Since the first week of March 2009, global equity markets have witnessed a dramatic turnaround in sentiments with couple of positive macro-economic data like purchasing managers index (PMI) in the US, China, Europe and India showing signs of improvement.
Since then, financial markets across the globe started fancying about a ?V?-shaped recovery for the global economy, which certain sections of the market participant feels would not materialise because of the various kinds of structural imbalances inherent in the various economies of the world. However, global equity markets having rallied higher in the range of 25%-50% has reached a point where its sustainance would lot depend up on the broader macro-economic data and the corporate earnings being reported in the coming months.
?Green shoots will turn brown by the end of this summer,? said, Stephen S Roach, chairman, Morgan Stanley Asia. Roach cites three key factors in support of his argument. Firstly, he feels that the crisis itself is not over as the International Monetary Fund (IMF) has predicted that over $4 trillion of toxic assets would have to be written off globally. So far only 37.5% or $1.5 trillion of toxic assets have been written off. Secondly, in the current scenario, 75% of the world economies are still contracting, which indicates that the balance between contraction and expansion is more skewed towards downside.
And thirdly, the inability of the consumers in other parts of the world to truly replace US consumer spending, which would retard the recovery in the global growth. The annual spending by the US consumer stands at around $10 trillion, whereas the combined consumer spending in India and China, expected to fill the vacuum created by a contraction in US consumer spending, constitutes just around $2 trillion. ?So the market which is pricing in something closer to a ?V?-shaped economy recovery will have to correct itself sooner or later,? said, Roach.
However on the domestic side, the outcome of the elections has significantly altered the growth outlook of global financial institutions towards India. ?The election results have immediately improved the outlook for capital flows which means an upgrade in earnings forecasts,? said Ridham Desai, equity strategist, Morgan Stanley India. He thinks that the earnings growth for the BSE Sensex constituents, on an aggregate basis, will likely to be 2.5% and 12.5% for financial year 2010 and 2011 respectively. Before the elections results, the earnings forecast for Sensex companies was a negative-10%. Similarly for the broader market, where the earnings forecast were expected to be negative-25%, Desai has upgraded it to negative-5% post election results. ?The market would go higher if the corporate earnings go higher. We expect the Indian market to outperform the global markets and in the best case scenario, the Sensex would hit 19,000 by the end of this calendar year,? he said.
With central banks and governments across the world aggressively loosening monetary and fiscal policies, the global market is awash with liquidity. And Desai attributes the recent rally in equities and commodities considered to be the riskier assets to this phenomenon. As the real economic activity still to pick up, liquidity is chasing riskier assets. However, when growth picks up pace, Desai thinks that a portion of the money currently parked in equities and commodities may return and get invested in real economic activity.
With the lagged effect of the aggressive monetary and fiscal policy measures starting to show results, Chetan Ahya, MD, Morgan Stanley Asia, expects a gradual recovery in the domestic growth. Further he feels that higher spending by the government would help support domestic demand and a turnaround in US purchasing managers index indicates that the decline in India?s export growth has almost bottomed out. Moreover, the election outcome has resulted in increased capital inflows which will help the domestic corporate sector to heal their balance sheets especially in those sectors like real estate, which have a high debt equity ratio.
And the second-stage boost would come in the form of higher infrastructure spending, augmentation of government resources through privatisation (divestment of stake in government companies) and implementation of some of the long pending deregulation measures for the pension funds, banking and the retail sector would further drive domestic growth.
However, a potential risk that could hold back India, is its soaring fiscal deficit which is likely to remain high, according to Ahya. He further feels that the issue of non-performing assets (NPA) would restrain the banking sector?s ability to lend credit and the contraction in the G-7 GDP growth would somehow affect India?s growth rate.
