Tridib Pathak, Director Equity and Senior Fund Manager, IDFC Mutual Fund talks to Puneet Wadhwa on the markets and his expectation from the December quarter results of India Inc.

What do you make of the 25 per cent fall in the Indian equity markets in 2011? And, to what extent will this correction continue in 2012?

In 2011, the correction got accentuated by domestic factors over and above the already existing concerns on global macro.

In a broadly risk averse environment, India’s compulsions on high inflation, tightening of monetary policy, policy logjams, deterioration of the investment climate, political uncertainty  and rising twin deficits (fiscal and current account) hurt confidence and sentiment.

With a tight monetary policy, it was all too evident that domestic growth would slow down dramatically and with it corporate earnings growth. 2011 in that sense was a classic ‘get-together’ of all possible negatives, making India one of the worst performing markets.

2012 will continue to be led by uncertainties out of Europe, frequent changes in risk on /risk off trade depending on US$ strength/weakness i.e. QE, domestic policy and political logjam, India’s twin deficit problem and its impact on the rupee. Also, growth will surely suffer, not just in India but globally.

Slowing growth globally, can eventually bring some much needed respite to India on oil and commodity front. The interest rate cycle in India will surely turn in 2012, although the timing and extent of rate cuts is still uncertain. While 2012 starts with most of possible negatives already priced in, the impact of these negatives will sustain for a while.

What returns do you expect the market to deliver in 2012? What does 2012 hold for the Indian markets as regards foreign institutional investor (FII) inflows?

We would not like to comment on short-term return potential of the market. We, however, believe that from a three – five year perspective the market holds the potential to give 15-20% CAGR return, given the fact that long term growth story of India is intact and valuations have corrected to an attractive level of around 13X one year forward earnings.

As regards FII inflows, much depends on the global risk appetite. It is very interesting to note that despite a 25% fall in market in 2011 and 40% fall in dollar terms, we saw only marginal FII outflows.

What about concerns on the domestic front, with issues such as inflation and policy logjam? What more can investors/markets expect?

On the domestic policy front, the key requirements are fiscal consolidation and spurring domestic investment i.e. a rise in fixed capital formation. Action on these is essential to address the problems of high inflation and thus high interest rates on a structural basis. Without a credible response on the augmenting the supply side of the economy, India risks derailing its long-term potential to grow at 8-9%.

How have you reshuffled the portfolio given the current market conditions? Which sectors / stocks are you still bullish on from a medium-term perspective?

On a top down basis, the themes to focus on in 2012 will be the following:

Turn in interest rate cycle in 2012 – preferred play in this should be Banking stocks. Within banking, banks with relatively lower asset quality issues and which are more wholesale funded should be preferred.

Rising Export Competitiveness – While rupee depreciation hurts India, the extent of rupee depreciation in comparison with other emerging and Asian currencies is large and impactful. This will surely allow visibility of growth to many export oriented companies.  IT Services and Pharma clearly stand out here.

Some Consumption trends to focus on would be dieselization in car industry, digitisation in media, data penetration in mobile telephony, branded food processing, low but rising penetration in home appliances, monetization of gold.  These trends will allow certain consumer companies greater visibility of growth.

How do you see the December’11 quarter results panning out?

We will keenly watch the impact on topline growth in December 2011 results. So far, the corporate topline growth has remained healthy, with much of the pressure on bottomline coming from lower margins and higher interest costs. We do expect topline growth to slow down, resulting in further pressure on bottomline growth.