Model Portfolio. Staying alive. Model Portfolio India Strategy. India Strategy. Sensex daily price chart. FII flows (Rs cr) Inflation (monthly)

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1 India Strategy Model Portfolio India Strategy Model Portfolio August 27, 2012 Sensex daily price chart 21,000 20,000 19,000 18,000 17,000 16,000 15,000 Aug-10 Nov-10 Feb-11 May-11 Aug-11 Nov-11 Feb-12 May-12 Aug-12 FII flows (Rs cr) 70,000 60,000 50,000 40,000 30,000 20,000 10,000 - (10,000) 2QFY2011 3QFY2011 4QFY2011 1QFY2012 2QFY2012 3QFY2012 4QFY2012 1QFY2013 2QFY2013 Inflation (monthly) 12.0% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% -2.0% Jul-07 Jul-08 Jul-09 Jul-10 Jul-11 Jul-12 Interest rates vs GDP growth (quarterly) 11.0% 10.0% 9.0% 8.0% 7.0% 6.0% 5.0% 4.0% 3.0% Mar-04 Sep-04 Mar-05 Sep-05 Mar-06 Sep-06 Mar-07 Sep-07 Mar-08 Sep-08 Mar-09 Sep-09 Mar-10 Sep-10 Mar-11 Sep-11 Mar-12 Sep-12 GDP (% yoy) Interest rate Indian Currency (INR/US$) Aug-07 Aug-08 Aug-09 Aug-10 Aug-11 Aug-12 Crude oil price (US$/barrel, weekly) Aug-10 Dec-10 Apr-11 Aug-11 Dec-11 Apr-12 Aug-12 Head - Research: Hitesh Agrawal hitesh.agrawal@rcap.co.in Staying alive 2012 has been a good year for equities as an asset class along our expected lines, though not without its share of volatility. And this is true not just for the Indian stockmarket but for most of the indices across the globe, including those that are going through or are a part of the troubled times. Thus, while the Sensex/Nifty have surged 15-16% in 2012-to-date, and are amongst the leading notable indices across the globe, most of the Asian indices too have gained between 5-13% with the exception of China (down 5%), which has been facing the heat of a slowing domestic economy aggravated by its significant dependence on the Eurozone for exports. However, the three key US indices have gained 8% (Dow) to 18% (Nasdaq) year-to-date. As far as the European markets are concerned, the German DAX is up ~13%, while the CAC40 and FTSE are up ~9% and ~4% respectively. A common reasoning that can be attributed to these gains across the globe lies in the continued hopes of further quantitative easing measures by the US Federal Reserve and authorities in the Eurozone to lend financial aid to their troubled economies. Further, the latest Fed minutes have supported investors optimism with respect to a possible monetary stimulus soon. Coming back to the Indian stockmarket, while we were positively surprised at the beginning of the calendar year with respect to the quantum surge in FII inflows in the first couple of months itself, we are kind of awe-struck now, considering that the net FII inflows into Indian equities is at about Rs60,000cr (US$11.5bn) for 2012 so far, and more-so because of the fact that all along this period, most of the FIIs have been quite categorical about not investing and/or waiting for better entry points into the Indian stockmarket. Notably, a correction is being expected on the often discussed grounds and challenges currently being faced by the Indian economy pertaining to the fiscal deficit, high inflation (and now poor monsoon), high interest rates, lack of reforms, economic slowdown, corruption, etc. Nonetheless, the Indian stockmarket behavior has continued to elude to fulfill this wish by the FIIs. Thus, explaining the quantum of inflows into Indian equities in this backdrop is a bit difficult and indicates that either the FIIs are not walking-their-talk or there are other sources of FII investments than the usual source. So, where could the Sensex head now? Notably, the Sensex/Nifty have gained 15-16% to date, while the mid-cap and small-cap indices have gained ~19% leading to India being amongst the better performing markets in And, to try to gauge an answer to the above, it is imperative to once again re-visit the various factors that have a direct and an indirect impact on the investment scenario in Indian equities. Global liquidity: The global liquidity situation has been decent ever since the ECBs first 3-year long-term refinancing operation (LTRO) came through in December 2011 followed up with another one in February Undoubtedly, these have helped in part to trigger the risk-on global trade which has supported global investor optimism and risk appetite, thus ensuring liquidity flows to relatively riskier asset classes like equities as well. Further, with the ECB planning to bailout the Eurozone economies facing a crisis by buying bonds, and the US Fed considering some quantitative easing measures, the liquidity and the consequent risk-on trade is unlikely to unwind significantly in a hurry.

2 Domestic Inflation: Inflation, which came under some control since December 2011, has in recent months been hovering around the 7% mark. While inflation softening had gone down well with market participants and had opened the room for loosening of the Monetary Policy, the monsoon deficit this season raised concerns with respect to the sustainability of inflation at current levels, with an upward bias being expected for inflation in the coming months. We believe that while the high base effect is likely to camouflage some of this, any considerable rise in inflation from the current level will jeopardize the probability of a significant interest rate cut this fiscal. Interest rates: With the RBIs aim of bringing inflation under control having been achieved post December 2011, it became comfortable enough to cut interest rate by 50bps in April However, post this, with no support from the government towards repairing the twin deficits situation of the country and near complete policy paralysis, the RBI opted to refrain from going ahead with more interest rate cuts. Now, the RBIs sole focus remains on curbing inflation further, even at the cost of growth in the interim. However, we continue to believe that further cool-off of inflation in 2013 and the GDP slowdown in the coming quarters will compel the RBI to lend a helping hand to the economy through another bps of rate cuts. Government s policy paralysis: The market has built in a lot of hope with respect to some life coming into the current policy paralysis scenario in India. While there is clearly considerable scope for reforms in the country, political logjams and parliamentary stand-offs time and again over issues of corruption and on account of non-consensus, not just among the ruling coalition government and the opposition but also amongst the ruling coalition parties themselves, is leading to lot of precious time being drained futile with no discussion and/or debate and/or decision. It is important that the political parties rise above their political differences to arrive at conclusions vital for the country s economic growth in this very challenging global economic backdrop. Corporate health: India Inc. s health continues to remain weak even as the rate of deterioration may have slowed down. Judging by the recently concluded 1QFY2013 results season, the challenges being faced by the Indian corporates on account of the high interest rates and a slowing economy can clearly be gauged. Thus, expecting any positive surprises on the earnings front at an aggregate level over the next couple of quarters is highly unlikely. However, company/sector specific improvements/deterioration may come about depending upon the current scenario/developments and the lagged impact of it. This is where investors with a medium-to-long-term horizon need to remain focused on. Crude oil prices: Crude oil prices have been at their volatile best over the past couple of quarters with prices witnessing a near collapse from the US$ per barrel mark in February 2012 to US$90 per barrel levels during July Increase in oil supply by the OPEC and non-opec nations coupled with the recessionary global economies had lead to this correction in crude oil. However, the correction was short-lived as crude oil prices have already bounced back to US$115 per barrel on rising expectations of inevitable quantitative easing measures by the US Fed and the ECB in the near-term. Notably, strong crude oil prices, especially with the sustained weakness in the INR against the US$, is not good news for India s fiscal deficit position considering that India imports nearly 2/3rd of its oil requirements and later provides subsidies on it for domestic consumption.

3 Thus, going forward, considering the various variables at play, the sharp surge in indices in 2012 to date and the current valuation of Sensex at ~12x P/E FY2014E EPS, we believe that short-term volatility is highly likely, even as long-term value pockets are available in the market. However, we expect every dip to be an opportunity, which will be taken advantage of by investors/institutions who have missed out on the rally so far. While a mix of short-term and medium-to-long-term measures will continue to emerge from the Eurozone (member) vs. Eurozone (member) discussions and others responsible for working out a solution, which will continue to help the markets to stay alive on some hopes, improvement in domestic economic parameters like inflation, interest rates, reforms, etc. will help Indian equities remain on global investors radar. Reliance Securities Model Portfolio Reliance Securities Model Portfolio released on October 3, 2011 continues to outperform. Since inception, the Sensex has given a return of 9.7% whereas the Model Portfolio has given a return of 11.5%! This translates into an outperformance of 1.8% over the Sensex! Key Outperformers Return (%) Key Underperformers Return (%) Divis Labs 64 Jindal Steel (35) Satyam Comp. 42 Bharti Airtel (28) Glenmark Pharma 31 Hindalco (25) ITC 27 BHEL (24) Cipla 17 Bank of Baroda (19) HDFC Bank 14 Tata Steel (19) Stocks In Weight (%) Stocks Out Weight (%) Maruti 4.0 M&M 2.0 Asian Paints 2.0 ICICI Bank 7.0 Dr. Reddy's 2.5 BOB 1.0 IPCA 2.5 IDFC 1.0 Wipro 2.0 BHEL Bajaj Electricals Glaxo Consumer DLF Sterlite Inds Divi's Labs Cipla NTPC Satyam 2.0 Weight Increased (%) Weight Reduced (%) Tata Motors 2.0 Reliance Inds. 2.0 HDFC 4.0 Idea Cellular 1.0 HDFC Bank 5.0 Bharti Airtel 1.0 SBI ITC Jindal Steel ONGC Glenmark Pharma

4 Sector Company CMP* Sensex Weightage (%)* RSec Weightage (%) Tata Motors Automobiles Maruti 1, TVS Motor HDFC Banking & Finance HDFC Bank SBI 1, Capital Goods Larsen & Toubro 1, ITC FMCG Asian Paints 3, Nestle 4, Tata Steel Metals & Mining Jindal Steel Hindalco Coal India Oil & Gas Reliance Inds ONGC Dr. Reddy's 1, Pharmaceuticals Glenmark Pharma IPCA Infosys Tech. 2, IT Services TCS 1, Wipro Telecom Idea Cellular Bharti Airtel Source: RSec Research; * BSE Data as on August 24, 2012

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