The Hindu Business Line : If crude falls further, equities may follow suit

Stocks, bonds, gold and every other financial asset have been dancing to global gyrations in crude oil prices. In 2008, Indian stocks have moved exactly in the opposite direction to crude prices. The BSE Sensex dropped to its low of 12576 points on July 16, shortly after crude hit a record of $147.27 a barrel on July 11. And the recent recovery to 15000 has been triggered by tumbling oil, which is now below the psychological $120 mark.

If rising oil triggered a flight of investments from Asia, the recent correction in oil prices has injected fresh life into Asian stocks.

Net importers of oil, such as India, are no longer pariahs and are suddenly back on the “buy” list of institutional investors. Oil exporting economies are being hastily downgraded. But is there another side to the relationship between crude oil and Indian stocks? Will stocks continue to rise if crude continues to fall?

Point: Declining crude prices should directly tame inflation, the biggest worry for emerging markets such as India. If inflation subsides, the RBI may turn dovish on interest rates, which is good for the companies and stocks.

CounterPoint: Oil prices may have to dip below $100 levels and stay low for the RBI to review interest rates. That appears unlikely for now. Even if oil prices do stay low and inflation drops, the RBI may take its time to cut rates, given that the inflation rate it is targeting is still much below current levels.

Point: With crude oil becoming unattractive from an investment perspective, ‘smart’ money may come back to equity investments, especially in the emerging markets. With India among the worst affected markets in 2008, our markets are now attractively placed and might attract a huge share of those funds.

CounterPoint: Rising crude prices helped wealth creation in the oil producing countries, especially the Gulf nations. A lot of investments from this “oil money” has entered emerging markets such as India. A sharp correction in crude oil prices would lead to a dwindling of fund flows from those countries. Second, with every asset from real-estate, bond prices and equities all witnessing a sharp fall, crude oil was the last bastion to earn returns. If that gives way, investor wealth can only be further eroded.

Point: Falling crude oil is good for the earnings of India Inc, which was facing pressure from rising input prices.

CounterPoint: Index heavyweights such as ONGC (to some extent), Reliance Industries and Reliance Petroleum stand to benefit from firm crude oil prices. The weakening of prices could put pressure on them. Moreover, prices of other industrial inputs such as steel, non-ferrous metals and agri-commodities were also responsible for margin pressures on companies. These too need to cool off to help margins.

Point: A major worry with rising crude oil was that it widened India’s current account deficit, weakening the rupee against major currencies. If this deficit narrows, the rupee may gain strength. That may prompt foreign investors to view India more favourably, as their returns from India investments could improve.

CounterPoint: Though the rupee is influenced by the current account deficit, it can stage an appreciation only if capital inflows into Indian markets pick up substantially. That, in turn, depends on how FIIs view Indian stocks.

K. S. BADRI NARAYANAN

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