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Business News/ Market / Mark-to-market/  Mounting risks for Indian equities
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Mounting risks for Indian equities

While the market may still be drawing comfort from strong domestic fund inflows, fundamentals are weak and investors need to tread with caution

A look at the macroeconomic indicators that could impact the Indian stock markets in the near term.Premium
A look at the macroeconomic indicators that could impact the Indian stock markets in the near term.

That India’s macro fundamentals are coming under strain is no secret. With crude oil prices hitting $80/barrel, it could scarcely be otherwise. The depreciating rupee is adding fuel to the fire.

Clearly, the current account deficit is at risk. Inflation, too, has begun to rear its ugly head. Interest rates are headed up. Political risk should not be underestimated.

What effect has all this had on the stock market?

In dollar terms, the MSCI India index is down 8.6% year to date, much more than the 1.8% fall in the MSCI Emerging Markets index.

The premium valuation the Indian market enjoys over its peers has started to fall, as seen in chart 1.

This premium is now the lowest since the beginning of April, as the chart shows. With the market still expensive, a further fall in the premium is possible.

Globally, too, a strengthening dollar, tightening liquidity and rising protectionism could prove ominous for emerging market equities and certainly should not be overlooked (see chart 2).

Surely, the bright spot is in earnings growth? So far, March quarter results have been in line with analysts’ estimates with a few exceptions. The demand outlook continues to be robust.

“For example, companies (such as HUL, Asian Paints) are suggesting consumer sentiment pick-up. Management commentary from some companies during Q4 indicates demand improvement, including in rural areas," UBS Securities India Pvt. Ltd said in a note dated 15 May. “Rural-exposed stocks will continue to do well in our view. At the overall market level, we continue to expect cuts to consensus Nifty earnings estimates, and our end-2018 Nifty base/upside/downside scenarios of 10,500/11,900/8,800 imply unattractive risk-reward."

Chart 3 shows that the one-year earnings per share estimate for the Nifty has fallen from where it was when the March quarter earnings season began.

If global crude prices continue to head north, companies using crude-based raw materials would be exposed to margin erosion, which may translate into further cuts in Nifty EPS estimates.

“Investors remain less enthusiastic about India despite its impressive headline GDP (gross domestic product) growth and forecasts of a normal monsoon season," said fund tracker EPFR Global Inc.

As a report from Matthews Asia says: “Earnings growth expectations for this year (currently at 24%), also appear high, particularly in light of higher provisioning costs for banks in line with new RBI standards. Overall, the broad market may face headwinds as expectations are reset to more realistic levels over the course of the year."

So, while the market may still be drawing comfort from strong domestic fund inflows, fundamentals are weak and investors need to tread with caution.

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Published: 21 May 2018, 09:12 AM IST
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