Industrial output falls sharply
Dec 13, 2011

Author: PersonalFN Content & Research Team

The signs of an economy slowing down seem to be getting evident as the Index of Industrial Production (IIP) data for the month of October 2011 plunged sharply to -5.1% after showing a dismal growth of 2.0% (earlier figure of 1.9%) as reported in the previous month.

(Source: CSO, PersonalFN Research)

It is noteworthy that since a year now the industrial activity in Indian has been rather on a rollercoaster ride, as the anti-inflationary stance maintained by Reserve Bank of India (RBI) has dampened the mood due to steep borrowing cost.

Manufacturing index, which constitutes about 76% of the industrial production, posted a negative growth of an annual 6.0% (as against 12.3% in October last year). In addition mining output too declined by 7.2% in October this year (as against a growth of 6.1% during the same month last year). Production of capital goods also fell sharply by 25.5% in October (as against a growth of 21.1%in the corresponding month of 2010). High interest rate regime in the country also showed a dampening effect on consumer durable good as well as consumer non-durable goods as they too fell by 0.3% and 1.3% respectively (as against a growth of 14.2% and 5.0% respectively reported in the corresponding month a year ago).

Our View:

The October 2011 IIP numbers does reveal that our economic growth has been under pressure due to the higher interest rate regime in the country. A worrisome factor is that output of capital goods has plunged significantly, and with investments stalling the economy may struggle to achieve even the new GDP growth estimates of 7.5%.

However with the consumption theme still robust in India, some ray of hope still remains. Moreover, with unlikely chances of central bank increasing policy rates in its 3rd quarter mid-review of monetary policy 2011-12 scheduled on December 16, 2011 (due to estimation that WPI inflation may mellow), the hurdles to industrial activity would be removed.

What should equity investors do?

Equity investors should adopt calm and compose approach by staying invested and also investing further as, valuations in the Indian equity markets look fairly attractive and there is potential for robust future growth.

However, as fear of downbeat economic data being disseminated from the Euro zone still remains, staggering your investments would be an appropriate approach. We recommend that you invest in diversified equity funds as this will help reduce risk. However one should stay away from U.S. or Euro oriented offshore funds in such a scenario, and instead look at investing in domestic value style equity funds. Ideally you should opt for the SIP (Systematic Investment Plan) mode of investing as this will help you to manage the volatility of the equity markets well (through rupee-cost averaging) and also provide your investments with the power of compounding.

Remember, while investing select only those equity funds which follow strong investment processes and systems, and invest with a long-term horizon of at least 5 years.

What should debt investors do?

Well, we think that the current situation is attractive to take exposure to debt mutual fund instruments as interest rates are likely to consolidate at these higher levels before they start going down.

You can now gradually take exposure to pure income and short-term Government securities funds. Since longer tenor papers will become attractive, longer duration funds (preferably through dynamic bond / flexi-debt funds) can be also considered, if one has a longer investment horizon (of say 2 to 3 years). However, one may witness some volatility in the near term as there is always an interest rate risk associated with the longer maturity instruments.

With liquidity in the system being tight (ahead of advance tax payment obligation in mid-December), yield on the short term instruments are expected to move up slightly (say by 15 bps to 25 bps) thus making short term papers more attractive. Hence investors with a short-term time horizon (of less than 3 months) would be better-off investing in liquid funds for the next 1 month or liquid plus funds for next 3 to 6 months horizon. However, investors with a medium term investment horizon (of over 6 months), may allocate their investments to floating rate funds. Short term income funds should be held strictly with a 1 year time horizon.

Fixed Maturity Plans (FMPs) of 3 months to 1 year will yield appealing returns and can also be considered as an option to bank FDs only if you are willing to hold it till maturity, but you may not have a very attractive post tax benefit, as indexation benefit will not be available on FMPs maturing within 4 months. You should invest in longer duration funds, if the time horizon is of over 2 to 3 years. You can consider investing your money in Fixed Deposits (FDs). At present 1 yr. FDs are offering interest in the range of 7.25% - 9.40% p.a.