The Index of Industrial Production (IIP) after sailing in the positive territory for the last four months, once again slumped in June 2013 to -2.2% as per, thereby contracting further from the previous month's (i.e. May 2013's) quick estimates of -1.6%. In fact the data for May 2013 underwent its first revision which depicted further contraction, placing it a -2.8%, reflecting lull in industrial activity and making the situation appear grim.
IIP on roller coaster;sending jitters!
Data as on June 2013
(Source: CSO, PersonalFN Research)
Evaluation of some of the important components of IIP for June 2013 reveals the following:
- Manufacturing index after being on an expansive mode in four months (from January 2013 to April 2013) registered a contraction, whereby data for June 2013 came in at -2.2% while the data for May 2013 was revised downwards to -3.58% (from quick estimate of -2.0%). In terms of industries, 13 out of the22 industry groups (as per 2-digit NIC-2004) in the manufacturing sector have shown negative growth during the month of June 2013 as compared to the corresponding month of the previous year. The average growth in manufacturing for the fiscal year 2012-13 has been mere 1.3% and thus far for the current fiscal year (for the three months reported as per the present estimates) has been -1.2%; which reflects lull in industrial growth.
- Consumer goods index too contracted to -2.3% in June 2013, but the data for May 2013 witnessed a rather sharp contraction during the first revision placing it at -7.1% (from -4.0% reposted in the quick estimates). Segment wise assessment reveals that consumer durables have been under pressure since December 2012. In June 2013, it has contracted by -10.5% and even in the previous month (i.e. May 2013) it contracted further to -18.4% in the first revision (from -10.4% reported in the quick estimates). But the consumer non-durables segment on the other hand, has been on an expansive mode albeit some slowdown seen. In the month of June 2013 it grew at +5.0% and the data for May 2013 too was revised upwards to +3.0% (from +1.7% reported in the quick estimates).
Basic and Capital Goods, limped yet again by reporting a contraction of -1.9% and -6.6% respectively. The data for May 2013 witnessed a downward revision in respect to basic goods, placing it at -0.9% (from -0.4% in the quick estimates); while the data for capital goods for the same month was marginally revised upwards to -2.6% (from -2.7% reported in the quick estimates). However, Intermediate goods index reported an uptick with June 2013 data at +1.1%, although the data for May 2013 was revised downwards to +1.0% (from +1.5% reported in the quick estimates).
So would RBI cut policy rates now?
PersonalFN is of the view that,the slump in IIP reveals that the scenario is grim. But this in our view may not induce the
Reserve Bank of India (RBI) to reduce policy rates, because at present Indian rupee and Current Account Deficit (CAD) seems to be the main focus for monetary policy action. It is noteworthy that, despite
RBI increasing short-term rates and contracting liquidity, the rupee has yet remained under stress and at present is near the all-time low of Rs 61.81 against the U.S. dollar. In fact in the last guidance to monetary policy (i.e. 1st quarter review of monetary policy 2013-14), the central bank mentioned that India is currently caught in a classic "impossible trinity" trilemma, where the risk emanates from:
- External sector concerns;
- Volatility in foreign exchange; and
- Current Account Deficit
The Government has drawn a strategy,vide the following big moves intended to boost dollar flows, but the success of the same remains to be seen.
Taking a look at inflation, while the Consumer Price Index (CPI) inflation has softened to 9.64% in July 2013 (from 9.84% in June 2013), intermediate risk remains from WPI inflation. The stronger than expected monsoon has not yet softened food inflation as much as it should have. In particular, vegetable prices have been impacted by weather-driven supply disruptions. While the outlook for global non-oil commodity prices remains benign, international crude oil prices are firming up. This is reflected in an upward adjustment of domestic prices of petroleum products, besides the programmed revisions in diesel prices. Moreover, the persistent weakness in the Indian rupee is also infusing risk of imported inflation.
Hence the aforesaid backdrop, it appears unlikely that the RBI would reduce policy rates in its ensuing monetary policy meet, as rupee and CAD (along with the external environment) have taken the centre stage. In the last guidance the central bank has said that, it should be emphasised that the time available now should be used with alacrity to institute structural measures to bring the CAD down to sustainable levels and the central bank stands ready to use all available instruments and measures at its command to respond proactively and swiftly to any adverse development.
So what strategy equity investors should adopt?
The downbeat domestic macroeconomic variables and global economic headwinds very much in play. The HSBC's Purchasing Managers' Index (PMI) data for manufacturing once again came in at 50.1 in July 2013 (data released in August 2013) as against a marginal uptick seen in June 2013 to 50.3 from 50.1 for May 2013. Likewise, the services activity too slumped to the lowest in four years in July 2013 as the HSBC Services Business Activity Index fell to 47.9 in July from 51.7 in the previous month(the lowest reading since April 2009), thereby reflecting contraction in the activity. Moreover, with the HSBC Composite Index at 48.4; the situation in the economy appears a bit grim as the composite data suggests an overall contraction in the output of manufacturing and services companies in the country in July 2013. Thus taking a sense of the overall activity and the global headwinds, where growth has been rather tepid with some signs of loss of momentum in the U.S. and in Emerging and Developing Economies (EDEs) on top of the on-going contraction in the euro zone; the RBI in its 1st quarter review of monetary policy 2013-14 too has also revised downwards growth estimates from 5.7% to 5.5%. Moreover, many Indian companies are having high debt on their balance sheet and low margins, due to a high interest rate scenario. The interest rate sensitive sector, specifically is feeling the pressure of the high interest rate scenario. Overall too, companies are refraining from making large investments in new projects due to a vulnerable scenario.
While CAD has reduced has been reduced at present for March-quarter to 3.6% of GDP (at U.S. $18.1 billion), for the complete fiscal year 2012-13,it is at a record high of 4.5% (at U.S. $87.8 billion), which is much above the central bank's comfort level of 2.5% of GDP. And the persistent weakness in the Indian rupee is posing a risk to country's CAD. Although the Government is vowing to restrict the current account deficit (CAD) to 3.7% of GDP, or U.S. $70 billion, in the current fiscal and ensure its "full and safe" financing to stem the rupee's slide
Speaking about the fiscal deficit number, the Government has run up fiscal deficit of 33% of the total budgeted for the entire 2013-14 fiscal in the first two months of the current fiscal. The fiscal deficit data released by the Controller General of Accounts (CGA) revealed a figure of Rs 1.8 lakh crore. This has happened as the Government has made attempt to spur economic growth by loosening it purse strings by instructing ministries and department to front load spending. "We will continue to urge ministries and departments to spend money allocated to them. In fact, I will be happy if they spend it early rather than put it to the second half of the year... Public spending, government spending will help the growth process...," Finance Minister, Mr P. Chidambaram had said earlier. It is noteworthy that in the earlier fiscal, sharp reduction in expenditure had helped the Government to contain the fiscal deficit target to 4.89% of GDP, but with general election scheduled next year (i.e. 2014), the Government seems to be all out to increase expenditures in attempt to reinvigorate economic growth, albeit the fiscal deficit target may not be met at this rate.
In the monsoon session of the Parliament, while the Government endeavours to pass progressive and regulatory Bills such the Pension Fund Regulatory and Development Bill 2011, the Companies Bill, the Competition Amendment, Public Procurement Bill 2012, Multi-state Co-operative Societies Bill 2010, the Consumer Protection (Amendment) Bill 2011, National Judicial Commission Bill, National Food Security Ordinance 2013, Securities Law Amendment Ordinance 2013 SEBI Amendment Ordinance 2013, amongst host of others; it looks unlikely that the Parliament proceeding would go smoothly because of:
- Lack of consensus on policies;
- Scam stories unveiling and;
- Deteriorating state of governance;
Also apart from the domestic economic factor as cited above, in recent times, as many of you may be aware, the global growth has been rather uneven and slower than expected. In the Advanced Economies (AEs), activity has weakened and even the Emerging and Developing Economies (EDEs) are experiencing a slowdown. After the Federal Reserve Chairman, Mr Ben Bernanke hinted at winding down its bond-buying programme nervousness has gripped the global economy, although a statement was issued later by Federal Reserve Chairman saying that the U.S. central bank might not roll back its stimulus programme earlier than expected. This made the U.S. dollar strong vis-à-vis the Indian rupee and also other currencies in EDEs. In the Euro zone, while U.K. has depicted some recovering backed by gathering of momentum on the back of consumer spending, the Euro zone as whole is grappling with recession and double-digit unemployment rates. Speaking about China, although it maintained momentum in the recent months, the HSBC Purchasing Manager Index (PMI) numbers and industrial production aren't depicting any virtuous picture. Likewise with Brazil, Russia and South Africa, growth has clearly lost momentum. Japan's economy though, is returning to positive growth supported by their industrial production numbers and retail sales. So, the global economic headwinds are very much in play.
Hence In the background of the above and the risk emanating there from, PersonalFN is of the view that investor should stagger their investments to mitigate risk, since volatility could persist. While investing in equity mutual funds, PersonalFN recommend s one to opt for the SIP (Systematic Investment Plan) mode of investing, as it will enable you to mitigate the volatility through rupee-cost averaging and power your portfolio with the benefit of compounding. However, while selecting mutual funds for your portfolio, prefer the diversified equity funds which follow strong investment processes and systems, and invest with a long-term horizon of at least 5 years. Also PersonalFN believes that your investment discipline and asset allocation would decide your success in investing.
To read our full view on how equities are likely to perform in year 2013, please click here
What strategy debt investors should adopt?
Liquidity position and path for interest rates
In the backdrop of the guidance in the 1st quarter review of monetary policy 2013-14, longer maturity papers would remain under pressure until the aforesaid macroeconomic risks are in play. Although the RBI has taken measures to contain the rupee, it has not yielded the desired results and thus the RBI may take more measures to contain the rupee where, they may further lower the cap for bank's borrowing under LAF. Already the measures taken by RBI to contain the Indian rupee have brought in volatility in the Indian debt markets; where duration funds and gilt funds have witnessed rather a violent fall in their NAVs thereby impacting their returns as a result of ascending yields. Short-term CD yields have climbed up as much over 300 basis points since June-end, while the 10 year 7.16% 2023 G-sec yield too is placed at 8.20% as a result of a classic 'impossible trinity' trilemma as cited by RBI.Moreover, the investment climate remains weak and risk aversion continues.
So given the aforesaid backdrop, PersonalFN is of the view that, it would be best to refrain investing in longer maturity debt papers in the aforesaid backdrop, and instead prefer shorter maturity debt papers.If permitted by your time horizon and risk appetite if you still want to invest in long-term debt funds, it would be wise to take exposure via dynamic bond funds (as enabled by their mandate they hold debt instruments across maturities). But PersonalFN thinks that given the aforementioned interest scenario and macroeconomic variables thereto, one should not hold more than 20% of their debt portfolio in longer tenure funds. Avoid investing in G-sec funds, as they may see high volatility and may not be an ideal instrument to yield fruitful returns. Fixed Maturity Plans (FMPs) of 3 months to 1 year period can also be considered as an option to bank FDs only if you are willing to hold it till maturity. Alternatively you can also invest in 1 year Fixed Deposits (FDs), as banks are offering interest on 1 year FDs in the range of 7.50% - 8.75% p.a. In the present scenario, it would be ideal to invest in shorter duration instruments vide debt mutual fund schemes having shorter maturity profile. Investors with an extreme short-term time horizon (of less than 3 months) would be better-off investing in liquid funds for the next 1 month, or liquid plus funds for next 3 to 6 months horizon.
To read if bond markets are poised for another rally in 2013, please click here
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