Sensex: Key takeaways from 2011

About a year back in November, we were at the highest ever level of the Sensex with hopes of moving higher. A year hence, as we inch closer to the end of 2011, the Sensex has fallen more than 26 pct from its peak, and then recovered a bit.

In the interim, there have been bouts of volatility, long periods of dull range-bound movements, and a lot of events and learnings from the domestic and international markets.

The biggest learning in the last year has been for the present generation of investors who would not have seen such a long period of stock market underperformance and for whom the definition of long-term has changed. For those who started investing after 2003, the last three years have been an excruciating period yielding seriously negative returns. Most of these portfolios are still a few years away from returning to green. The key lesson is, short-term is out and long-term is in, with long-term to be defined as more than three years.

The other key learning during 2011 has been for the Indian corporate sector, where some hardly ever hedged their forex exposure. It was largely perceived by these companies that the rupee would remain stable and the Reserve Bank of India (RBI) would intervene whenever there were sudden bouts of currency inflows or outflows.

This prevented several mid-sized companies from taking a forex cover with the objective of saving costs. After losing significant sums during 2011 on account of foreign currency fluctuations, risk management for forex has all of a sudden become the buzzword for companies that have foreign currency exposure. The corporate sector is unlikely to take the currency fluctuations for granted any longer.

It is gradually becoming apparent that after a few years of excellent domestic economic growth, even when the global economy was struggling, the growth momentum for an 8 percent (or thereabouts) GDP growth for the country cannot be taken for granted any more. Estimates for closer to 7 pct GDP growth for 2011-12 have already been announced by rating agencies. The decision paralysis and governance deficit within the government is at an unanticipated new low and threatens to pull down GDP for 2011-12 to 6.5 percent levels. The greater threat, however, is for the Indian corporate sector — starting to look overseas for expansion rather than investing in India, a far cry from the ‘India shining’ story that used to pull large investments from other countries into India.

Unless the government rises above politics and announces some key policy reforms soon, funds will exit India and we could see a new low for the Indian rupee in the near future. The crisis that a 55 or upward level of the rupee can invite is unfathomable.

In a year when both the euro zone and the U.S. were in a crisis and not attracting global investments, and when emerging markets correspondingly did see good inflows, the fact that the Indian equity markets had a net FII sell figure of close to 0.5 billion dollars (in early December), is an indication of the level of low FII confidence in the Indian economy. The key takeaway is never to take FII investments for granted even if GDP growth is healthier than several other countries. With both business confidence and domestic investor confidence at a new low, and the government in a functionally paralytic mode, 2012 is unlikely to start on a very positive note.

With an uncertain 2012 ahead of us, what should be the investor’s course of action at current levels? With the Sensex at close to 16000 levels, and with downward earning revisions expected for 2011-12 and 2012-13, valuations are already rich. This makes buying a clear no till markets correct further by 5 – 10 pct from current levels, unless of course one is willing to patiently sit out the investment for more than two years. A host of domestic issues will ensure selling at every rally. Selling out at these unattractive levels would be a folly. Under the circumstances, a solution to the euro zone problem appears to be the one factor that could trigger a sharp rally.

H1 2012 doesn’t look too optimistic, hopefully H2 2012 would bring in a change — even a mid-term election in India. If you do want to stick your neck out, buy with a three-year horizon. If not, tide the uncertainty out and wait for a positive turn of events.

Bureau Report

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