The Hindu Business Line : Momentum hinges on liquidity

AT times, it needs many - not just two - to tango. Tightening money supply, inflationary pressures, concern over macro economic factors and volatile commodity prices have been influencing fund flow to equities both on Wall Street and Dalal Street in the past few weeks.

The US Federal Reserve's measured rate hike and the RBI's balancing act in handling inflationary pressure and rate management have had the expected salubrious effect on the domestic stock market last week. As the FIIs turned mildly positive, the domestic indices recovered.

But the trend is not clear as yet for the overseas funds to pull out all the stops in inflows to the Indian market.

Volatility in financial and commodities markets has left investors across the world worried over the global economic growth. Large-scale outflows have hit prices across the bourses world-over. According to Emerging Portfolio Fund Research, in the week ended April 27, only two categories of funds - Latin America equity funds and Global/International Equity Funds - were seen receiving inflows. All other categories witnessed redemption pressures, albeit in varying degrees.

The character of a "soft patch" noticed in the US economy and a "soft economic landing" for China are not detailed yet, but their dynamics are already setting the tenor for the markets. Crude oil price and the much-expected appreciation of the Chinese yuan are likely to shape the medium-term outlook for the global markets.

But volatility is unlikely to be smothered even in the medium term.

In the months ahead, global investors would like to remain overweight in the Indian equities provided its economy does not falter or stray from its reforms course. The 8 per cent GDP projection for the current fiscal is definitely tempting. As it is, the country's economic progress is considered much less volatile and the growth of domestic market more self-sustaining.

The corporate India, in the eyes of overseas investors, has performed fairly well in the fourth quarter 2004-05. India's reforms agenda on banking sector, retail and pharmaceuticals is gradually being unfolded, while measures for augmenting revenue stream such as implementation of VAT are being seen in the context of the federal and state governments' combined fiscal deficit of over 9 per cent and the interest burden on the accumulating debt.

With headline inflation currently around 6 per cent and base bank rate pegged at 6 per cent, according to observers, investments in infrastructure could pave way for accelerated GDP growth rate.

There is also a compelling case for more overseas investment inflow at vastly corrected ruling prices. Indications emanating from international investments circles suggest that in the quarter to September Indian equities may become the top destination for fund flow. In the changing global investment matrix, investment stream to domestic stocks could not only see increase in volume, but also a marked hike in the number of players from different corners of the globe if the country reports a reasonably decent rainfall.

As for the short-term, easing of oil prices, thanks to the stepped-up import by the US pushing its commercial stock to its highest level since May 2002, is likely to increase the attention towards domestic equities. However, the recovery path of the indices may be bumpy. But if volumes record a steadiness, it would be a matter of time for momentum to assert itself on the price line.

CAG's finding fault with the tax treatment of FII gains is unlikely to cast a shadow on their investment activity this week as, according to experts, the Union Finance Ministry and the SEBI have already taken a thought-out position on the issue. The overseas investments are considered as capital employment activity and not as a "business activity". Thus the profits or loss from it, is seen in the context of its being a long - term or short - term for tax purpose.

The market players expected that a clarification to this effect would be issued early this week, either by the CBDT or the Finance Ministry. However, if it is not forthcoming immediately, sentiment may be clouded temporarily.

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