Equities looking at only rosy view
The June quarter earnings season is out of the way for equity investors. Performance of India Inc. was largely in line with expectations. Demand trends were mixed. With easing input costs, companies in most sectors saw better profitability. Overall, there were no significant positive surprises.
In any case, Indian equities are in a complacent mood. The fear gauge—NSE’s Volatility Index (VIX)—has fallen by 18% so far in 2023. Similarly, in the US, the Chicago Board Options Exchange (CBOE) VIX has moderated. During this time, the benchmark index Nifty50 has risen nearly 7%. Mid-caps and small-caps continue to beat large-caps. Liquidity influx by foreign institutional investors remains a factor driving Indian equities.
Still, there are near-term downside risks which should not be ignored. A deficit monsoon leading to an elevated and sticky food inflation could have repercussions on the Reserve Bank of India’s (RBI) monetary policy decisions. True, seasonality has a role to play in the food inflation spike. Even so, this could also mean that RBI may opt to be on pause for an extended period. The surge in food prices pushed the July headline consumer price index inflation beyond the upper limit of the RBI’s 2-6% tolerance range. “The onset of a severe El Niño and second-round effects from higher food prices are key risks to our view that the RBI will begin loosening policy in early 2024,” said a Capital Economics report on 17 August.
Globally, the latest US economic data has fuelled worries that the US Federal Reserve may raise interest rates yet again to tame inflation. The sharp rise in the US 10-year bond yields suggests that investors are fretting over the potential deferment in interest rate cut expectations by the US Fed. Plus, there are issues emanating from China’s real estate sector coupled with the economy experiencing deflation.
A worry is that in a flight to safety, foreign investors may shun emerging market equities, leading to outflows. “We feel bouts of correction that we are seeing in global and Indian equities is a remin-der that risks still linger. A rebound in safe-haven US dollar could also be an indication of investors moving out of EM risk assets,” said Saurabh Jain, head, wealth management at Standard Chartered Bank.
In this backdrop, Indian equities are pricey. The MSCI India index trades at a one-year forward price-to-earnings multiple of 18 times, a premium to Asian peers, showed Bloomberg data. To be sure, India’s long-term growth triggers are intact. According to Sukumar Rajah, director of portfolio management at Franklin Templeton Emerging Markets Equity, Indian equity market is better placed than regional peers given its structural tailwinds, which include attractive demographics, market-oriented economy, and a rising middle class.
Still, India’s valuation leaves no room for errors. “The current valuations of the Indian market largely price in most short-term and medium-term positives but do not factor in any short-term risks (unknown) and medium-term challenges of lower profitability and likely lower multiples across major consumption sectors and stocks,” said a Kotak Institutional Equities report last week.
Going ahead, a key event for investors would be the general elections in 2024. “We feel that the Indian stock market is factoring in a perfect election outcome; basically, is considering a political stable environment for next year as well. Any change in this stability may have an impact on the market sentiment,” said Jain. To conclude, while the market chooses to focus largely on the positives, any negative surprise local or global could catch investors off-guard, leading to a correction.
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Updated: 20 Aug 2023, 07:34 PM IST
