Crucial period ahead

MUMBAI JAN. 25. The stock markets were in the grip of war fears in West Asia and shed around 40 points breaching the psychological barrier of 3300 on the last day of trading last week. Next week will be crucial for all financial and commodity markets as the weapon inspectors of United Nations would submit their report on Monday. Based on this report the U.S. will decide whether to attack Iraq. However the medium to long-term view continues to be bullish.

The benchmark Bombay Stock Exchange 30-share sensitive index dipped by 82.53 points to 3287.86 during the week ended January 24 from 3370.39 in the previous week. On the National Stock Exchange, the S&P CNX Nifty lost 29.55 points at 1056.05 against 1085.60.

"Tax proposals and reforms will propel the rally anchored on liquidity and valuation,'' stated the India Strategy Report of HSBC Securities and Capital Markets. According to the report, the market bottomed out in November and attractive valuations and favourable domestic liquidity will provide the platform for a rally in the calendar year 2003. Reforms will continue while the budget will fuel the rally. "We are overweight on banking, two-wheelers and information technology and target BSE Sensex close to 3800 by budget day.''

Further explaining its positive stand on Indian equities, HSBC Securities stated that the rally last November provided 9.5 per cent monthly returns — the highest in the past 12 months, and the third highest in the past 42 months. Twentyfour out of 27 sectors (as defined by HSBC) gave positive returns. This heralds the bottoming-out of the Indian market. More than $14 billion was added to foreign exchange reserves in just nine months, and historic negative net RBI credit to the government indicate strong liquidity.

Inflows into equity mutual funds have turned strongly positive. There is a strong possibility that in every quarter of calendar year 2003, privatisation of at least one public sector enterprise (PSE) will go through. Engineers India, Maruti, Nalco and Hindustan Petroleum are the likely candidates.

The inclusion of Kelkar Committee proposals in the budget will fuel rally. The markets expect that the forthcoming Union Budget will try to create a "feel-good factor" by accepting some of the Kelkar Committee proposals to satisfy the middle class and the capital market. Removal of the 5 per cent surcharge on personal and corporate tax, removal of dividend tax, and abolition of long-term capital gains tax are some of the proposals that could find favour with the Finance Minister. These proposals would result in a loss of Rs. 2,500 crores to the Exchequer, but would boost market sentiment significantly. The existing housing finance-related exemptions, and non-taxability of farm income, would not be touched.

From 1998 to 2001, the market rallied during October-February, returning 30 per cent on an average. From this level, HSBC said, the market could give another 12-15 per cent in the short term. The downside to the above scenario is the breakout of a U.S.-Iraq war in the first quarter of 2003.

In an earlier report, HSBC Securities stated that the maximum downside of up to 2,600 would be due to the breakout of the U.S-Iraq war or any other extraordinary bad news. On the other hand, the upside is likely to be up to 3,400 in the medium term, if the privatisation process re-commences. The breakout of the U.S.-Iraq war will push it down further while a strong thrust to privatisation with at least one oil PSE selected for sale would perk up the market. The Indian market does not cast itself in glowing terms if one looks at the pattern of historical returns. In the past seven years (March 1995 to March 2002), the market returned a CAGR of less than 1 per cent (0.9 per cent to be precise). From December 1994 to October 2002, it delivered CAGR returns of minus 3.7 per cent . In five out of the past eight financial years (1995 to 2002, including 1995), the market gave negative annual returns.