Risk-on mood recedes as credit fears surface

In fact, according to the BofA March Global Fund Manager Survey, a systemic credit risk is now the top tail risk for the markets. With this, elevated inflation has slipped to the second position as a key risk. Recession worries linger. Investor sentiment is close to levels of pessimism seen at lows of past 20 years, said the survey report. Consequently, net 41% of the respondents are currently taking lower-than-normal risk levels, compared to 32% in February.

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A poor risk appetite is understandable as the crisis may have spillover effects. Interestingly, the ongoing banking woes are considered different from the global financial crisis because it’s not a solvency or bad debt issue. “Today, the crisis is more a function of high rates rather than bad debt. In fact, core banking and private sector balance sheets in the western world are strong, thus limiting the scope of crisis," said a Nuvama Research report dated 21 March. Even so, there are other factors that can spoil the party as the macro backdrop is subdued. “The growth backdrop is much adverse. Global PMI (Purchasing Managers’ Index), housing markets, money supply are far worse today versus previous fallouts. Also, US fiscal firepower and China’s monetary muscle are weaker this time—could result in a larger economic fallout if left unchecked," the report said.

Against this backdrop, the US Federal Reserve’s interest rate decision and commentary on how it plans to manage the stress in the banking system is crucial. The Fed was already in a tight spot and the banking crisis has made it tougher. Note that at the time of writing this article, the two-day Fed meeting scheduled on 21-22 March was underway.

“Whatever the outcome of the Fed meeting, risk appetite among equity investors is unlikely to improve in a hurry," said Deepak Jasani, head of retail research at HDFC Securities Ltd. “There are still apprehensions about second order impact on global economy of the Fed’s long tightening cycle," he added.

For investors in Indian stocks, potential earnings downgrades are a risk. “Global M1 is one of the best lead indicators for Nifty earnings (given the strong global interlinkages). It suggests a sharp moderation in Nifty earnings. This could disappoint (FY24) consensus forecasts of 18-20% earnings growth," said the Nuvama report.

Subdued stock market returns mirror these concerns. So far in March, the Nifty 50 and BSE Sensex are down by 1.71% and 2%, respectively. Valuations have cooled off with Indian markets trading at relatively lower one-year forward valuation multiples. But that’s not too comforting. The MSCI India index’s price-to-earnings multiple of 16.6 times is at a premium to MSCI Asia Ex-Japan and MSCI Emerging Markets indices, showed Bloomberg data. Global turmoil aside, domestic levers such as robust urban consumption and systemic liquidity surplus are waning. Plus, rural recovery is yet to gather pace and faces downside risks from the possibility of El Niño occurrence this year.

“We are not going in a massive risk-on mood, at least for the next six months," said Nitin Bhasin, co-head institutional equities and head of research at Ambit Capital. He added that, on the macro front there are challenges, income levels are not rising, job creation is menial and overall consumption outlook is bleak. “Also, this is a pre-election year, the government has to manage the fiscal and political needs," he cautioned.

All said, the ride ahead for equity investors is anything but easy.