Stock markets are near record high levels. Every other day, they scale a new peak. Share prices today are a reflection of tomorrow's profits that companies are expected to make.
However, there are always headwinds that work against rising share prices.
Here are pointers that explain 5 such headwinds:
Most of the frontline shares have gained significantly over the past few weeks. Today's share prices capture profit expectations for companies in the near future. A gain in share prices mean stock markets anticipate better profits for companies for the year ending March 2015 and in many cases for the year ending March 2016. The expectation of the profit growth of companies represented by the earnings per share or EPS growth has changed, but not dramatically. "Current stock prices of most large-cap stocks discount FY2016 EPS fully," our analyst said. This means the scope for a significant rally in the short-term is limited.
India needs low interest rates for faster economic growth. While wholesale prices have witnessed a cooling off effect, retail inflation continues to remain high. The Reserve Bank of India is concentrating on the retail inflation. It hovered around 7.2% in July 2014. RBI is planning to bring this rate down to 6% by 2016. "It is increasingly likely that the RBI will not cut interest rates this year," said a note from Moody's Analytics, an arm of rating agency Moody's. This clearly means that cost of borrowing for businesses is unlikely to go down this year. Any improvement in net profit margins is possible if borrowing cost of companies goes down.
Any potential economic recovery could be hit by some recent events. India's Supreme Court could cancel all coal blocks allocated since 1993. This could mean new auctions and a rework of the entire process. India's annual coal demand is about 800 m tonnes and supply is about 600m tonnes, according to one article in the Indian Express newspaper. This could delay supply of coal to the power sector. Our analysts also point out that several states have ordered companies to close iron-ore mines following the Supreme Court investigation into allegations of environment law violations. It is also alleged that some companies received improper renewal of mining leases. These could hurt major infrastructure projects and slow down growth.
The Indian economy is closely linked to the outside world. There are geo-political tensions between Russia-Ukraine and in Iraq-Syria. Any escalation of tensions in these economies or elsewhere, may have consequences on our exports, crude prices, currencies, etc. These consequences can have an impact on the overall economic growth and hence, the markets.
The Government has cut expenditure to balance its budget and reduce borrowing. However, overall tax receipts may not meet budget expectations for the year ending March 2015. The growth in tax receipts was only 5.5% during the first quarter of the fiscal. This indicates that there is a significant ground to cover to meet budget estimates of revenue receipts for the full year. In all probability, the Government could fall short of own estimates. The impact of this could be a cut in plan expenditure needed to stimulate economic growth. It could also mean the Government may not meet the fiscal deficit target of 4.1% of gross domestic product and end up borrowing more than estimated.
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