InvestorQ : Do the monsoons impact the corporate earnings performance? Why do analysts and investors tend to get so worried about monsoons when projecting the corporate performance?
rhea Babu made post

Do the monsoons impact the corporate earnings performance? Why do analysts and investors tend to get so worried about monsoons when projecting the corporate performance?

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1 year ago

The relationship between monsoons and earnings is slightly more indirect and also largely sector specific. The first impact on corporate earnings is via the inflation effect. Better monsoons will mean lower inflation and a greater inclination on the part of RBI to cut repo rates. Lower interest rates is positive for the corporate sector in terms of lower cost of fund and for the banking sector in the form of greater credit off-take without impacting interest spreads. Let us now look at how monsoons impact specific sectors

· Good monsoon will lead to greater demand for tractors and heavy vehicles. Tractors are a direct by-product of a good monsoon and the impact is immediately visible on tractor demand. Heavy vehicles form a key part of the rural logistics chain and tend to get a boost when a good monsoon results in a bumper crop.

· FMCG stocks will benefit directly and indirectly from good monsoon. For FMCG companies, incremental growth comes from rural areas, where propensity to consume is quite high. A good monsoon results in higher rural incomes creating a ready market for FMCG products. Also, this market is less crowded.

· Banks and micro finance institutions (MFIs) have a two way relationship with the monsoons. Good monsoon improves incomes in rural areas. During good monsoons, the stress loans in rural areas fall sharply. Good crop means lower inflation. When RBI cuts rates, banks typically pass just half of the rate cuts, improving their margins.

· Monsoons can provide a demand push for entry level life-style products and that has been a key factor in the last few years with rural driving demand for a lot of life style products. This includes products like two-wheelers, small cars and white goods, which directly benefit from monsoon demand. Most of these companies are already focusing investments heavily in rural areas and the incremental benefits on earnings are quickly visible.

· Good monsoons directly boost the fortunes of agri-related stocks. This includes sectors like fertilizers, agro-chemicals, pipes and drip irrigation systems. Good monsoon results in quicker translation of government spending into demand for agri-related products. These companies already have the subsidy benefit and hence the impact on earnings of these companies is immediate.

· Good monsoons can have an outsized positive impact on mid-cap stocks. Most mid-cap companies are in agri-related sectors and are direct or indirect gainers from a good monsoon. Lower WPI inflation has a quicker impact on input costs for mid-cap companies. Lower bank rates benefit mid-cap companies as they do not have large legacy debt unlike the large cap companies.

In a nutshell, monsoon has a profound impact on rural jobs and rural incomes. When you add the inflation impact of good monsoons, the implications for inflation and corporate earnings tend to become evident. What is most interesting is that historically drought years have normally formed the base for a multi-year expansion of earnings and market value. Normally, if you look back at the last 30 years, then the years of drought have been consistently followed up by years of good monsoons and years or prosperity in GDP terms. That is the positive side of the monsoon cycle.