Global investment bank Goldman Sachs has downgraded India to "underweight" saying growth recovery remains elusive.
"Recent activity data in the second quarter of 2013 has been sluggish with no signs of a pick-up in investment demand... Against a backdrop of lower growth, tighter liquidity and rising macro vulnerabilities, we downgrade India to underweight," Goldman Sachs said in a statement.
The investment bank had earlier revised its GDP forecasts for India down to 6 per cent from 6.4 per cent for the current fiscal year citing challenging external funding environment and a weaker-than-expected pick up in the investment cycle.
Goldman said a high current account deficit is a key vulnerability for India. India's CAD has risen from 1 per cent of GDP in FY07 to 4.8 per cent in FY13. The primary driver of the current account deficit is oil imports and, given their demand inelasticity, the level of the current account may not change significantly in coming years, Goldman said.
Rising CAD has put sharp pressure on the Indian rupee, which is trading near a record low hit on July 8.
Goldman said the pressure on the rupee will likely continue, if US rates continue to move higher and capital flows dry-up or potentially reverse thereby putting pressure on the current account.
"Our forecast for the dollar-rupee remains at 60 for the year but we expect continued weakness to 65 through 2016. The rupee remains inexpensive relative to our fair value estimate of dollar-rupee 65 which also suggests the currency can continue to weaken," the investment bank said.
Rates may rise:
The Reserve Bank may keep liquidity tighter for longer to stabilize the currency, Goldman said. The RBI has also recently announced a number of measures to tighten rupee liquidity in order to curb rupee weakness. These measures, in effect, constitute a shift in monetary stance from pause to tightening, Goldman said.
"We even think that there is a greater probability of the RBI keeping liquidity tight even beyond 6 months, and hiking policy rates as well, rather than cutting them," the investment bank said.
Nifty target cut:
Goldman expects earnings to grow at 5 per cent and 11 per cent this year and next, below consensus expectations, with sales growth to moderate further and margins to remain under pressure. The investment bank cut its 12-month Nifty target to 6,200.
Banking stocks may be under pressure:
Goldman says financial stocks would remain under pressure over potential "flow reversal" in equities. It favours export-facing sectors which may benefit from better external growth and weaker currency.
Goldman has a buy on Oil India, HCL Tech, ONGC, Bajaj Auto, Titan and Havells India.
Political risk may intensify ahead of elections:
Goldman says markets may get worried about the potential policy paralysis ahead of the general elections. The various government policy reforms are the key to kickstart
the investment cycle and unclog the structural bottlenecks at the expected pace, especially on the infrastructure front.