Cracking Capex Conundrum !!!
Slump in Investment demand …
India’s investment demand had followed a predictable and familiar pattern in earlier economic cycles . But may not be so this time . Prolonged slump in Capex has changed the game for worse . “This time is different” is a dreaded phrase in stock markets , but for the current downturn in Capex , nothing else could be closer.
Looking back , the single big reason for high growth in those hefty years of 2003-07 was the huge rise in investment spending . Capex rose from 10% of GDP to 17% in this period. Not a small jump and no surprise that it fuelled one of the biggest boom in the economy . But what surprised even seasoned economists is the subsequent slide. It fell from the high to 10-12% of GDP as of now . This fall from grace probably explains the reasons for such a deep cut in the GDP number in this year .
In a typical cycle , this is not scary because of the eventual quick bounce ( in Capex) that follows the bust. But the current cycle does not offer that comfort as the culprits for the slump goes beyond the usual suspects ( high cost of capital and surplus capacity are usual causes of slowdown in investments) . Toxic graft and disgraceful drift in policy making have deepened the rot this time . While chatter around graft has receded , policy making is yet to impress .Add to this the woes of worsening debt in corporate balance sheets , the combination couldn’t be more crippling for the economy . Capital intensive industries like telecoms , power , construction and infrastructure are dangerously leveraged . Statistics show that the net debt in the large listed firms rose from $29Bn in 2007 to $ 163 Bn in Mar 2012 and it doubled as ratio of operating profits . Deleveraging such a large burden is going to take time and thus delaying eventual recovery .
This coupled with a growing view that inflation is going to be at elevated levels for foreseeable time ( hence relatively higher interest rates) portends not-so-benign outlook for Capex . This is not to say that the interest rate cycle will not reverse , but expecting a deeper cut in interest rates or inflation may not be very realistic . Of course , structural reforms ( on the supply side) if and when happens can alter this grim outlook .
The order flow outlook for capital goods industry corroborates this view . The Order book position continues to remain challenging and the IInd half of the year hasn’t seen any meaningful uptick. With sectors like road and power / infra sectors in quagmire ( mired in land acquisitions and mining issues ) , optimism, if any for improved outlook can only be short-lived .
While low base effect , some relief in policy making , recovery in business confidence etc can certainly push up growth in investment demand in the coming years , much needed to be done if the Capex / Capital goods/ Infra were to break their earlier records set in 03-07 boom cycle . Betting on portfolio that is structured for sharper recovery in Capex is fraught with daunting risks !!!. High beta may not mean high returnsJ.
Happy Value Investing !!!
ArunaGiri . N