Troubled Times for Capital Markets

from bussiness standard It all started with the US subprime problem and the global credit crunch, which led the BSE Sensex nosediving from its peak of 21,206 on January 10,2008 to 14,645 on June 10. A part of the fall can also be attributed to the concerns pertaining to the increase in crude oil prices and its impact on india's economic growth.Some of the early signs were also visible from rising inflation and the slowdown in domestic industrial production numbers. This further led to concerns over high interest rates, slowing GDP numbers and thus, corporate earnings as well. Sensing these developments , FIIs(Foreign Institutional Investors) were the first ones to move out of market, and they partly became the reason for market fall.

Crude and bloating Fiscal deficit :
A $10 increase in crude prices reduces India's GDP growth by about 0.3% points . India imports about 70% of its oil requirements leading to huge trade deficit(over 7% of GDP).Fiscal deficit,which is currently at about 3% of the GDP could reach to about 10% levels if subsidies given to oil,food, farm,fertilizer are added.Hence further rise in crude oil prices will only make things worse.

High Inflation :
We are yet to see the cascading effect of recent spike in oil prices that will set in a regime of high inflation in the weeks to come.Inflation is heading towards 9% levels however it will soothe down if monsoon is good. High oil prices will further increase the cost of goods and the logistics costs itself is expected to go up by 10-15% as well.As if to join the league we have airlines increasing the fuel surcharge by 15-20% on ticket price.So, either companies will have to increase the prices of goods sold or services rendered or they will have to take a hit on their margins.This will certainly lead to overall cost push on other sectors and may discourage the consumer spending further .In both cases either the sales volumes will come down or margins, thus lowering earnings for companies.

Interest rate worries :
One of the objective of monetary policy in india has been achieving price stability , which the RBI may try to achieve even at the cost of giving up growth . If inflation spirals , RBI resorts to raising CRR(cash reserve ratio) or repo rate(repurchase rate),depending on the prevailing situation.The RBi's comfort level for inflation is 5.5% whereas we are inching closer to 9%.With increase in interest rates ,50-75 basis points could get shaved-off from GDP growth figures.

Earnings Slowdown :
The high interest rates alongwith the factors like inflation and higher commodity prices will hit India Inc. negatively. The domestic cost of capital has already increased , with the prime lending rates having gone up by 175 basis points since the second half of 2006 to 12.5 currently . Also the housing loans have become more expensive , as a result the bank credit has come down to about 24% as against the recent high of 30% in January 2007.This will not only hit banks income growth but also that of companies , due to high interest outgo and slowdown in cosumer demand.The early sign of this is seen in Q4 IIP no.'s of 5.8% as against over 10% a few months ago.

Foreign Capital :
Because of the above cited reasons FIIs have lowered their exposure in Indian equity markets . The depreciating rupee further lowers their return in dollar terms. No wonder then that FIIs have been net sellers of indian equities to the tune of about $4.2 billion with almost $1.2billion of this selling coming in May alone!Given the high levels of risk aversion and P/E contraction , expect muted flows in near term . Fund flow for the rest of the year will depend on global news flow and the perception of risk amongst investors . Also,rising trade and fiscal deficits are not viewed very favourably by FIIs.

Global Markets :
Global markets are going to remain weak in coming 12 months.US Housing Data continues to get worse,record number of businesses are filing for bankruptcy(5,000 in April 208 alone).So far , major banks and other financial institutions across the world have reported losses of about $380 billion. S&P(Standard & Poors) has lowered credit ratings of Merrill Lynch, Morgan Stanley and Lehmann Brothers since they have to book more write-downs on devalued assets.

Saving grace:
r economy is broadly linked to monsoon-->a gud monsoon leads to gud crop n that in turn solves the myriad problems at bottom of pyramid-->farmers get gud money for their crops ,they r able to repay their loans on time--> banks reduce their exposure to bad loan debts, balancesheets of banks n finace institutions improve -->inflation comes down -->RBI can then focus on growth n cut interset rates--> india growth story finds takers abroad--> FII's return baq cing the bright outlook of economy

A positive ream of global newsflow is also essential givn the fact that we are living in globalised times and its actually the follies of Big Brother (US) that has ushered in a wave of untold misery at global capital markets .