November 2008
In 2008
The month ended on a sad note with the terrorist attack in Mumbai and the country grappling with how to prevent such incidents in the future. There seems to be no immediate solution to the problem, and what is surprising is a global apathy to the root cause of the problem. With more negative news unraveling globally, like a near collapse of Citigroup and similar situation faced by the likes of General Motors & Ford, markets continued to remain weak during the month. After last year’s negative news on various fronts like the sub-prime crisis, etc, global markets around the world are starting to see the impact on the real economy. During the month, several global economies like US, UK, Japan, etc faced up to the fact that their economies at large has entered a recessionary phase. An analysis of past recessions indicate that this phase (which is already more than 3-4 months old) can probably last for to 2-4 quarters at least. At the center of this problem is the excessive borrowing by consumers in developed markets, especially USA, and a lack of regulation in key areas of the economy. What we need to try and focus on is the impact of all these on the Indian markets.
1. India is ranked as the 12th largest GDP in the world, behind US, China, Japan, European majors, Canada, Brazil and Russia. India’s GDP growth rates are expected to slowdown from over 9%, but still expected to reign over a 6% annual growth rate in the current year. Most other higher ranked countries are facing slow down due to a combination of reasons including slowing domestic demand, sharp fall in commodity prices and excessive dependence on exports. As a result,India is expected to improve its global ranking in the coming years, which will eventually attract international investors.
2. Exports as a proportion of GDP for India is 13% in comparison to China with 38% exports and similar high levels for many of the large economies. As a result,Indiais to a large extent insulated from the global economic weakness.
3.India’s savings rate at 35% of GDP is amongst the highest in the world, out of which 24% is from household savings.India’s Borrowings to GDP ratio is about 50% compared with 350% for USA. As a result of both these factors, the Indian consumer is less leveraged compared with most consumers across the world and there are no significant limitations on the domestic consumer’s ability to spend.
4. Domestic consumption was consciously slowed down over the past 2 year through tightening monetary measures taken by the government. Interest rates in India have gone up by over 4% over the past 2 years, on the back on inflation control measures by the Reserve Bank of India. With inflation showing a sharp decline over the past few week, driven by lower oil, metal and edible oil prices, most analysts expect a sharp reduction in interest rates in the coming months which should lead to a boost in domestic demand in the coming months.
Several highly profitable companies, with strong balance sheets and reasonably strong earnings are trading at valuation not seen in the past (Infosys trades at less than 10x, Glaxo Consumer at 9 x, HDFC adjusted for its investments is at less 10 x, and some MNC pharmaceutical companies like Fulford trading at less than 2x adjusted for cash). Markets currently are factoring in dooms day scenario for several companies in India, and most analysis indicates that the Indian economy should revert back to normalcy soon. Looking at the kind of valuations that we see in the markets, especially among companies that have a great track record of generating consistent levels of high Return on Capital, strong balance sheets and currently doing well, we believe the markets may have bottomed.