Column: Bonding with equities

Updated: Jan 2 2014, 01:57am hrs
The year past, 2013, has been a trying one for Indiamaybe 13 is an unlucky number! I do not remember many such years in our history. Thankfully, the year has come to an end, and having bid adieu to 2013, we can heave a sigh of relief and take comfort that we got through it without too much damage. Right now, as we start with 2014, there is a sense of comfort and optimism in the air, as on many fronts things are looking up. In 2014, I expect to see to a few trends that will be substantially different from last year.

First, this will be the year when India moves from investigations to investments. We have spent the last couple of years investigating all sorts of thingsdecisions made by the government, corporate deeds and misdeeds. The focus till now has been on looking backand this should shift to looking forward. Already the government is removing hurdles to obtaining clearances (especially environmental) and RBI is taking a series of measures to revive confidence; we should see some pick-up in investments. Though cautious and tentative, the focus will be on capacity creation.

Most corporates and investors are fatigued by the constant pessimism and are now looking for positive trends. In the last couple of months, there was a sense that India went through a crisisthe rupee fell to almost 70 to the dollar and has only recently climbed back from the abyss. Investors have started becoming cautiously optimistic and this should continue through 2014.

In the year ahead, equities will be centre-stage again. Last year, the focus was on interest rates, commodity prices and currencies. We were all watching macroeconomic parametersthis will, in 2014, shift to more micro factors. During bear markets, investors worry about macro factors, and in bull markets, investors celebrate micro stories. Indian investors will return to the equity markets in 2014. For the last five years, Indian investors have deserted equity markets. As FIIs have been buying Indian stocks, we have seen local investorsboth individual and institutionalselling shares in large quantities. Equities are now very under-owned in Indian investors portfolio. As bond yieldsboth locally and internationallystay elevated in 2014 and with commodity prices declining, investors will move from bonds to equities.

Globally, the reallocation from bonds to equities will continue. The US 10-year bond yields have crossed 3% recently and will inch closer to 4% through 2014. This will result in funds flowing into equitiesthough largely to US and European markets, some will flow to emerging markets like India too.

The rupee will be stable this year as weunlike many other emerging countrieshave managed to bring down the current account deficit (CAD) from almost 5% to 3%. This year, we will see major changes in the Indian financial system. The new RBI governor has indicated that he sees markets and banks co-existing in a symbiotic manner. This is a big departure from the past when regulators viewed marketsequity, bonds and currencywith suspicion. This could herald the start of the long-overdue corporate bond market in India. This is absolutely required for funding investments in infrastructure and long-term assets.

We expect that inflation will come down. This will mainly be due to food prices cooling offvegetable prices are already softening and hopefully, the government will release stocks of wheat and rice to cool off prices. However, this may not lead to a sharp reduction in interest rates as inflation is already very high and even after a fall, it will still remain in the uncomfortable zone for RBI.

The general elections will be the most watched event of 2014. Most investors will want to see a stable and decisive government which is growth- and reforms-oriented. After the recent state elections, all parties have understood the need to bring growth backthe current UPA government has set about announcing measures to revive growth and become business-friendly. So, for investors, a stable and progressive governmentfrom whichever partywill be a good thing.

Taper talk will taper off. The second half of 2013 prepared us for the upcoming reduction of bond-buying by the US Fed. But I believe the markets are reasonably prepared now and will take the taper in their stride. Also, the reduction in CAD as well the building of reserves and swaps will ensure that the rupee remains in the 60-65 range.

Global growth will be robust and after many years almost all parts of the world will have reasonable growth. This will also be more all-roundwith the US, Europe, Japan, China and emerging markets seeing stable and reasonable growth. However, the US and China will dominate incremental growth creation in absolute terms. At a 2% global-GDP growth rate, the world will add $1.5 trillion to its current GDP of $74 trillion. India should add $100 billionor 5% of our current GDP of $2 trillion. We need to get our share of global incremental growth from 6% to over 10%.

A few things could hold back the India story. The fiscal deficit will continue to worryeven after the elections, it will be difficult for any government to bring down fiscal deficit significantly. This is a long-term problem for India and we will not see a 3% fiscal deficit for some time.

Another worrisome factor will be credit-quality issues the banks are facing at the moment. NPAs have been rising and we need to put these behind usby marking down, providing or restructuring. As banks will be more preoccupied with asset-quality issues, credit growth could suffer. This can hold back the economy if investment demand reappears.

Lastly, if the general elections throw up a fractured mandate with no clear majority and no possibility of a stable government being formed at the Centre, then investors confidence can evaporate quickly. All in all, this is the one factor that can derail the optimism and kill the India story.

Rashesh Shah

The author is chairman & CEO, Edelweiss Financial Services