Iraq, Monsoons, Modi warning on hard decisions and beyond
The Modi Euphoria has given way to Iraq concerns over the last few days even as most strategists have turned positive on India and have upgraded their long term outlook for the Indian markets. This issue has also been impacted by the predictions of a below normal monsoon and the potential resultant impact on food inflation which has been in high double digits for the last few years. At this stage it is important to evaluate things in order to get a hang on the near term outlook.
Iraq tensions have come up suddenly, as did the Ukrainian crisis a few weeks ago. My view on Ukraine was very clear i.e. the impact on the markets was likely to be muted as it did not carry much of impact for the rest of the world. However Iraq is a different story altogether mainly due to its potential impact on crude oil prices which have remained elevated over the last several years despite extremely weak demand fundamentals. Today we have a scenario where most other global commodities like Iron Ore, Coal, Copper etc are trading near multiyear lows. Among major industrial commodities Crude Oil stands out due to the significant impact on crude prices due to unrest in the MENA region. Iraq is strategically important as it is supposed to be the country which will add the maximum to the additional supplies of crude oil over the next decade. A prolonged period of unrest in this country has severe implications for long term crude prices. Libya, which went through a transition couple of years back has seen periodic disruptions in oil production due to civil unrest in that country. The same thing could happen in Iraq. It will be important to watch the developments in that country.
The long term Brent futures curve indicates much lower prices 5 years down the line. However continual disruptions in Iraq and other oil producing countries in the Middle East could pose a risk to these projections. However the good part is that most other commodities are likely to remain muted for a prolonged period of time and could balance higher crude prices. Due to summers and this not being the peak demand season for oil products we should not see too much of spike up in prices from the current levels till August. However if the situation deteriorates we could see a $ 10 spike up which could be unsettling for the markets.
The other bogey in the bag is the Monsoons. Various prediction models have been projecting a below normal monsoon for a long period of time. These predictions have had two impacts. Firstly a lot of analysts have turned cautious on current year Economic Growth prospects due to predictions of a poor monsoon and the concurrent impact on food prices. Initial indications also point towards hoarding which could drive up food prices.
The good part is that the government is seized of the situation. Supply side augmentation and reducing post production losses is a longer term strategy. In the short run there is little that the government can do except to prevent sharp spikes. However, I am in the camp that actually believes that the El Nino threat is overblown. There are two major factors that impacts the Indian Monsoons are the Southern Oscillation Index (NYSE:SOI) and the Indian Ocean Dipole (IOD). Both these indicators are actually pointing towards a normal monsoon and the SOI is actually indicating that the El Nino could be giving way to a La Nina. The IOD is also neutral at this stage.
On an overall basis the monsoons could go either way. How the situation is managed by the government will be interesting to see. There is need to set up a Monsoon monitoring committee in order to guide the farmers at this stage and also to track perishable food product prices so as to manage food inflation.
Narendra Modi has also talked of taking harsh measures in order to set the economy on the right path. The damage done to the economy by the last government is known to everyone. The good thing is that these harsh measures are likely to be stock market positive. Fiscal Prudence along with strong steps towards economic revival is important at this stage. Tax increases are extremely unlikely in a stagnating economy. The attention will be towards dealing with unproductive freebies.
The impact on the sentiments post the new government taking over are there for everyone to see. The actual ground impact will also become clearer over the next 3-4 months. I am optimistic on the direction that the government is taking and the growth outlook for the next 3 to 5 years looks quite encouraging. The key is to get over the initial period which has been hit by possibilities of higher crude oil prices as well as inflation spike induced by poor monsoons.
I have not yet revised my earlier December 2014 Nifty Target of 7654. I will wait till the second half of July to take a view on the rest of the year. Risks look balanced for the next 3 to 6 months at this stage. There are too many people on the sidelines waiting to come in on any sharp correction. This should limit downsides in the market. Any global correction will have its side effect on India too and that is also something we will need to watch out for around the end of the 3rd quarter/beginning of 4th quarter.
That said, there are huge stock specific opportunities available to be tapped and that is where investors should be focussed on.