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Fiscal stimulus will see investment picking up in second half of 2009

MUMBAI: The global equity markets witnessed its worst ever mayhem in the year 2008. Even though portfolio returns have been impacted across asset classes, equity valuations seem to have factored in the downside and are looking attractive from the long-term investment point of view. However, lack of investor confidence would likely to severely affect sentiment in the global equity markets.

What started out as primarily a U.S.-led sub-prime crisis, it snowballed into a liquidity crunch, causing crisis of confidence and risk aversion globally. Cumulatively, investors saw over $30 trillion of market cap (or 49.9 per cent year-on-year) wane away during the year, the largest by far ever in global equities history.

The mayhem was not restricted to equities alone. Commodities that saw lifetime highs, during 2007 and most of 2008, saw huge demand destruction and de-leveraging, closing the year at least 50 per cent off their highs, ending a historic five-year boom. Crude oil futures, which had reached an all-time high of $145.29 a barrel on July 3, sank to around $35 a barrel now.

India was one of the worst performing markets in 2008, melting by 65 per cent in overall market capitalisation. Indian investors lost over $1 trillion wealth led by massive pull out by foreign institutional investors (FIIs). Banking, realty and capital goods stocks led the wealth destruction, while traditional defensives consumer staples and pharmaceuticals held out.

The negative, volatile performance of global stock markets during 2008 left the MSCI All Country World Index, a benchmark of developed and emerging equity markets, with a year-to-date total return of (-) 43.91 per cent as of November 30.

Among U.S. benchmarks, the Dow Jones Industrial Average, S&P 500 Index and Nasdaq Composite Index returned (-) 31.66 per cent, (-) 37.66 per cent and (-) 41.65 per cent, respectively, for the same 11-month period. All 10 component sectors of the S&P 500 Index had traded lower, with the financials and materials categories falling the furthest.

“The announcement confirming that the U.S. is in the midst of a recession underscored another point: The economy has already been in this position for a full year,” according to Gary P. Motyl, Chief Investment Officer, Templeton Global Equity Group. Historically, the average recession has lasted just under one-and-half years and markets typically bottom well before economic activity recovers. Consequently, stocks could be ripe for meaningful improvement. “We note that the ongoing process of de-leveraging and the high degree of global economic interconnectedness threaten to make this downturn more severe than the historical average,” he said.

The World Bank is expecting global gross domestic product (GDP) growth to shrink to 0.9 per cent in 2009 (from 2.5 per cent in 2008). Developing economies are expected to clock 4.5 per cent growth against 6.3 per cent in 2008. Though India’s GDP growth is also expected to shrink from 6.8-7 per cent in 2008 to 5.8 per cent in 2009, it will still be the second fastest growing economy globally.

“We believe 2009 would be a watershed year for a domestic consumption-led economy like India. While there is a slowdown to be expected across sectors and oversupply keeping prices low, volume growth should revert to the mean over the next few quarters,” said V. R. Srinivasan, Chief Executive Officer of Brics Securities Ltd, while elaborating his views on Indian markets.

A lot of attention has been focussed on the impact of slowdown in Tier-I and Tier-II cities. But “in our view”, said Mr. Srinivasan “the real backbone for India will emerge from the money multiplier muscle of rural India. Rising incomes, coupled with farm loan waivers, should set the tone for a broader aspirational India.”

With inflation petering out, growth is back on the agenda. Government spending in the form of fiscal stimulus should see investment picking up in the second half of 2009. World Bank too expects India’s 2010 GDP revive to 7.7 per cent.

“Let’s look beyond the immediate gloom,” said Motilal Oswal, Chairman & Managing Director, Motilal Oswal Financial Services. “We would probably not see double-digit GDP growth in the next two years. Growth could slip to below 7 per cent. Even then, India would be one of the fastest growing economies in the world,” Mr. Oswal added.

More earnings downgrades are likely over the next few months but markets have already discounted the downgrade cycle in anticipation. During the last ten months of market correction, excesses have been weeded out and expectations have been well tempered. Mr. Oswal believes that infrastructure spending will continue or that the government will turn to pump-priming to revive a slowing economy, infrastructure companies might be good long-term bets.

What’s in store for Indian equities? Though 2009-10 EPS for the Sensex should shrink to Rs. 900-925, and thus restrict the Sensex advance to 13000-level for most of the year, market participants in India believe that the indices should start to strengthen at the fag end of the year, as 2010-11 earnings growth starts getting reflected into the market sentiment.

Taking a global view, Templeton’s Mr. Motyl said: “We see two sources of optimism within this environment. First, though 2008’s coordinated market downturn was in many ways unprecedented, so has been the coordinated response by governments around the world. They acted early and decisively, pledging essentially unlimited amounts of liquidity to stabilise the global financial system. Second, objective analysis indicates that stocks are cheap relative to historical valuations.”

However, this time around, for the Indian markets, the pricing of risk will be far more stringent and a lot of investor money will flow into large caps and scalable mid-caps.

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