INDIA OUTLOOK 2008

RELATIVE SHIFT

Just like 2007, we will see the sectors shift in and out of relative strength. And as Sensex keeps growing, its sectoral representation will increase or decrease based on how well the sectors perform. New sector leaders will get in the Sensex and underperformers will get out. While a high and higher Sensex might seem good for the economy, it will never convey the real picture early enough to make the most of high performing sector growth or early warning systems to get out of stagnating sectors.
This is what we tried addressing last year when we said that Energy and Materials sector should lead the Sensex higher after the first quarter of 2007. On the Energy front we also mentioned that we do not see Oil falling substantially below $50 and after Oil hits base, the respective sectors should assume leadership. We also mentioned about Auto and IT underperformance, which happened. There was another aspect we got right, we anticipated a negative trend till March 07 and a positive year turn around after that. About the things we got wrong…we were off mark on the Banking sector, as we suggested pre budget Reductions. BSE BANK moved up 66% in 2007. The banking sector indeed pushed us off our Sensex targets, which we did not foresee above 18000.
So as you see, the answer to Indian stock market outlook is trickier than the famously quoted “Sensex 40,000” in five years. We are not saying that it does not challenge us to get the target on Sensex right by two decimals (Elliotticians have done it prior), but market forecasting is extremely dynamic and to stick out for a potential turn level in 12 months is not an easy accuracy to deliver. However, Sensex targets can be built around sectoral and intermarket dynamics. The late economic cycle stage, which we discussed last time, is followed by topping and slowdown. After Sensex 20,000 market expectations are for 30,000, but we don’t see Sensex extending beyond 24,000 this year with the benchmark making a decade high this year.
Like we saw Auto, Pharma, FMCG and IT stagnating more than 15 months on average, while Sensex soared, it’s wishful thinking that Capital Goods and Banking will continue to outperform and will not pause if not exhaust. Sensex underperformed the Capital Goods, Banking and Energy sector in 2007. And these are the sectors which will finally validate our case. Credit cycles are behind the economic boom and even if India is sitting on a huge industrial and construction boom linked with the capital goods sector, credit and real estate are interwoven in the sector. Prices can’t rush ahead of itself and a rise of energy and material prices will only make it tougher for the capital goods sector to keep delivering, as costs go up. This year BSE Capital Goods sector should move its last leg up to complete the cycle trend the sector started in 2002. The index should complete the last leg up from current 20,000 levels to 25,000. This should be the first leading indicator after which identifying a Primary (multi year) top for Sensex should be easy.
And a move on Oil above $ 100 to potential $ 125 might look interesting to the energy speculators. But it will subdue the enterprising efforts some of India’s underperforming Auto sector majors are making to bring in luxury cars pitching to buy them from the other struggling global auto majors. Not to forget to mention the other ill effects of rising energy prices. So after the damage will be done by high energy prices in 2008, BSE Oil Index will also head into major resistances accompanied by primary (multi year) top on Oil prices.
Banking sector is also an early starter in an economic cycle. Sensex started moving up in 2001 four years after the uptrend in banking majors. So if Sensex has to form a primary top this year, Banking should lead. We are not looking above 15,000 on BSE BANK Index (up 25% from current levels). Bad timing as you may call it with Capital goods and Banking under pressure, Energy topping late 2008 or early 2009, we will be ready for the proverbial bust heading into 2010 and 2011 Benner cycle lows.
Selling in strength isn’t easy. We advise to reduce capital goods sector allocations and looking into Pharma and FMCG majors, which we consider defensive plays and emerging outperformers. About IT, we don’t see a reprieve yet, the negative surprises might keep coming. Utilities and integrated Metals and Materials Company should continue to fair well. From an Elliott count perspective, the 3 primary of the Impulse from 2001 has witnessed a double extension. And the best case scenario expects atleast a 3 Primary (multi year) top this year, as the sectors witness the relative shift once again.