As 2015 draws to a close, markets in India are heading towards their worst annual returns in four years. The year saw domestic investors take centrestage, ending a nearly two-decade dependence on foreign portfolio investors for market direction. A 6 percent fall in the Nifty index so far this year proves the markets had run ahead of themselves with returns of 36 percent riding on Modi-led euphoria the previous year.
In 2015, markets were excited and tensed over both domestic and global issues. International factors included the U.S. Federal fund rate hike, China’s currency devaluation, the commodity price crash and a global economic slowdown. Concerns and events specific to India included the political logjam after washout monsoon-and-winter sessions of parliament, slow implementation of reforms, a below-normal monsoon, RBI rate cuts and IPOs making a comeback.
Among the key events that kept markets busy was the U.S. Federal rate hike, one of the most important determinants of the global market movement. The Fed hiked rates for the first time in a decade after the U.S. economy showed signs of strengthening. A slowdown in China and the subsequent yuan devaluation to boost exports rocked global markets in August. The Chinese government tried to save its stock markets by banning short-selling, which turned counter-productive. Such was the impact and fear of the China slowdown that the International Monetary Fund cut its 2015 global growth target to 3.1 percent from 3.3 percent.
Crude oil tumbled by 45 percent this year to $35 per barrel after the OPEC refused to tone down its production in an already oversupplied market. A commodity boom led by China’s fast-paced growth went bust. The S&P commodities index plunged 34 percent this year to its lowest level since 1999 and down 80 percent from its peak. China had been consuming half of the world’s production of aluminum, copper and steel. Suddenly there were no takers, leading to over-capacity around the world.
However, record low crude oil prices were a boon for India as it imports 80 percent of its total oil consumption. This reduced the trade deficit, along with lower subsidy burden and inflation. It also benefited industries using crude and its derivatives, thereby improving their margins. However, a crash in metals made it a difficult task for the government to safeguard the interests of Indian producers. They stepped in by increasing import duty to dissuade dumping by neighbouring countries. Overall, it was a dark year for commodities. But I believe we are near a bottom in most of the commodities markets, especially crude oil and metals. The natural cycles come to play with capacities progressively shutting down, leading to shortages and the beginning of a new up-cycle.
Politics and reforms were the most talked about domestic issues in India this year. The logjam in parliament stalled key bills such as the Goods and Services Tax (GST). In the last few months, the government has tried to initiate various reform measures that do not necessarily need a legislative nod. These baby steps, including easing FDI norms in 15 sectors and reforming the power sector, will surely pay off in the long term.
The below-normal monsoon this year had an impact on the Indian economy. Sectors dependent on the annual rains and the rural economy as a result suffered a major slowdown. Demand recovery is still elusive and the only hope is a normal monsoon in 2016. The U.S. FDA played spoilsport for the Indian pharmaceutical sector, issuing warnings to various companies which led to a drastic drop in the valuation of frontline companies.
However, it wasn’t all that gloomy in 2015. It was a good time for primary markets after a five-year hiatus. As many as 21 companies tapped the markets to garner 135 billion rupees, the highest in five years. Most issues have fetched strong listing gains with Dr Lal Pathlabs seeing the best debut with gains of 50 percent on listing day. With more than 60 percent of these newly listed securities trading above offer price, the incumbents are a more confident lot. The pipeline for 2016 is already in excess of 500 bn rupees.
The coming year is full of hope in the form of a balanced budget, progress towards the passage of the GST bill, a good monsoon and corporate earnings recovery expectations in the second half. Implementation of the seventh Pay Commission recommendations and OROP (one rank one pension) is expected to help increase spending power, thereby helping consumption demand. But factors such as low capacity utilization and high leverage of Indian corporates will ensure that the pace of recovery will be slow and painful.
This time around, investors are no longer waiting for Big Bang reforms in the budget. Reports suggest the focus is expected to be on the agriculture sector, especially irrigation, as it will reduce dependency on the monsoon and improve productivity. Another focus could be on the infrastructure sector which would have a high multiplier effect. Fiscal consolidation will be a key challenge. The government has set a fiscal deficit target of 3.5 percent of GDP in 2016-17. The economy could grow in the range of 8-8.2 percent for the year.
Monetary policy action by the RBI will be keenly watched. After a series of front-loaded rate hikes, it will be interesting to see the governor’s stance this year. It is likely to be accommodative in 2016. The RBI has set an inflation target of 5 percent for 2016-17. If it remains in that zone, there will be certainly more room for rate cuts. We could see a 50-75 bps rate cut in 2016-17.
On the rupee front, I do not see it depreciating significantly from current levels. Factors such as adequate forex reserves, low commodity-led inflation and a controlled current account deficit are seen supporting the rupee. However, foreign fund outflows will be a key determinant of rupee movement next year. I expect it to appreciate and be in a broader range of 62-65 levels against the dollar by the end of 2016.
As for corporate performance expectations, much depends on global commodity prices. Automobile and consumer stocks have benefited from weak commodity prices, which may be affected if commodities bounce back next year. Banking sector stress is expected to continue on account of high NPAs in the system. Also, the recent RBI directive of recognizing loans to corporates — termed NPAs by other banks — as stressed is likely to result in increase in provisioning that will hurt profitability. Recent reports are suggesting there is a pick-up in credit growth from India Inc, indicating a revival in the investment cycle. If this turns out to be true, then we could see the capex cycle turning for the better and an impact on other sectors of the economy.
Overall, I see 2016 as a year of recovery at the ground level, revival in consumer demand, concrete government action on the domestic front and the opposition being more responsible in parliament. I am hopeful of a normal monsoon and the revival of FII flows as India would be one of the few bright spots in the global economy. Time to remain invested and increase exposure gradually as we move towards an era of high growth over the next few years.