64.7 -34.4 BSE Sensex2007 YTD 2008* % ChangeAll returns in USD.*As of 31 July 2008.**FII flows as of 30 June 2008.At this stage, the Indian economy is facing headwinds in terms ofinflationary pressures and policy responses (fiscal and monetary) totame increasing prices. We expect economic growth and consumerdemand to be impacted by recent price increases and higherborrowing costs. The expected wage increases as a result of the SixthPay Commission recommendation and farm loan waiver could boostconsumption, but are likely to worsen the fiscal deficit.CORPORATE INDIAKey implications—earnings growthIn recent years, strong economic fundamentals and readily availablecapital boosted the confidence of Indian companies, which havedelivered earnings growth of nearly 30%. Growing confidence wasalso reflected in the sharp rise in the number of overseas acquisitionsmade by leading companies as they sought to increase their globalfootprint. As a result, Indian stocks have traded at a premium due toconsistently superior return on equity and better growth prospects.Return on Equity (ROE) Trend (%), 1995–2007Franklin Global AdvisersFollowing an 8.8% growth in the first quarter of 2008, the Indianeconomy grew by 7.9% in the second quarter owing to moderation inindustrial output. In our view, domestic consumption andimprovement in farm output are likely to support GDP growth.While consensus estimates for GDP growth in fiscal year 2009 arebeing revised to around 7–8%, India is likely to remain one of thefastest-growing economies in the world, despite the downshift inglobal economic growth.India GDP Growth (% YOY), 1991–2008Source: Bloomberg, 8 July 2008.Source: Citigroup, May 2008.While RBI tightened domestic liquidity and also restricted overseasborrowings, Indian companies benefited from strong FII flows(cheaper money through primary/secondary market offerings). As aresult, rising demand due to increasing disposable incomes togetherwith strong economic growth boosted the bottom line.Given the recent monetary tightening and lack of FII flows, Indiancompanies are likely to face some difficulties raising capital for theirexpansion. However, the government and central bank have recentlyundertaken steps to improve access to capital by relaxing overseasborrowing terms, which should also help in tempering the weakrupee. The latter is likely to help the export competitiveness for Indiagiven that other Asian currencies have been appreciating against theU.S. dollar.Oil remains a key factor given that oil imports account for close to75% of India’s crude oil requirements. The fluctuations in oil priceswill affect India’s balance of payments and put further pressure onthe rupee, but the large foreign exchange market (forex) reserves andstrong invisibles should provide a buffer.Crude Oil Prices, 2002–2008175225275325375
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