Stay the course – ignore volatility

Happy New Year 2016!!

Its been a shaky start to the new year following a year where the broad NIFTY/Sensex gave the investors a negative return.  The markets returned -4.1% and -5% respectively in CY 2015.

Over the past few weeks, the selling pressure has got increased in equity markets across different countries and India in no exception to that.  The corrections like what we are seeing is very normal in a market and its important to stay focused on your goals.  You have been investing with a specific goal in mind which is many years away. Stay focused on your goals and don’t get perturbed by volatile movements.

The idea of this post is to understand what is causing this pain and what the future looks like?

Indian equity markets struggled in 2015 on account of four significant headwinds.

1.  Indian equity markets were impacted because of the withdrawals from Emerging Markets by Foreign Institutional Investors (FIIs).

2.  Government faced challenges in passing reform legislation and continuous efforts were still on.  Key legislation like GST is not able to see the light for the last 6 months or so had a telling effect on the economy and sentiments.

3.  With the significant debt accumulated on their books as part of the previous growth cycle, corporates were not able to invest more in capacity creation now.  Few of the big corporate groups are also now facing problems in debt servicing.  This is causing lot of strain on the Bank’s balance sheet in the form of increased provisions for bad debts.

4.  Finally and most significantly, the ongoing economic recovery has been weaker than expected so far and consequently demand has not picked up sufficiently. This has led to disappointments in topline growth across sectors leading to earning downgrades.

As we deliberate on what didn’t go well, there are some important developments which needs to be looked in to:

1. The fall in commodity prices (especially crude oil) has helped bring down input costs.  The annual saving expected for India is Rs5 lakh crores, a huge sum of money.

2.  The fall in commodity prices is also supporting the process of disinflation in the economy. This fall in inflation is creating the headroom for lower interest rates which should further bring down finance costs for companies.

3.   The Government which has cornered most of the benefits of falling crude prices, which is using that resources to kick start the economic recovery.  Already it has initiated new mega projects in Road sector, significant investments in Railway infrastructure which will propel the economy forward.

4.  As the economic growth picks up, a meaningful demand revival (especially urban demand) is expected during 2016. Current low capacity utilization levels will allow companies to take advantage of any demand revival through existing capacity, thus providing high marginal profitability of incremental demand.

1.  We expect continued steady improvement in the growth environment which should start flowing through into better corporate earnings.

2.  Helping earning growth in 2016 is lower inflation and commodity prices, transmission of 125 bps of rate cuts done by RBI in 2015.

3.  Improvement in urban discretionary demand, follow-on effects of government spending on capex as also one-off factors such as award of the pay commission.

4.  Stability of Oil prices in the medium term will also stop indiscriminate selling in Emerging Markets by Sovereign Wealth Funds etc., As the oil prices increases, the equity markets may also raise in consonance.

The Bottom line

Overall, its important to remain invested in Equities as part of the overall asset allocation.  Always remember in every bull market, we will see many cases of corrections ranging from 10% to 20%.  What we are seeing now is one of them.

Remember that wealth creation as a process requires patience, more than anything else.  Its not the time to panic and exit Equity positions.  Its the time to accumulate, as fundamentals of Indian economy are much improved over the last 2 years.

We strongly urge you to stay the course through your SIPs and reap the benefits.   If you are waiting in the sidelines, its a moment to capitalize on.

Source: Inputs from Axis MF notes.