Crystal Gazing 2011

As we enter into the New Year, it is time for stock taking. Our markets have delivered a return of around 13.13 per cent this year (till December 17 closing). This is not all that bad, especially when seen in the light of 2009, a blockbuster year when the Sensex delivered a return of 76.33 per cent. Looking ahead, my bet would be that returns from equities are likely to be muted for some time. Here are my reasons: Earnings and valuations: If you took note of the recent Q2 results, revenue earnings continued to be strong (17.8 per cent y-o-y for the Sensex), but bottomline growth was muted (9.6 per cent y-o-y for the Sensex) as cost pressures (interest costs, raw material costs and wage costs) mounted. In Q1FY11 y-o-y growth in Sensex PAT was even poorer —a meagre 0.5 per cent. With inflationary pressures (on account of the global run-up in commodities) remaining strong, interest rates are more likely to move up rather than down in the near future. Rising commodity prices will increase the raw material costs of corporates further. With the kind of earnings growth that we have seen in the past two quarters, sustaining the current market PE of 22-plus appears to be a tall order. Thus, the odds favour a contraction rather than an expansion in valuations. Fund inflows: Another driver of the markets in 2010 was the net purchase of about Rs61,000 crore worth of equities by foreign institutional investors (FIIs) during the year. Will a similar level of influx of funds occur in 2011?

This article was originally published on January 17, 2011.