market outlook - sbi funds pms outlook_apr 2017.pdf · demonetization due to weakness in credit...

Market Outlook

April 2017

EQUITY MARKET

Global equity market snapshot: March 2017

Source: Bloomberg, SBIMF Research

• Nifty was the top performing markets during the month (up by 4% in March). The return was slightly better than overall emerging market performance (+3% during the month).

• Year to Date (YTD), Indian market has delivered 12%.

• Year-to-date, while India and Hong Kong are the best performing markets, Russia and Sri Lanka are the laggards.

Performance March 2017 (local currency returns) Performance YTD (local currency returns)

-2 0 0

0 0 1 2 2 2 3 3 3 3 3 3 4 4

CE UKGE

NES -3 -3

4 5 5 5 6 6 7 7 7 8 10

(6)(4)(2)02468

101214

ROPE UK

Indian stock market snapshot: March 2017

Performance in March 2017

• Nifty/Sensex was up 3% in March. Capital goods and real estate outshined during the month.

• YTD, Nifty and Sensex are up by 12% and 11% respectively. Sector-wise performance has been positive across all sectors on a YTD basis.

• Midcap Index (+117%) and Small Cap index (+20%) has out-performed for the year so far.

• YTD, Real estate, capital goods are the sector outperformers. Pharma and IT have been the worst performing sectors.

Performance YTD

-1 0 0

3 3 3 4 4 4

(2)(1)012345678

AS PSU

9 11 12 12 12 13 14 14

17 17 18 20 20

AS PSU

Source: CMIE, SBIMF Research,

Growth: Economic Activity has weakened in January- February

4.9 4.6

6.4 7.3

7.5 8.1

6.1 6.1

7.8 8.4

7.0 8.2

6.9 6.7 6.6

5.2 4.4

6.5 7.5

6.7 5.6

7.7 8.3

6.0 6.8

7.8 8.4 6.9

7.2 7.4 7.0

Real GVA at basic prices Real GDP

% y-o-y

6.7 3.8 5.1

6.9 3.8 3.4 8.2

6.6 6.0 6.6 7.5 8.3 6.8 2.7

Q3 2015-16 Q2 2016-17 Q3 2016-17

Q3 Growth was not as bad as feared . GDP growth at 7.0% (vs. 7.4% in Q2) and GVA growth at 6.6% (vs. 6.7% in Q2)

Agriculture and Industry output were robust while services growth moderated

• Gross value added (GVA) is estimated to have grown 6.6% in 3QFY17, which is lower than 6.7% growth in 2Q and 6.9% growth in 1Q. Agriculture (6.0% in Q3 vs. 3.8% in Q2) and Mining (7.5% vs. -1.3%) were the key drivers of growth in Q3 owing to bountiful harvest this year. Mining sector recovery can be attributed to the improvement in metal prices, lifting of iron-ore ban and higher steel production.

• Surprisingly, the CSO's calculations also suggest that manufacturing, trade and transport sector growth was not affected by demonetization and thus growth actually picked up in 3Q. Financial services data reflects to have borne the sharpest brunt of demonetization due to weakness in credit growth (3.1% in Q3 from 7.6% in Q2).

• Q3FY2017 official GDP estimates should be read with a caution because a) the GDP calculation incorporates the informal sector performances with a greater lag, b) inventory adjustment during demonetization masks the full impact, and c) robustness in economic activity during October and mid-November may have an offsetting impact. Various economic activity data shows a relatively weaker activity in January- February compared to Q3 FY17.

Source: Antique, SBIMF Research,

Q4 FY17 Earnings will be real test of demonetization • Profits for Indian companies have been weak in FY15 and FY16 on the back of

weak export and domestic demand, stressed balance sheet, high real interest rates, fall in global commodity prices (affecting the commodity related companies), delayed investment cycle and relative appreciation of rupee vis-à-vis the trading partners.

• Against this backdrop and the fact that Q3 marked the implementation of demonetization, Q3 FY17 earnings have been positively surprising. Headline revenue growth accelerated to 7.5% y-o-y (NIFTY), the fastest growth in more than two years. Margins continued to expand and consequently, profits grew at more than 10% after two years of muted prints.

• The commodity sectors drove a large part of the acceleration in revenues and profits whereas the domestic consumer-facing companies saw the impact of demonetisation. Going ahead 4QFY17 will be a real test of demonetization impact given that 3QFY17 also had other juxtaposing factors (festivals, base effect, etc).

• Consensus earnings estimates have seen steady downgrades through the 3Q reporting season. This is especially true for domestic consumer-facing sectors earnings downgrades for which downgrades have accelerated in the first two months of 2017. Accordingly, market expects FY17 earnings growth to be much lower than 14% estimated at the start of the year and earnings to pick up to by 15-16% in FY18 .

• Earnings narrative has improved at the margin for FY18 owing to visible signs of a cyclical uptick in global growth and trade, favourable base for select cyclicals like metals and PSU banks and growth in consumption on account of normal monsoon after two consecutive years of drought and from 7th Pay Commission pay-outs.

• A meaningful and sustained revival in earnings growth is extremely critical for Indian equity to sustain its current valuations.

For FY17, earnings were expected to grow by as much as 14%. Both FY17 and FY18 expectations are likely to be revised downward post the demonetization exercise

95 128

175 207

239 283

247 284

330 351 385

427 391 402

Nifty EPS (in Rs.)(% y-o-y)- in RHS

Source: Morgan Stanley, SBIMF Research,

Indian Equity Valuations relative to emerging markets rose in February

India’s valuations relative to other EMs has improved since February, and is presently in line with historical 5 year average…

…and the relative RoE continues to strengthen

7-Jan-10 7-Jan-11 7-Jan-12 7-Jan-13 7-Jan-14 7-Jan-15 7-Jan-16 7-Jan-17

MSCI India's P/E prem. wrt MSCI EM

14.0% MSCI India ROE Relative to EM

Liquidity: Extremely positive in February and March

Source: MOSL NSDL, SBIMF Research

Massive FII buying in both equity and debt market contributed towards positive market returns since February

Domestic Mutual Funds, too, continue to pump money in the Indian equity market

-10000

Equity Investment Debt Investment

USD mn

-0.6 -0.4

0.0 0.6

0.8 1.1

0.7 1.0

0.3 1.1

0.1 0.7 0.6

1.6 1.4

1.0 0.7

1.1 0.9

0.0 0.0

0.4 0.6

0.8 0.3 0.4

Dom MF Net Investments (US$B)

-0.7 -0.8

-1.3 -1.4

-0.8 -0.9

-0.4 -0.6

0.3 0.3

0.8 0.7

-0.9 -1.1

-0.3 -0.2

0.0 -0.1 -0.2

Insurance (US$B)

Insurance companies, however, have been a net seller in the India equity market

Equity Market outlook

• Sensex ended with 3% in March and 11% returns YTD. Performance down the capitalization curve was better with BSE Mid-cap and BSE Small-Cap Index up by 4% and 5% respectively (in March). YTD, all the sectors have delivered positive returns, though the returns are relatively poor for Pharma and IT sector.

• Performance was marginally better relative to other emerging markets. FIIs and Domestic Mutual funds were net buyers, while Domestic insurance companies were net sellers during the month.

• On the economy front, Q3 FY17 economic activity indicators and GDP growth data do not reflect any meaningful adverse impact of demonetization . It could perhaps also be due to the inability of many growth indicators to adequately capture the performance of informal sector performance. Global manufacturing activity is improving which is likely to feed into India’s exports.

• Similarly, 3Q FY17 earnings were better than expected. Nifty PAT grew by 10.3%. The commodity sectors drove a large part of the acceleration in revenues and profits whereas the domestic consumer-facing companies saw the impact of demonetisation. The general perception is that the impact of demonetisation on profitability has not been as severe as expected.

• Cyclical revival in global manufacturing and trade activity, better-than-expected corporate results, fading of demonetization fears and continued funds flows has brought further optimism to the market. This has led to richness in valuations (18 times 1 year forward earnings).

• Liquidity is also chasing growth opportunities down the cap curve and some of the mid and small caps have risen sharply. That said, we remain positive from medium to longer term perspective owing to inherent structural strengths of the economy, bottoming of corporate profitability and prospects of domestic flows.

Valuations are at +18 times on 1 year forward earnings

Sensex 1Y fwd PE

Mean: 16

FIXED INCOME MARKET

Global rates snapshot for March 2017

• US bond yields have fallen a bit (by 5bps) after rallying in most part of the last year. Similar picture has been depicted by other

developed markets like Japan and in Europe.

• Italian bonds yields, and bond yields for the peripheral European economies, however, rise as investors focused on signs of political worries rather than economic data pointing to strength in manufacturing and a drop in the ranks of the unemployed.

10 Year Gsec Yield (% mth end) 2015 end 2016 end Dec-16 Jan-17 Feb-17 Mar-17

3m Change (in bps)

% change in 2017 YTD (in

bps) Developed market

US 2.27 2.44 2.38 2.44 2.45 2.39 1 -5

Germany 0.63 0.21 0.28 0.21 0.44 0.21 -7 0

Italy 1.35 1.82 1.99 1.82 2.26 2.09 10 27

Japan 0.27 0.05 0.03 0.05 0.09 0.06 3 1

Spain 1.77 1.38 1.55 1.38 1.60 1.66 10 27

Switzerland -0.06 -0.19 -0.13 -0.19 -0.06 -0.23 -10 -4

UK 1.96 1.24 1.42 1.24 1.42 1.15 -27 -9

Emerging Market Bond yields- March 2017

Bond yields depicts movements on both sides in the Emerging markets. India, Korea and China depicted the rise in bond yields while bond yields fell or remain flat for other key EMs YTD

10 Year Gsec Yield (% mth end) 2015 end 2016 end Dec-16 Jan-17 Feb-17 Mar-17

3m Change (in bps)

% change in 2017 YTD (in

bps) Emerging Market Brazil 16.5 11.4 11.4 10.9 10.2 10.1 -134 -134 China 2.8 3.0 3.0 3.3 3.3 3.3 25 25 India 7.8 6.5 6.5 6.4 6.9 6.7 17 17 Indonesia 8.7 7.9 7.9 7.6 7.5 7.0 -90 -90 Korea 2.1 2.1 2.1 2.2 2.2 2.2 12 12 Malaysia 4.2 4.2 4.2 4.1 4.1 4.1 -5 -5 Philippines 3.9 4.6 4.6 4.3 4.4 4.6 -1 -1 Russia 9.6 8.4 8.4 8.2 8.2 7.9 -45 -45 South Africa 9.8 8.9 8.9 8.8 8.8 8.9 -4 -4 Taiwan 1.0 1.2 1.2 1.2 1.2 1.1 -10 -10 Thailand 2.5 2.6 2.6 2.7 2.7 2.7 4 4

India Rates Snapshot for March 2017

• Indian bond yields rose dramatically in February as RBI changed its monetary policy stance from accommodative to neutral. Post that the yields have fallen for the 10Year G-sec but still remains high compared to start of the year.

• Money market rates, on the other hand, remains low as RBI refrains from rolling over CMB maturities, leading to steepening of the yield curve.

• Crude oil prices fell drastically by -6% over the month and -2.3% YTD.

• Rupee appreciated sharply during the month owing to massive FII inflows in the debt and equity market.

Source: Bloomberg, PPAC, SBIMF Research; NB: **Crude oil price is average $/barrel for the month, rest of the data are % month end; *Corporate bond rate is for AAA rated bonds ,*** Refers to PSU Banks CD rate; # INR and Oil price changes are % change

Jan-17 Feb-17 Mar-17 m-o-m change (in bps) Change YTD (in bps) 1 Yr T-Bill 6.17 6.21 6.10 -11 -23 3M T-Bill 6.20 6.10 5.78 -33 -42 10 year GSec 6.41 6.87 6.68 -19 17 3M CD*** 6.33 6.38 6.30 -8 2 12M CD*** 6.55 6.93 6.60 -33 -3 3 Yr Corp Bond* 7.07 7.27 7.42 15 12 5 Yr Corp Bond* 7.33 7.54 7.56 3 19 10 Yr Corp Bond* 7.57 7.83 7.94 11 36 1 Yr IRS 6.20 6.42 6.41 0 23 5 Yr IRS 6.32 6.70 6.64 -6 38 Overnight MIBOR Rate 6.25 6.05 7.37 132 112 INR/USD 67.9 66.7 64.9 2.8# 4.7#

Crude Oil Indian Basket** 54.2 54.8 51.5 -6.0# -2.3#

CPI inflation: Upside risks for FY18

Source: CSO, SBIMF Research

• Latest inflation print (3.7% in February) indicates likely bottoming out of inflation, particularly food inflation.

• The rising of kerosene prices (due to programmed subsidy reduction), gradual pick-up in food inflation, higher commodity prices has also fed into household inflation expectations which has pick-up relative to December.

• Inflation ex-food and fuel (core inflation) has moderated marginally to 4.8%, but more due to transient factors. Otherwise, core inflation has depicted considerable stickiness in prices.

• Looking ahead, there are more upside risks to inflation, while disinflationary forces are notably few. The risks stems from bottoming of food prices, uncertain weather conditions, hardening commodity prices profile, volatility in exchange rate due to global financial developments, rising raw

CPI Inflation has likely bottomed out and rose to 3.7% in February…

…owing to bottoming out of food prices

CPI % y-o-y

CPI target range 4% + 2% -4.0-2.00.02.04.06.08.0

10.012.0

Core CPI (CPI ex food ex fuel) CPI Food

CPI: Transport and communication

% y-o-y

Liquidity overhang from demonetization to stay over next couple of months

Source: RBI, SBIMF Research

• Overhang of liquidity consequent upon demonetization continued to weigh on money markets even through March.

• While the surplus liquidity in the banking system declined from the peak of Rs. 7,956 billion in January to an average of Rs.

4,806 billion in March, it is still high.

• The maturing of CMBs my mid-march led to an increased usage of reverse-repo window to absorb the excess liquidity.

• While the Weighted average Call money rates remained within the LAF corridor, the maturing of CMBs and reduced issuance of T-bills led the T-bill rates to be substantially below money market rates in March.

• Since mid-January, as the RBI has gradually lifted the restrictions on currency withdrawal, the pace of weekly currency withdrawal from the banking system has averaged around Rs. 35,000 crore per week. Factoring in the current pace of weekly withdrawal and other dynamics, the system looks in a comfortable liquidity situation over next couple of months.

Currency leakage from the banking system accelerated in last two years

-4000-2000

02000400060008000

Banking System Liquidity (Rs. Billion)

+1% of NDTL

-1% of NDTL

Comfortable

CIC beforedemonetization (Rs.

Trillion)

CIC on 6th Jan (thelowest point)

CIC as of 31st March2017

Economy is fast remonetizing

Overall external account is still comfortable

Exports depicting a cyclical recovery and overall trade deficit is contained

Source: CMIE, RBI, SBIFM Research

Low trade deficit has helped Current Account deficit to stay below 2% of GDP

India’s Net FDI inflow sufficient to fund Current account deficit since FY15

FX reserves at US$ 370bn as of March end is sufficient to finance 11 months of import

-8.0 -7.0 -6.0 -5.0 -4.0 -3.0 -2.0 -1.0 -

Current Account Balance (US$ bn) as % of GDP- RHS

1520253035404550

Trade Deficit (USD bn)- RHS Exports (USD bn)

Imports (USD bn)

CAD FDIUSD bn

67891011121314

FX reserves (USD bn)- LHS Import cover (in months RHS)

Currency: Massive appreciation due to strong FII flows

Source: Bloomberg, Antique, SBIMF Research

Rupee depicted appreciation bias in Q1 2017 in line with other Emerging market currencies

DXY stabilized close to 100 levels Rupee appreciated by 4.7% YTD and holds at~64-65 levels

Indian Rupee

Source: Bloomberg, SBIMF Research,

Commodity prices

% change in 2015

% change in 2016

In 2015, all the commodities registered a price decline mainly due to China, global growth slowdown and excess capacity. In 2016, price rose across most commodities (barring Uranium, wheat and corn)

Despite 2016 price rise, overall commodity index still far lower than 2014 highs

In 2017, commodity in general could continue to face mild upside pressures as global growth recovers

90110130150170190210230

CRB Food Index CRB Commodity Index

Jan 2010=100

-25.0-20.0-15.0-10.0

-5.00.05.0

10.015.020.025.0

ns Tin

% change YTD in 2017

Source: unionbudget.nic.in, JMFL research, SBIMF Research, Note: Only 8 states budget for FY18 available thus far

Fiscal Account: Higher SDL supply offsets the contained centre borrowing

5.5 6.0 5.7

4.3 3.9 4.0

3.3 2.5

6.0 6.5

5.9 4.9

4.5 4.1 3.9 3.5 3.2

0.01.02.03.04.05.06.07.0

Fiscal Deficit (Rs. Bn)- LHS Fiscal Deficit (% GDP)- RHS

1.5 1.7 2.7

4.5 4.4 5.1

5.6 5.6 5.9 5.9 5.8 5.8

1.1 1.3 2.3

4.0 3.3

4.4 4.7 4.5 4.5 4.5 3.5 3.5

- 1.0 2.0 3.0 4.0 5.0 6.0 7.0

Gross Market Borrowings (Rs Tn) Net Market Borrowing (RS Tn)

Centre has been lowering it fiscal deficit for 6 years in a row. FY18 fiscal deficit targeted at 3.2% of GDP

Lowering of fiscal deficit and resorting to other sources of financing deficit leads to contained G-sec supply

2.87% 3.49% 3.51%

1.79% 2.16%

-0.02%

4.16% 4.63%

2.56% 2.53%

-0.12%

3.23% 2.87%

3.49% 3.44%

1.69% 2.29%

-0.02%

2.84% 2.99%

-1.00%

Bihar MP Kerala WB Jharkhand Gujarat Haryana Rajasthan Aggregate (8states)

FY17 BE FY17RE FY18BE

States, however, are failing to achieve their deficit targets leading to higher SDL supply *

Monetary Policy Committee (MPC) kept the repo rate unchanged at 6.25% in its latest meeting on 6th April 2017.

It has however narrowed the policy corridor from 50bps on either side of the repo rate to 25bps to now. Accordingly, the reverse repo rate stands at 6% (5.75% before) and the rate under the marginal standing facility stands at 6.5% (6.75% before).

The narrowing of the corridor has been done in response to the benign liquidity conditions which had led short-term rates to fall below the policy rate. The rate on the 3mth T-bill rate had fallen to almost 50bps below the repo rate in March. The narrowing of the band will increase the lower bound of the yield curve to 6% and also lower the volatility in short-term rates.

The central bank has indicated that going forward, it will continue to use its existing bouquet of instruments (LAF, term repos, cash management bills, MSS) to manage the excess liquidity in the near-term.

Looking ahead, the RBI remains cautious on the inflation trajectory and believes that achieving the 4% mark will not be easy. Seemingly, the central bank remains wary of upside risks to inflation more even though it highlighted that risks are evenly balanced. On the other hand, it expects the growth to improve in FY18 on the back of government spending, higher consumer spending and transmission of earlier rate cuts.

In our opinion, given the current outlook on inflation and growth, additional policy rate cuts are unlikely in 2017.

Policy Rate Outlook

Source: RBI, CSO, SBIFM Research

Repo Rate (mth end, %)

Indian bond yields rose dramatically in February as RBI changed its monetary policy stance from accommodative to neutral. Post that the yields have fallen for the 10Year G-sec but still remains high compared to start of the year.

As of March end, 10 year G-sec yield stands at 6.68%, down

19bps from 6.87% in February. Massive foreign inflow during March (due to attractive valuations) also led to the increased demand for Indian G-sec and consequent fall in yields.

Going forward, as Fed is expected to hike rates and Indian

inflation is expected to inch up, this attractiveness will likely reduce.

Further, with surplus liquidity, no RBI OMO purchases and neutral policy stance, the yield curve would remain steeper in the coming months.

For FY18 as a whole, supply-demand dynamics of the

government bonds, liquidity situation of the banks once the pace of currency withdrawal normalized, bank credit outlook and, global outlook will take prominence in guiding the bond markets trajectory.

We remain constructive, but with a slightly longer term approach as average CPI settle lower and government’s measures to widen the tax base leads to structural improvement in the fiscal balance. Accordingly, we keep taking tactical calls in duration at the opportune time (like last month) .

Debt Market Outlook

Source: Bloomberg, SBIFM Research

10 year GSec yield (mth end, %) Repo Rate (mth end, %)

Average spread between G-sec and Repo in last 10 years: 75bps

Thank you

Disclaimer

This presentation is for information purposes only and is not an offer to sell or a solicitation to buy any mutual fund units/securities. These views alone are not sufficient and should not be used for the development or implementation of an investment strategy. It should not be construed as investment advice to any party. All opinions and estimates included here constitute our view as of this date and are subject to change without notice. Neither SBI Funds Management Private Limited, nor any person connected with it, accepts any liability arising from the use of this information. The recipient of this material should rely on their investigations and take their own professional advice. Mutual Funds investments are subject to market risks, read all scheme related documents carefully. Asset Management Company: SBI Funds Management Private Limited (A joint venture with SBI and AMUNDI). Trustee Company: SBI Mutual Fund Trustee Company Private Limited.

Contact Details

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(A joint venture between SBI and AMUNDI)

Corporate Office: 9th Floor, Crescenzo, C-38 & 39, G Block, Bandra Kurla Complex, Bandra (East), Mumbai - 400 051 Tel: +91 22 6179 3000 Fax: +91 22 6742 5687/88/89/90/91 Website: www.sbimf.com

Call: 1800 425 5425

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