Indian stocks on a high, but weak macros a risk
Premium- Indian stocks have fared better than their emerging market counterparts in recent months
The mood among global stock market investors is sombre as fears of a recession lurk. However, India is shining brighter than emerging market (EM) counterparts. The MSCI India Index has risen 1.63% so far in CY22, while the MSCI Asia Ex-Japan Index and MSCI Emerging Markets Index have given negative returns of 21.5% each. India’s gains are not mouth-watering, but offer solace to investors against the current backdrop.
After a long selling streak, foreign institutional investors (FIIs) turned net buyers in Indian stocks in July and August. Easing global commodity prices have allayed concerns of spiralling inflation to some extent, helping Indian equities to recoup recent losses.
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That’s not all. Kotak Institutional Equities points out that the strong outperformance of the Indian market over the past few months and in the past fortnight probably reflects investors’ belief that the Indian economy is in a stronger position than other economies. However, India may be better placed on the gross domestic product (GDP) growth front, but this may not be true for other macroeconomic parameters such as the balance of payments, fiscal position, and inflation said a Kotak report dated 6 September. “We are not sure if the Indian market is factoring in risks from short-term factors such as higher-for-longer inflation unlike other markets," said the report.
The problem is that, following the recent rise, India’s valuations have got a leg up. MSCI India Index is trading at a one-year forward price-to-earnings (PE) multiple of around 20 times, a premium to MSCI Asia Ex-Japan and MSCI Emerging Markets Index, showed Bloomberg data. On the price-to-book metric, at 3.4 times, Nifty’s 12-month trailing multiple is above its historical average of 2.9 times, shows data as on 30 August, analysed by Motilal Oswal Financial Services.
If the world economy slides into a recession, a turbulent ride awaits Indian stocks. The country’s already wide trade deficit could see an increased adverse impact of slacking exports and elevated imports. Further, dearer crude oil prices pose a threat not only to India’s macros, but could also dampen the operating performance of listed companies.
“The Indian economy is not without challenges, but has less problems than many of its Asian counterparts, especially China. We expect India’s outperformance versus other EMs to continue for six-eight months. The narrative that India’s GDP growth prospects are better than others is a crucial driving factor here," said Nitin Bhasin, co-head institutional equities and head of research at Ambit Capital.
India’s expensive valuations would come under pressure if global demand is hit. Further, increased government borrowing in the second half of FY23 is an internal risk to monitor because that would mean more fiscal deterioration.
Lastly, the trends in corporate earnings growth would also pave way for the Indian market’s future course. “The FY23 consensus earnings per share (EPS) estimate for Nifty50 has come down by 4-5% post the Q1FY23 results season. We were already conservative, so our FY23 EPS forecast is down by 1%," Nishit Master, portfolio manager at Axis Securities Ltd. If companies do not live up to earnings expectations, there would be a double whammy of sorts, lower PE multiple for the index along with lower EPS estimates, which can hit market returns, he said.
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Domestic institutional investors (DIIs), who were on a buying spree until recently, turned sellers in August. If the Indian equity markets fail to give impressive returns because of any of the aforementioned risks, DII selling may accentuate and this would also weigh on valuations, Bhasin warned.
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