Economy & Finance

Cooling off

The first quarter of the new financial year has shown a robust economic growth in India. So far monsoon is progressing reasonably well and so the agricultural production is likely to be at par with the expectation. Unless some drastic event happens, Indian economy is likely to grow at a rate above 8% for the fiscal 2006-07.

The first quarter results shown by the corporate India are excellent. A very good show was expected but many a companies have performed even better than expectation. This performance is not just one off bright spot but it is likely that the level of growth and profitability may be maintained by the corporate India for next couple of quarters. The boom time continues and may continue for some more time.

The world economies have performed reasonably well in the second quarter of the calendar year 2006. The US has shown good growth numbers and Europe has not lagged behind. Japan and China have kept their upward tempo and so the global economic picture is bright and healthy. This is an achievement in the era of high oil prices. In spite of continuous hike in the interest rates by U.S. FED and other central bankers in the world, the economic growth has not slowed down. In spite of high energy prices, the corporations are flourishing. This has resulted in higher inflation, which is becoming a cause of concern for U.S. and some developed countries. The interest rates are hiked for curbing inflation, which has increased global movement of capital. The global liquidity scene is changing fast. Excess liquidity is being sucked and is likely to be sucked. Higher interest rates can increase the cost of product, which can slow down the consumption.

In spite of high petroleum prices, the world economies have progressed well specially due to the pushed up demand by the oil producing countries and China. The higher amount of oil profits in the hands of certain countries and companies have triggered spending which has supported the economies of countries like India, which are oil deficient. Higher cost of oil is absorbed by higher exports of goods and services at higher prices. As the profit margins on oil has increased, it has pushed margins on many commodities, products and services. This has caused major economic expansion across the globe. This phenomenon is not sustainable over a long period of time. Oil prices may not come down soon unless the world discovers an alternative cheaper source of energy or there is a recession, which reduces demand. Nobody wants recession and the technologically advanced countries are working overtime to develop a cheaper alternative source of energy than the crude oil. Still, the search will take time. The current global boom does not seem to be sustainable over a long period. The economic tightening has already started. It is not hurting the globe as of now but it may start hurting or start making its presence felt in the next one year.

India story, though integrated to the major economies of the world is slightly different. India is a large market in itself. It is at a different stage of economic evolution than the developed countries in the world. Its position is like that of China, about a decade back. It has strong internal demand. It has fair amount of natural resources. Skilled labour is available at reasonable prices. The problem is Indian labour is politically influenced. They are more cautious about their rights than responsibilities. This attitude can be a hindrance for a developing economy, specially when the development slows down. It can make the bad times worse. Still, the overall picture for Indian economy is not only positive but also bright.

The equity markets

After the setback in the month of May and June, the markets have picked up to quite some extent. Though, the prophets of doom were expecting the Sensex to go to below 8000 level, it momentarily went just below 9000 and bounced back. The encouraging corporate results have pushed the index to the level of 11000. As the result season for the first quarter is over, there can be a lull in the stock market. Good progress of monsoon is a positive factor; but global events and high petroleum prices can make negative impact. Overall the markets are more likely to be range bound between 9500 and 11250 level of Sensex. Below 10000, there will be good opportunity to buy stocks. If the Sensex goes above 11000 profit booking in small lots is advisable.

Now is the time for investing in non-traditional industries. The companies operating in generic space or in commodity business and services such as steel, metal, fertilizers and banking will grow at only steady space. In the rising interest rates, the finance related companies might not be able to maintain their margins. Technology related companies will be able to grow but not all of them can be able to retain their margins due to high cost pressure and shortage of talent. Innovation will decide the new corporate leaders and change will happen faster than ever before.

Investors will have to be selective and should focus on innovative and fast growing companies. In today’s world, past is history. Companies are purchased on the basic of their future earning expectations and not on their historical profits. Be selective and do not increase your allocation on equity as a percentage of the total portfolio at this stage.

Real estate

Real estate had a phenomenal boom in the last one year. The prices have grown on the back of demand by investors. The appreciations are very good. Now as the rate of interests are going up and stock markets are not moving up fast, there can be a slowdown in the property prices in the near future. The prices of land may still appreciate; but prices of constructed premises may not appreciate much in a short run. The cost of construction is going up due to higher inflation and that may give some appreciation. Investors may do well to remain invested in land. They can book partial profits in the constructed premises. Rents have grown well in the last couple of years. Renting can give good returns and help maintenance of the property. Real estate in some pockets in India will still grow over a next few years. Investment in such areas can potentially get good appreciation.

Fixed deposit

Fixed deposit and the terms deposits are regaining their glamour again. Many banks are offering interest rate of 8% for a term of more than one year or when the deposit size is large. In the current scenario, this rate is good and investors can put part of their inevitable surplus in fixed deposit. Fixed deposits with reputed companies are fetching slightly higher rates than the bank deposits. Today, investors can have a serious look at such investments. There is a possibility of interest rate hike in the next few months. So investors may stay away from long-term deposits extending to more than three years.

Mutual Funds – Fixed maturity

plans

The latest offering of fixed maturity plans of many reputed mutual funds have expected return of 8% or even more. Such schemes are typically for 13 month to 5 years. Investors should look at such schemes which have maturity period of more than 365 days and less than three years. As tax benefit of indexation can be claimed on such investments and as the appreciation can be taxed as long-term capital gain, such schemes can save tax up to a rate of 2.5% of investment per year, if properly planned. With appropriate investment of capital gains, effectively the full returns can be made tax free.

Mutual Funds – Debt and treasury schemes

As the interest rates are going up and are likely go up, investors should avoid debt schemes and bond and gilt schemes, at least for the time being. Due to rising interest rates, such funds can cause erosion of capital, which can reduce the effective rate of return.

Mutual Funds – Liquid schemes

The short-term interest rates and call rates have hardened. The effective return on liquid scheme has improved to about 6%. An investor can opt for dividend option and reduce effective tax rate. Investment can be made for even a very short-term. Further, liquid schemes can be used as fund parking scheme when the investor is moving in and out of various schemes.

Conclusion