After a smart post-2008 crisis recovery in the equity market over 2009 and 2010, when the Indian equity market went up 81% in 2009 and 18% in 2010, 2011 was a disappointment. While global factors such as the European crisis and slow recovery in the US were the main triggers, inflation in India as well as delay in government policy-making were the main reasons behind India’s disappointing year on the stock market. The benchmark Sensex index fell around 23% since the beginning of the year.
That markets were in distress is reflected by volatility. On at least 30 occasions, the Nifty of the National Stock Exchange moved at least 100 points in a single day, a daily move of about 2%. While foreign institutional investors (FII) stayed away for most of the first half of the year because prevailing valuations didn’t enthuse them, they continued to stay away even in the second half when markets fell by 10%. Simply put, FIIs found Indian equities risky.
Global and domestic factors weighed down markets
FII net flow into the Indian equity markets for the first six months of 2011 was $0.5 billion (R2,636 crore) compared with $4.66 billion for the same period in 2010; in the next five months FIIs were net sellers (they sold more than they invested) to the tune of nearly $1 billion. “We have failed to deepen the equity markets,” said Vivek Mahajan, head (research), Aditya Birla Money. “We don’t have large domestic long-term funds to counter FII outflow and hence markets have suffered.”
India’s inflation was the biggest worry from the start of the year and the Wholesale Price Index remained consistently above 9% throughout 2011 — touching a high of 9.78% in August. To counter rising inflation, the Reserve Bank of India (RBI) raised interest rates six times by a total of 225 basis points (100 basis points is 1 percentage point) in the year. The repo rate now stands at 8.5% and base rates for the largest private and government-owned banks are close to 10%. The impact of a series of hikes can be seen at various levels. According to October figures, the Index of Industrial Production (IIP) contracted by 5.1%, the worst fall since March 2009. Gross domestic product for the second quarter of 2011-12 declined to 6.9% compared with 7.7% in the first quarter. RBI data for scheduled commercial banks shows that credit growth has slowed from 24% in January to 18% in November (provisional figures). High interest burden and raw material cost on the back of rising commodity inflation has also taken a toll on companies’ profits.
Companies are losing out on pricing power and are not in a position to pass on the increase in input costs. The situation has got compounded by the sharp increase in financial costs. This is hitting earnings, said Mahajan.
Additionally, the rupee saw a record fall against the dollar in 2011. “ The fall in rupee was inevitable on account of the high current account deficit,” said Vaibhav Agarwal, vice-president (research), Angel Broking Ltd. “As capital flows dried up, matters became worse.” On 23 December, it was trading at Rs 53.0 per dollar.
At the end of November, with the announcement of opening of foreign direct investment in the retail segment, there was a ray of hope that government may finally act on policy matters. However, this retracted within days. Investor confidence got battered, leading many domestic and global brokerages to lower the Sensex target for 2012. “Global factors have affected the performance of our market to some extent, but mainly domestic factors have come to haunt us. Policy inaction is possibly the single-largest factor,” said Mahajan.
Adding pressure were external factors such as the ongoing European debt crises; confusion remains despite the bailout package for Greece and liquidity infusion by central banks. Then there are concerns that the US will record a slower-than-expected growth. All this put together led markets lower throughout the year; it declined at a greater pace in the last three months. The Indian equity market on account of its domestic issues along with global chaos was one of the worst performers with at least 23% decline in 2011. MSCI World Index declined 11% and MSCI Emerging markets index declined 21%.
Turbulent markets shook the MF street as well. Equity diversified funds lost about 22% on average. Mid- and small-cap funds lost a bit more; their average loss for 2011 stands at about 26%. As markets and funds slipped lower and lower, interest rates rose and other asset classes, such as gold and bonds, saw investor inflows and higher returns.
NCDs and infrastructure bonds
At least seven companies issued retail non-convertible debentures (NCDs). The prominent ones included State Bank of India and Shriram Transport Finance Ltd; Muthoot Finance Ltd, Religare Finvest Ltd and India Infoline Investment Securities Ltd were first-time issuers. Given the dismal state of equity markets, NCDs presented a good opportunity to balance portfolio returns and add income with returns of 9.95% at the start of the year to 12.5% in the second half. In most cases, the credit rating for companies was AA or higher, indicating low credit risk.
In addition to NCDs, infrastructure finance companies, including IDFC Ltd, IFCI Ltd and LT Infrastructure Finance Ltd, issued infrastructure bonds. Along with high rates, these bonds provide an additional tax deduction of up to R20,000 under section 80CCF. So if you invested Rs 20,000 in an IDFC infrastructure bond with an annual coupon rate of 9%, the post-tax compounded annual growth rate yield on the five-year cumulative option would be as much as 14.7%. The issuers in this space, too, were rated AA or higher. Interest income of both NCDs and infrastructure bonds is taxable.
Amid volatility in risky assets and poor outlook for the dollar, gold prices saw a sustained rally in 2011; MCX gold prices have increased 33.8% year-to-date. Global growth fears and uncertain economic outlook spelt good news for gold demand. Buying was up not only from investors through commodity and exchange-traded funds (ETFs), but also from countries looking to increase their sovereign holdings.
On the domestic front, assets under management (AUM) of gold ETFs went up from Rs 3,581 crore in January to Rs 9,568 crore at the end of November.
December saw some volatility in gold prices. Even so, experts remain bullish; weakening global scenario, economic uncertainty and risk aversion is likely to keep gold demand high. Some, however, are cautious.
“We believe that gold has probably touched its peak in dollar terms,” said Gopal Agarwal, CIO, Mirae Asset Global Investments (India) Ltd. “This is because the Euro zone is refraining from purchasing bonds. On the other hand, the US is witnessing improved data points, which augurs well for the economy. In this scenario, there would be limited scope for gold to regain its peak.”