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Market-Mukherjee equation

July 8, 2009

This Monsoon Budget is not a downpour, instead it is more like a drizzle. After the decisive Lok Sabha elections, there was hope that the Budget would reflect equally decisive reform steps. However, the Budget has largely taken a gradualist approach to structural reforms. As a result, it is unlikely that valuation multiples for the Indian market will be re-rated higher immediately. Market levels will largely be driven by earnings growth, and it does not appear that the Budget will materially impact earnings growth for the broader market. Earnings growth will have to be assessed on a companyby-company basis.

For market participants, no news can also be good news! There were no negative statements in the Budget that would make it seem that divestment and reforms will not continue. The fuel price hike happened a few days before the Budget. Similarly, other reform-oriented policies can also happen through the course of the next few months. Many UPA ministers have indicated that they will be pursuing structural reforms that could also provide a big boost to the economy. For example, the HRD Minister has suggested that FDI should be allowed in higher education. FDI liberalisation in other sectors such as insurance and retail may also happen eventually.

The Indian market could have expanded its valuation premium relative to other emerging markets. Unfortunately, that does not seem possible now since the Budget has not been able to show a clear path to accelerated earnings growth. Since the early 1990s, India has traded at a premium to emerging markets as well as Asia ex-Japan. The highest premiums were in the early 1990s after the first generation of reforms. At that point, India traded at a 100 per cent premium to Asia ex-Japan. Today, India trades almost in line with these markets. If the government had announced far-reaching reforms in this Budget, the Indian market would have re-rated to higher premiums relative to other markets. Now that can only happen over the next few months as incremental positive news flow on reforms trickles out. Until then, the Indian market is likely to move with other Asian markets and remain dependent on foreign inflows.

If India is able to grow at 9 per cent in the next few years, then valuation multiples could also increase because India would be one of the few high-growth countries in a slow growth global economy.

Punita Kumar Sinha, Senior Managing Director-Blackstone Asia Advisors

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