Underlying Fundamental Supports. Sustainability of Rally in India.

Last week saw global market getting further momentum. Indian continued being among the best performing market globally with Nifty going up 3.39%, only behind Japan where Nikkei went up by 4.88% and Hong Kong as Hang sang index went up by 3.41%.

It is said that a bull market starts when pessimism is at its extreme and grows on skepticism. Current bull market that stated on 20th December when Nifty had made low of 4531 and sentiment prevailing then was nothing but that of pessimism. Many people who were die hard equity enthusiast had lost faith then. And now in less than two months Nifty has moved closer to 5600 meaning by a rally of more than 23%.  But we understand that the genesis of current bull market dates back even before. Towards the second half of November last year and early part of December, lot of financial liquidity in the form of FII investment had started happening in India though in the form of debt market investment. So the impact was not visible in equity market which was reeling under selling pressure and naysayers. But it was clear that global funds has started looking at India though they were putting money in debt instruments and as history suggests an economy that starts attracting debt flows surely and shortly attracts equity flow as well. To just give some statistics in December 2011, FIIs flow in debt was Rs 21, 700 crores though in the equity it was mere Rs 98 crores. And in January this year FIIs investment in debt remained high at Rs 17,500 crores, but in equity market it spiraled high to Rs 18,700 crores.

There are many who are feeling left out in the rally, and they are the one who could not believe in the fact that if markets are trading around or below fair value, an investor should buy or hold equity investments and should not sell even if macro sentiment is bearish.    

 Coming to the other half of the proverb that a bull market grows on skepticism, there are many who are calling this rally – a reversion to mean rally or a bear market rally. They suggest that this rally is primarily because large amount of liquidity has pumped in by central bankers in Europe and US. And that this is purely a Risk-On rally with no change in underlying fundamental. We sincerely disagree here. Yeah, it’s a fact that there is an element of Risk On but we assume that there are changes in the fundamentals too. See, if it is purely a liquidity driven rally, the benefit of rally should have gone to all risky financial market instruments. Surely in the beginning when the rally, commodity prices moved up along with equities. But, if we look at the trend in February, commodity prices have fallen, while rally in equity has continued. During the last week, whereas equity was up by more than 2%-3% globally, prices of base metals has seen sharp fall. Aluminum has fallen by 6%, Copper by 7%, Lead by 8% and Nickel and Zinc has fallen massively by nearly 9%. Crude remains an exception due to on-going geopolitical tension over Iran issue.

We also see some clear change in Indian corporate fundamental that supports our bullish stance for 2012. One falling commodity prices will help Indian corporate clocking higher operating profit margins going forward. And secondly interest rate domestically will fall going forward and that will further boost profit margin expansion for corporate. Remember fall of 2011 fundamentally was due to margin contraction and expansion on this count will surely reverse losses of 2011.

Though this rally to become structurally strong, we surely need strong policy action going forward to spur demand domestically particularly related to infrastructure.

In terms of Risk at this point in time – we consider Iran issue and its impact on crude prices as biggest risk to Indian market.

Stock specific, even after the strong rally, we believe some of the blue chips are still trading at attractive prices. We particularly like and recommends ICICI Bank, Tata Motors and M&M as investment buy.

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