Free Lunches No More Wealth Edge, Feb 2018

The time has come for the earnings to stand up to expectations. As there is probably no room for sentiments led PE expansion. The quarterly results of the top 50 companies seem to indicate that the coast could be clear on the earnings front and indeed they have been better than expected. All that we now need to await is whether this was on a low base of post demon dip in Q1, 2017. The next quarter will therefore be the all critical quarter that proves that the tide has really turned on the earnings front.

Globally, January month was dominated by good news such as better than expected job market report, which showed unemployment shrinking and wages rising. However, this good news of higher wages compounds the pressure on the US Federal Reserve to raise interest rates, so as to tame inflation and prevent the economy from overheating. As things stand at least 2 to 3 hikes seem to be on the cards.

Given a decade of ultra-low interest rates, any quickening of pace in rate hikes or expectations about it, trigger the kind of fear that comes with a paradigm shift. A shift that makes fixed income look attractive incrementally, calling for a possible reallocation from risk assets to ‘safer assets’. A distinct possibility given how far valuations have reached across the world. If this narrative gains ground, what was witnessed during the first week of February, may be a trailer of things to come. Perhaps, the time for “Free lunches” may have gone and an increasing earnings momentum alone can support the markets from here on. Especially in India

Domestically, India certainly participated in the global equity market rally but not completely in the global growth momentum. The expectations from the Union Budget was that it will focus on growth initiatives and less on structural reforms which were the focus of previous versions of the Union budget. The budget clearly did not disappoint, as it gave due importance to all sections of the economy and tried to enhance the ease-of-doing business while keeping its focus on infrastructure development. However, the imposition of LTCG on equity shares and units of equity oriented mutual funds has triggered a short term perception disruption in the equity markets coinciding with volatility from a global sell-off.

Even though we have seen around 6% correction from recent peak, the valuations are still high and do not look reasonable post this correction. The recovery in earnings is very critical for such rich valuations to sustain. The Q3 FY18 results have been in-line, however, fag end of the result season needs to be watched closely. The way to go about it is to stagger fresh investments, as markets could give enough opportunities to invest throughout the year.

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