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Policy paralysis in 2013 again?

By Devangshu Datta
December 31, 2012 12:46 IST
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Indian flagThe 'trend is your friend' is one of those truisms that carries more than a grain of truth.

A sensible trader usually bets in the direction of the market trend, no matter what his instincts, or any indicators other than price, may suggest.

Shorting into a well-established uptrend is something a sensible trader never does twice.

Even die-hard contrarians will wait for some signs of price confirmation before they commit to action against an established trend.

The market is up around 25 per cent in the past 12 months. It would take a brave man to look for an immediate trend reversal.

On the other hand, there are plenty of reasons to suspect that the uptrend may be unsustainable through 2013. There are also reasons to believe it may be sustainable!

Let's list the key variables that could influence market direction in 2013.

GDP growth is likely to remain subdued but unlikely to slowdown to below 2012-13 levels.

Some improvements may be expected. Rupee interest rates have probably topped out.

Interest rates should drop over the next 12 months.

That's a bullish signal. Corporate earnings should also pick up in FY 2013-14.

Although these positive signals are expected and discounted to a large extent, if expectations are met, the uptrend would have support.

It may accelerate if expectations are exceeded. GDP, or earnings, or both, would have to bounce by large amounts to beat consensus.

Policy interest rates are also expected to ease by 100-150 basis points through the next four quarters.

So, the RBI would also have to be unusually bold to beat consensus.

Institutional attitude is likely to be more critical for market direction than the above variables if only because there's little consensus on institutional attitude.

Even though the FIIs have pumped in $23 bn in 2012, the market is uncertain about likely FII attitude over 2013.

Of course, most investors hope that the FIIs will remain positive. But even if they do remain positive, will they contribute the same quanta of inflows as they did in 2012? Given that the market is up by 25

per cent, the quanta of inflows would have to increase to push prices up further.

FII allocation decisions come from several different perspectives.

There are so many variables involved that net FII attitude is always difficult to predict.

US growth, European currency crisis, US fiscal cliff, Chinese inflation, trouble in the Middle East, Japanese deflation, natural disasters, terrorist attacks, and so on could all play their part in influencing FII attitude.

It would be guesswork at this stage to suggest what events and numbers would have the most weight in FII allocations.

Domestic institutional attitude has been negative through 2012.

A turnaround in DII attitude would naturally help to sustain market levels.

Trends tend to be more sustainable when both DIIs and FIIs are positive.

An easing monetary policy could help here. DIIs have invested a massive Rs 500,000 crore-(Rs 5,000 billion) plus in debt in the past year and if rates drop, some of that money will relocate into equity.

But DII allocation decisions are also going to depend on Indian household allocations.

If household allocations remain skewed against equity, DIIs simply don't have the spare cash to meet redemption pressures and buy stocks in any great quantity.

One can hope that the retail investor class wakes up late and tries to participate in the rally and, thus, invests some money via the mutual fund route.

The last set of variables involve India's fiscal policy and governance issues.

Here, the record suggests 2013 will see policy decisions with generally negative impact.

It would be a Herculean task to rein back the fisc and the current account deficits anyhow.

No government preparing a pre-election budget has ever been known to take the kind of steps this requires.

Will policy paralysis, or deterioration in the policy environment lead to a 'risk-off' attitude for equity investors?  It's difficult to say because this expectation too is also discounted to some extent at least.

Investors in 2012 were prepared to live with policy paralysis.

They may be prepared to live with it through 2013 again.

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Devangshu Datta in New Delhi
Source: source
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