Market Outlook- July 2015

Economic Data

Growth: Financial Year 2014-15 GDP growth came in at 7.3% (earlier est. 7.4%). This was an improvement from 6.9% in 2013-14, despite poor monsoons and sluggish consumption trends. Recovery was led by investments with gross fixed capital formation moving up marginally to 4.6% v/s 3%. Consumption on the other hand slowed marginally to 6.4% from 6.5%.

Inflation: May CPI rose marginally to 5% in May v/s 4.9% in April driven by pulses, vegetables and petrol. Benign trend in May CPI followed through to WPI which came in at -2.4% v/s -2.7% last month.

Monsoon: The monsoon got off to a strong start with rainfall as of month-end at 16% above normal. Recall that, the Indian Met Department has forecasted a 12% shortfall in seasonal rainfall this year post strengthening of El Nio.

Policy: RBI had a monetary policy meeting on June 2nd and in line with expectations, the central bank announced a 25bps cut in repo rate to 7.25% while leaving CRR and SLR unchanged at 4% and 21.5% respectively. The governor highlighted that forward guidance would be data contingent.

Trade Deficit:The merchandise trade deficit narrowed for the 2nd consecutive month in May to $10.4bn but the compression was largely on account of gold import normalisation. Exports stayed weak in May at -20% YoY.

Equity markets

Indian equities witnessed a muted performance in June, following a disappointing earnings season and rising global volatility with a potential Greek default and exit from Euro currency looming. Monsoons, however, got off to a strong start in June despite El Nino concerns. RBI's 25bps repo rate cut during the month also provided some comfort. Infra and Energy sectors outperformed the market while IT, Realty and Metals were among the key laggards. Markets fell in June, with the BSE-100 index -1% and CNX Midcap index -1.3%.

The selling momentum from FIIs seen in May, continued in June and we saw net-selling to the tune of $962mn. This moderated our inflow YTD to $6.75bn. DIIs remained net buyers to the tune of $1.88bn (highest monthly inflow in 5 years) with mutual funds buying $1.62bn and insurance companies contributing the balance $265mn. DIIs have now bought $3.9bn YTD.

The month of June witnessed a pickup in capital market activity with 11 deals totaling $1.4bn during the month. This was largely led by IndusInd Bank's ~$700mn QIP. Apart from that, we also saw a 3.7% stake sale (~$275mn) by Volvo in Eicher Motors and the ~$75mn stake sale by Apollo PE in Dish TV. The IPO market has also started picking up with filings of draft RHP documents by a slew of companies including Indigo Airlines, Coffee Day Enterprises and Ratnakar Bank.

Outlook:

The impressive tempo of Government spending seen in April continued in May with the government spending 13% of FY16 budgeted plan expenditure in April-May FY16 v/s 10% during the same period last year. Government spending has been focused on roads, rural development, agriculture and human resource development. Continuation of spending momentum seen in the first two months of the fiscal year is likely to result in a strong and visible impact on macro economic data and on corporate earnings as economic activity begins to pick up.

While monthly IIP growth remains volatile, the 6 month moving average (a more meaningful indicator in our view) of IIP is showing clear signs of improvement. Currently, the 6MMA is running at 3.8%, v/s a sub 1% reading last 1-2 years.

The markets are trading at about 17-18x FY16 estimated earnings for SENSEX. Given benign oil prices, unwinding of China optimism, monsoon progress thus far and a resilient currency, we continue to maintain a positive bias on the market (barring any near term volatility that may emanate from events in Greece).

The only other risk factor we visualise over the immediate term, emanates from worries over the Fed rate hike causing a continued muted environment for foreign equity inflows.

The strength of the market in such a situation will depend on the resilience of domestic inflows, which so far this year have surpassed expectations. With real interest rates staying in positive territory, we expect this trend to continue as India's household savings transition from physical to financial assets.

Debt Market Update

Bond yields experienced high volatility in June. Global bond rout, Greece default at the end of the month and monsoon concerns dominated the bearish sentiment.

RBI delivered 25 bps rate cut at the start of the month but rate cut did not help bond yields as language of policy seemed to indicate a pause in the rate cut cycle. Unlike previous policies, RBI didn't give explicit future guidance and raised its March'16 inflation forecast to 6% on account of monsoon worries (based on IMD forecast of poor Monsoon) and service tax hike.

CPI and WPI prints were in line with market expectations and continued the trend.

The 10-year benchmark bond ended the month at 7.86%, 22 bps higher than the previous close of 7.64%.

Outlook:

Though RBI indicated that it may 'pause' in its rate cut cycle, future actions will be data dependent.

The US Fed policy statement was seen to have a slight dovish tilt, as the wording took global developments into consideration. The development was positive for bonds.

Events in Greece overshadowed the Fed. Greece defaulted on interest payments on its IMF loan and called for a referendum for future stance on its outstanding debt repayment. However, the actual Greek default did not have much effect on the markets.

China continues to slow down and recent rout in local stock market led to sell off in commodities. Hope of deal with Iran and falling global demand has caused steep fall in crude oil prices. Brent oil has corrected more than 10% in is currently trading at USD 56/barrel.

On the domestic front, after a good start, monsoon rains have dried up. We believe the correlation between poor monsoon and food inflation is not very strong and that poor monsoon would cause more damage to rural demand than to primary inflation. RBI has also highlighted that poor monsoon may not necessarily result in higher inflation.

We expect inflation to continue to ease as crude prices and other commodity prices ease. We also expect limited impact of any deficiency in monsoon on food prices. Proactive measures by the Government by importing pulses, oilseeds and increase in export price of onions are likely to help in keeping food inflation in check.

Over the medium term we expect that the Government measures in tandem with monetary policy will help RBI in achieving inflation target. The current levels of bond yields are attractive from a medium term perspective. In the near term, higher volatility might continue as news flows from Europe and China would continue.

Source: Bloomberg

This document is for information and illustrative purpose only. Any advice, opinion, statement of expectation, forecast or recommendation mentioned herein shall not amount to any form of guarantee that HDFC Life Standard Life Insurance Company Limited has determined or predicted future events or circumstances.