies narrowing down their FY24 revenue guidance to lower end.

Despite a 7% cut in EPS from the peak, NIFTY IT has marginally outperformed the broader markets. Hence, valuations have got re-rated, given the anticipation of pickup in growth in CY24—leaving limited potential upside across the board in near term.

Another subdued quarter; FY24 guidance to be narrowed down: We forecast sector CC revenues to grow modestly at 1% QoQ in 2QFY24, with 30bps headwind coming from CC impact from A-Pac currencies. Continued macro uncertainty is leading to lower discretionary spend and slower deal ramp-ups. In 2Q, midcaps (1.9% QoQ) will continue growing faster than large caps (0.5% QoQ). We expect companies to narrow down FY24 revenue growth guidance to the lower end.

However, CY24 growth can see improvement, as signed but stalled transformation deals as well as increased number of cost take-out deals, start getting ramped up, with clarity on CY24 budgets in 3Q.

Wage-hike deferrals, easing supply to protect margins: We expect sector Ebit margins to expand by 40bps QoQ, as annual wage hikes have been deferred by some companies amid easing supply-side. Net hiring is likely to remain soft in 2Q, as companies look to deploy previously-hired resources and are finding it easier to increase just-in- time hiring. We will watch for: i) 2H revenue and margin outlook ii) Deal-win momentum iii) Gen-AI investments by Indian IT iv) Attrition trends v) Strategy changes and competitive intensity, post the leadership churn vi) Capital allocation.

Medium-term growth outlook intact: We uphold our view that long-term growth rates for the Indian IT sector have reset to a level higher than pre-Covid, as organisations have realised and accelerated the role of tech for survival and growth. Hence, while sector growth will probably decelerate to 4% in FY24ii, it will converge to double-digit growth next year. Near-term stock performance will be driven by commentary on the demand moderation bottoming out. Still, the sector should compound at low teens over the medium term. Given the modest near-term outlook, valuations are a tad rich and poised for time correction. A relatively-better outlook for 2H and the improvement in 2024 IT budgets may drive the stocks higher.

Specialty Chemicals Q2FY24 Preview: Weak demand & pricing (Phillips Capital)

Indian Specialty chemical Industry is all set to deliver one of the worst quarterly performance in Q2 as the Chemical world faces sustained weak demand and production levels falling below COVID (as reflected by PMI of EU, US and China). Additionally, the continued Chinese aggression in terms of dumping impacted the realisations and ultimate earnings. Moreover, the sudden spike in crude prices (yet to get reflected in other inputs) along with no visible sign of demand recovery could continue to keep the mid-term demand outlook uncertain and challenging.

We estimate PC’s Specialty Chemical universe’ is likely to deliver 44% earnings decline (-19% qoq) as the revenues suffers 21% yoy fall (-7% qoq) on account of weak demand and lower product prices and margins corrects 160bps yoy (-110bps qoq) led by weak product mix and negative operating leverage. Amongst PC universe, ATUL will lead the sequential earnings decline with 32% qoq, followed by ARTO (-23%), VO (-17%), SRF (-16%). On yoy basis, all will report sharp earning decline in the range of 36-66% for Q2FY24.

Continued weakness in demand as well as price: The ongoing economic slowdown in Europe (the largest target market for Indian industrial chemicals), inflationary trend in both EU/US (causing decline in consumer demand as well as inventory rationalization by industries) have destroyed overall chemical demand. On the top of that, continued aggressive supply from China (the largest chemical producer of the world) at a time of weak demand situation dragged chemical prices. The demand weakness can also be gauged from the PMI data (weaker than COVID levels) of leading chemical producing countries like US, EU and China (refer page 2).

Softening input prices fails to protect margin and profitability: The key input prices (other than crude), energy cost (Indonesian coal) and freight cost have certainly moderated sequentially but those fail to protect the margin performance of Indian Chemical industry as the final product prices saw faster correction led by aggressive Chinese dumping and the industry suffered negative operating leverage due to weak demand.

In fact, the average input price for Q2 saw the following trend: - crude price (-14%/+9% yoy/qoq), Benzene (-19%/+1% yoy/qoq), Toluene (-17%/-2% yoy/qoq), Phenol (-38%/-18% yoy/qoq), caprolactum (-26%/-13% yoy/qoq), Indonesian coal (-40%/-24% yoy/qoq), etc.

Auto sales – September 2023 (Nirmal Bang)

·         Sales of PVs grew by 3% YoY but declined by 2.5% MoM.

·         2W sales grew by 2% YoY and 11.5% MoM.

·         CV sales grew by 11% YoY and 13% MoM.

·         3W sales grew strongly by 27% YoY but declined by 8% MoM.

·         Tractors sales declined by 11% YoY, but grew by 98% MoM.

 

Auto OEMs in Sept’23 posted good overall performance across PVs, 2Ws and CVs. But, exports for majority of OEMs remained weak. Factory gate dispatches of PVs declined by 2.5% MoM but grew by 3.4% YoY. Demand for entry-level cars declined by 5% MoM and 20% YoY. New model launches will continue to keep competitive intensity high in the UV space. In 2Ws, overall volume grew by 11% MoM and 2% YoY. Tractor sales grew by 98% MoM but declined by 11% YoY. Tractor sales were impacted by postponement of the main festive season this year to 3Q. Going forward, improved rainfall in Sept’23, expectations of a good Kharif harvest, overall healthy macroeconomic factors and positive rural sentiments are expected to boost the momentum in tractor sales during the festive months of Oct-Nov’23.

The first of the current financial year progressed on the predicted lines. There were no remarkable surprises either in the global macroeconomic developments or market performance. The focus of market participants and policymakers remained mostly on the macroeconomic parameters. Economic growth and trade moderated worldwide with a few exceptions like India. Inflation remained elevated but under control. Monetary policy continued to tighten resulting in higher bond yields, tighter liquidity, and rising cost of capital. Geopolitical conditions remained mostly unchanged.