Correction week begins Monday for India markets

Indian markets posted their biggest weekly decline in 18 months as several worries dominated the street, beginning with the escalation of
tensions between the United States and North Korea.

The Doklam standoff between India and China along with the crackdown on suspected shell companies by SEBI added to negative sentiments as earnings and macro numbers continued to disappoint.

The Nifty lost 3.5 percent during the week to close near 9,700 – wiping off almost all of its advances in July.

The mid-cap and small-cap indices saw a sharper fall in excess of 5 percent with certain stocks falling more than 10 percent. All sectoral indices saw significant selling pressure, except for the Nifty IT index which remained resilient and was down 1 percent.

The rupee recorded its biggest weekly drop since November, but was limited to 64.20 against the dollar. The outlook for the rupee remains positive as a stabilising euro and yen could help the rupee retest recent lows of 63.50 against the dollar.

SEBI came down heavily on suspected shell companies, releasing names of 331 companies and notifying exchanges to keep these stocks in the Graded Surveillance Mechanism (GSM). These companies may face compulsory delisting by exchanges, following a forensic audit to verify their credentials. It’s natural that investors would look at these stocks with suspicion.

Meanwhile, the mid-year survey of the Indian economy was released, covering topics ranging from an unprecedented decline in inflation figures, contracting service and manufacturing sectors, and the RBI being the only central bank across Asia to slash interest rates.

The survey cautioned that reaching the upper limit of projections for economic growth at 6.75 to 7.5 percent will be difficult and expects inflation to be well below the RBI’s target of 4 percent by March 2018.

It said real policy interest rates are elevated and higher than in other emerging markets, and the fiscal outlook for the year is uncertain because of reduced revenue from slower-than-anticipated nominal growth, lower telecom spectrum receipts and increased expenditure of 300 billion rupees on account of the Seventh Pay Commission. It noted that NPAs in the banking space have grown on account of slow growth and increasing indebtedness seen in some sectors.

The RBI too paid a much lower dividend to the government, highlighting the after-effects of demonetisation. It warned of “exuberance” in the financial markets, pointing out that the P/E ratio of Indian stocks is “substantially greater than the long-run average of 18 and not far from the frothy level reached in 2007”.

Markets on Monday are expected to initially react to June IIP data released on Friday evening. The IIP slipped into negative territory to a four-year low, contracting 0.1 percent year-on-year. This is in comparison to a revised 2.8 percent growth for May. The output contracted as companies cut stock and put fresh orders on hold ahead of the Goods and Services Tax (GST) rollout.

The next set of corporate results to be announced include Coal India, Grasim, Tata Power, IDBI, Dish TV and are expected to keep the markets busy in a truncated week. On the macro data front, WPI and CPI inflation for July will be announced on Monday.

Telecom will be in focus as the inter-ministerial group’s meeting is likely next week and the report will be finalised by the end of August. However, players hoping for some measures to deal with high debt could be left disappointed as there is lack of consensus within the group that policy action is required.

On the global front, Monday will see the release of Japan GDP and China IIP data followed by U.S. retail sales data for July on Tuesday. The FOMC will issue minutes of its July 26 meeting on Wednesday. U.S. data on housing starts and the euro zone GDP will also be declared on the same day.

The Indian markets are currently seeing a classic case of a P/E expansion phase in the market where there is hardly any earnings growth over the past four years, but they have been touching new highs based on hope. At times, external factors provide the reality check and this came in terms of geo-political issues to a large extent and our macro numbers and SEBI action on “shell companies” to a smaller extent as markets tend to react to immediate environmental changes.

Although the current correction is in line with my expectations, we could see a deeper correction if any of the geo-political worries play out. On the other hand, the upside remains capped due to uncertainties. We are likely to witness heightened volatility and a flight to safety in the near term.