Indian Markets Outlook 2010


TORAL MUNSHI, HEAD, INDIA EQUITY RESEARCH, CREDIT SUISSE WEALTH MANAGEMENT

By :Vidya Bala

A base case scenario of 19,000 and an optimistic target of 22,000 is Credit Suisse's outlook for the Sensex in 2010. If that sounds attractive, be warned, the investment journey may not be as easy as 2009, when one in two stocks in the BSE 500 at least doubled. Despite the expectation of a positive year, 2010 could be marred by volatility and calls for an active investment approach, says Ms Toral Munshi, Assistant Vice-President and Head, India Equity Research, Credit Suisse Wealth Management. In an interview with Business Line, she elaborated on Credit Suisse's market and economic outlook for 2010.

Excerpts from the interview:

What is your outlook/target for the Indian market for 2010, vis-à-vis other emerging markets? What are the key fundamentals that support your forecast?

We have a positive view on emerging market (EM) equities, given healthy fundamentals, strong earnings growth and valuations near historical average levels. With central banks likely to err on the side of too little tightening than too much, EM equities have the potential to overshoot. However, the move may not be as linear as in 2009. Within the EM universe, we believe Asia is best positioned due to high structural growth, low systemic leverage, huge foreign exchange reserves and high savings rate.

We expect 2010 to be a positive year for Indian equities, driven by improving GDP and earnings growth and supportive government action on the reform front. Our base case scenario for Sensex by the end of 2010 is 19000. At our base case scenario, Sensex would trade at a mid-cycle valuation of 15.5x FY-11E earnings. This is reasonable given the expectations of a 20 per cent earnings growth in FY-11. If earnings growth were to accelerate further, we would expect a P/E re-rating to 17.5x, as this would see the return of a growth premium. In such a scenario, we may see the market attempting to touch our optimistic target of 22,000 by year-end 2010.

What are the sectors that are likely to outperform broad markets?

We believe that a bottom-up approach to stock selection will be key to generating above market returns in 2010 rather than sector selection. Volatility will remain high, and sector rotation is likely to continue. We would, therefore, invest in sector themes through satellite trades. However, an active approach to investment is warranted.

Do you believe that FII flows could gain strength in India in the coming year?

FII flows in 2009 have been strong, exceeding $17 billion. A bout of risk aversion triggered by negative global events could lead to a short-term reversal of such flows. However, if GDP and earnings growth meet expectations, we do not expect longer-term trend reversal in flows. On the contrary, strong positive catalysts such as Government action on reforms or strong earnings upgrades, could attract higher inflows in 2010. Longer term, a return to fiscal discipline would play a key role in attracting foreign fund flows.

Is a clear sign of recovery visible in Indian companies?

Indian GDP growth has remained resilient and we expect growth to accelerate to 7.7 per cent in FY-11. Corporate earnings have also seen a strong upgrade cycle. A significant portion of the rebound in earnings in the current fiscal has been driven by declining costs, while revenue momentum has been lacking in a few sectors. Efficiencies brought about during the lean period may prove sustainable, but commodity-linked gains may disappear if prices start rising against the backdrop of global recovery. Increasing cost pressures, therefore, could weigh on margins in H2 FY-11, unless we see reasonable revenue acceleration.



Will 2010 be a year for commodities? If so, are users (as inputs) of commodities likely to suffer once again from higher price of inputs?

Over the past few months, the fundamental background for commodity markets has gradually improved and has now reached a point where prices are starting to react. During the recession, demand declined, inventories increased and prices corrected. In the meantime, demand has bottomed and inventory levels in most markets are peaking.

Since many supply-side projects were cancelled during the recession, demand is now recovering faster than supply. This is triggering a new inventory cycle with rising prices. As a result, the risk-return trade-off for commodity investments has improved considerably.

We expect to see more price gains as more and more countries move out of recession and economic growth broadens in 2010. This, of course, would pose a challenge for commodity users. Investors can benefit by having exposure directly to commodities or through commodity equities.

Do you expect a sharp increase in interest rates? Would it impact earnings of companies?

We expect a cash reserve ratio (CRR) hike in early 2010, followed by repo rate hikes of 125 basis points during the year. The 125 basis points of tightening, though substantial, should be viewed in the context of the 425-basis-point reduction from October 2008 to April 2009. The impact on earnings would largely hinge on the incremental borrowing requirements of highly leveraged companies.

Which markets/economies are likely to see the impact of inflationary pressures in FY-11?

Most economies and regions are likely to see higher headline inflation, as the low base effect of 2009 kicks in and also because of higher commodity prices. But the challenge is much higher for a country like India with CPI inflation rallying into the high-teens range, given the high food inflation. WPI is also set to rise in FY-11 to 6.7 per cent from an estimated 1.8 per cent in FY 2009-10 as a result of the base effect.