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Oil hike bold; to stoke inflation

Published on Wed, Jun 04, 2008 at 14:05 | Source : CNBC-TV18

Updated at Wed, Jun 04, 2008 at 22:34

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Udayan Mukherjee, Executive Editor, CNBC-TV18

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By Udayan Mukherjee, CNBC-TV18

Petroleum Minister Murli Deora has announced that excise duty on HSD and petrol has been reduced by Re 1 (current rate Rs 14.35 for petrol - Rs 4.60 for diesel). Petrol prices have been hiked by Rs 5, diesel by Rs 3 and LPG price hiked by Rs 50 per cylinder. Customs duty on crude has been reduced to nil from 5%. The duty cuts would amount to Rs 22,660 crore in revenue loss, the Revenue Secretary said. The price hike will be effective from midnight today.

The Revenue Secretary took away the thunder of the Petroleum Ministry. Price has been hiked by Rs 5 on petrol, Rs 3 on diesel and Rs 50 per gas cylinder. That is the final package aside of the customs and excise cuts, which have come in.

HPCL has come off surprisingly after that news came in. Traders are offloading positions but those hikes seem better than expectations.

Inflation will get stoked a bit higher. I don't know whether the government is building a cushion for a rollback from the Left Parties. But they seem to have affected a bit more of a hike than what the street was expecting.

The government has been a little bold in pushing ahead with the price hikes, which will be probably taken a bit more positively by the global investor fraternity. On the flip side, it stokes inflationary fears and fires a little bit more than one was expecting.

Stock-specific impact:

Earlier there was an apprehension that ONGC's share of the overall subsidy burden could be as high as Rs 65,000-70,000 crore. A finite number has been put to that. For the entire upstream sector, it's Rs 45,000 crore.

ONGC accounts for 85% of that burden. So, ONGC 's share of the subsidy burden on current reckoning this year should be anywhere between Rs 38,000-40,000 crore. Rs 38,000 crore, just under USD 9-10 billion, is ONGC's total subsidy bill.

I would not be surprised if the market actually behaved or treated ONGC positively right now because they can quantify what the total subsidy loss sharing would be. That is southwards or marginally southward of USD 10 billion (Rs 38,000-39,000 crore roughly). So, among all the oil stocks, ONGC should actually come out the best after the announcement that we have just heard though the burden is very large.

On the other upstream companies, there was an apprehension that Reliance , Essar Oil and Cairn might be made to bear some subsidy sharing of the losses of the oil marketing companies. There is no word to that extent, which means that is not happening.

In fact Murli Deora said that Reliance is making money for the country; why should we burden them with some of the losses of the oil marketing companies? It is a sigh of relief for some of the companies like Essar, Reliance and Cairn because they do not have to pay any burden, at least on current reckoning of the oil marketing companies.

ONGC is marginally positive; neutral to positive for Essar, Reliance and Cairn purely on the back of this. Coming to the oil marketing companies, they are still fairly badly off.

HPCL and BPCL have rallied 8% since the news first came in. IOC has rallied 13% since the news of the first price hike got discussed in the middle of May. They have rallied about 8% and can rally 4-5%.

The total underrecoveries this year were something close to Rs 2.5 lakh crore. If crude cools down a bit as expected, the total money they would be getting now is Rs 22,000 crore from the duty reductions and Rs 21,000 crore from the fuel price hikes.

The rough ballpark is Rs 40,000 crore out of an underrecovery basket of Rs 2,40,000 crore. At best, if one is looking at it charitably, 20% of the under recoveries of the oil marketing companies have been taken care of by the duty cuts and the price hikes.

Is it reason to celebrate, to say that IOC was losing Rs 100 every day and now they are getting Rs 20 back by virtue of duty cuts and price hikes and therefore one should start celebrating? What about the Rs 80 that they are still underrecovering or losing which is not accounted for?

Rs 1.35 lakh crore is total amount, which is still left under recovered or unaccounted for, and suitable provisions will be made every quarter from the oil bonds route. Oil bonds are rubbish and do not help the oil marketing companies.

The large proportion of underrecoveries still remains unsolved and that is Rs 1.35 lakh crore. I would not be very gung-ho barring that small pullback rally that is left aside for the oil marketing companies. You don't want to get too bullish about that.

But, ONGC is a ray of hope. Other upstream companies certainly have been spared the axe.

The gap is 20%. They got Rs 26,000 crore from upstream last year as well and there was an expectation that they would get Rs 60,000 crore from upstream this year on account of the Rs 2.4 lakh crore of under recoveries which is now being trimmed down to Rs 45,000 crore from upstream. Going by the formula that was being talked about earlier, stock prices would have factored in 33% burden on upstream straightaway, which meant that the oil prices or the oil marketing companies would recover more from the upstream companies.

A finite line has been drawn at Rs 45,000 crore, which is lower than the percentage formula. I don't think there is any positive out there but there is actually a negative.

ONGC is expectedly moving up. Cairn has actually been cooling off from being one of the best performers in the market. When the markets were cooling down, Cairn had runaway to Rs 325-330 and then started cooling from those levels.

ONGC has come from Rs 1,050 to Rs 850-880 levels. It is a beaten down stock because of policy concerns. Therefore, that is rebounding from oversold grounds.

The market has taken relief from the fact that ONGC's losses or sharing has been defined for this year.

The stocks that got punished last week because of upstream sharing fears were Essar Oil and Reliance. It would be instructive to see how those two stocks are moving, rather than Cairn which is probably more of a crude proxy at this point in time.

These are small positives for the oil marketing companies. Anything is better than nothing. These oil companies were written off completely as they deserve to be in the current policy framework. From a Rs 100 loss situation, they have come back to Rs 75-70 loss situation.

It is a marginal relief and we have seen a 10% rally in most of these oil marketing companies and may be their liquidity will improve a bit with the further issue of oil bonds. But this is a temporary relief that you are playing out in these stocks. These oil-marketing companies will only see substantial rallies, if crude cools down, which is the biggest bugbear at this point in time.

Right now, there is only a relief rally. The macro situation remains quite unresolved.

With the duty reductions, the government has merely moved from below the line - Rs 22,000 crore to above the line in its fiscal deficit situation.

Every savvy participant and analyst in the market looks at the oil marketing losses and the government's fiscal situation clubbed together. Whether you take it above the line or below the line is of no consequence to a market analyst. People understand that equation very well.

From a fiscal deficit point of view, the announced numbers may have worsened a little bit, but the picture is pretty much clear. There has been no help at all. From an inflation perspective, we will probably inch up 60-bps. From a macro perspective, this has not gone down terribly well.

What you might have seen initially and might continue to see more of is a market which was terribly short. Therefore, some short covering has happened because the level of price increase is more than anticipated.

Where are markets headed from here?

Markets will now move on. From tomorrow morning, I don't think this oil price hike will be the central issue for the market. When we get to a few Friday's later, we will keep talking about inflation and what impact this has had on inflation or WPI number. To that extent, it will become material for the market.

All adjustments, which need to be made in terms of specific stocks or the market per se, any adjustment of trader positions before and after the event would have been done by the end of the day.

Tomorrow morning this will become a little bit of a non-event. But for that and for the near term, one will see some adjustments, particularly in short covering, which has taken the Nifty to above 4,700, on the back of a big constituent ONGC which has moved up quite sharply.