The bulls of Indian stock markets are on a rampage. May 2017 turned out to be another month of new lifetime highs for major indices. Both Sensex and Nifty50 notched up their 5th consecutive months of positive monthly returns with 4.1% and 3.4% respectively.

Both domestic as well as foreign investors are buying into the overall optimism, which is fueled by political and economic stability. The government is also showing a strong intent to work hard, coupled with a resolve to take the reforms process further. The risks from global events like Trump election, Brexit, etc. are fast receding and markets seem to be discounting any temporary pressures that might arise from GST rollout.

Both mid- and small-caps continue to perform better than broader markets. As long-term investors, we continue to keep a close watch on the broad macros. But our efforts are directed towards finding fundamentally sound businesses that can become future multibagger stocks.

Demonetization scars overall Q4 GDP Growth

The earlier fears of demonetization negatively impacting the GDP numbers has finally come true.

The latest economic data shows that even though the full-year growth (for 2016-17) came in at a respectable 7.1%, the 4th quarter GDP growth fell to 6.1%. According to Mint, “the headline growth number conceals more than it reveals. If we leave out the public administration, defense and other services component of GVA, comprising mainly government expenditure, then growth slumps to an even lower 4.1% in the fourth quarter.”

Now practically speaking, the numbers cannot be expected to recover in just one quarter. So the slowdown is likely to persist in the first and/or second quarter (Apr-Jun/Sep) of 2017-18 as well. Apart from demonetization, another problem that is suppressing growth is that nobody in private sector is investing. Banks themselves are unable to lend aggressively as they have their own bad-loan problems to deal with. In fact, banks’ credit growth has recently hit a multi-decade low.

 RBI’s Hawkish stance continues with No Change in Policy Rates

There were expectations that given a fall in GDP numbers and inflation, RBI might consider going for small rate cuts. The government too was pitching for a reduction in borrowing costs to help revive private investments.

But fearing the short-term impact of GST on inflation, RBI has decided not to change policy rates. The repo rate stays at 6.25% but RBI has lowered its inflation forecast for the current fiscal. This is an indication that in coming quarters, RBI may be accommodative on the future course of rates in its bid to revive economic growth.

Voices in favor of PSU Bank Merger getting Louder

It is slowly becoming evident that government is more or less disinterested in rescuing all the ailing PSU banks. Instead, it is considering strategic consolidation in the PSU banking space on lines of SBI’s merger with its associates.

Some industry veterans also feel the same. According to them, there is an urgent need for public sector banks to consolidate. There’s no need for 20+ public sector banks in this country. They should be merged together to form 5 or 6 larger and healthier entities. This is also expected to help in dealing with the problem of stressed assets. The weaker banks are in any case losing market share. So with the stronger banks gaining market share, it is a case where those who need to shrink are already shrinking.

Improved market conditions are also creating an opportune scenario for such consolidation to take place. And in words of the finance minister, ‘the government may merge PSU banks without waiting for improvement.’

The toxic loan portfolio of these government-backed banks has risen to INR 6.06 trillion (as of end-2016). Though RBI has given itself more power to deal with the NPA mess (via a new ordinance), it is still not clear whether it will help matters beyond a point. NPA resolution continues to remain a thorn in the flesh of government’s growth revival program.

GST Launch Nears

Implementation of GST (from 1st July) is perhaps the biggest tax reform in last 2 decades. GST is estimated to boost GDP by 1-2% and bring down inflation by 2% overall in the long term.

One of the major impacts of GST will be the decrease in unorganized players’ market share (and increase in that of organized ones). This will happen because steps like GST – which are about formalizing the economy – will tilt the competitive balance in favor of organized players. Strong players eventually emerging out of this process will have the ability to scale up quickly and become regional and global players in their respective sectors.

However, it is possible that transition to GST may cause some temporary disruption in the growth. But there is nothing to worry about; as every change brings about some pain. The tax authorities are expected to ensure a smooth transition to the new regime.

The entire GST program is a showcase for the government at the global level, so it will ensure that it gets implemented seamlessly. So barring small near-term difficulties, GST will be beneficial for the economy in the long run. Consequently, it will have a positive impact on the markets and the ability of long-term investors to find their next portfolio of multibagger stocks.

R&R View on Economy & Markets

The overall macros of the economy seem to be in the positive territory as the country prepares to migrate to the radical GST regime.

Another month of great returns has pushed the markets further up in the valuation chain. We expect earnings to catch up with valuations in coming quarters. Our portfolio (created on basis of fundamental analysis of long term investment worthy stocks) continues to be well positioned to take advantage of any near term opportunities that may arise.

On that note we end this newsletter and as always, appreciate you for taking time to read this message. Do share your views/comments by email/comment section below.

Regards

Team Equentis