Avoid ‘narrative’ stocks, focus on fundamentals, says Kotak Institutional post Lok Sabha election results

After a fractured mandate in the 2024 Lok Sabha elections, brokerage house Kotak Institutional Equities believes that it may finally compel investors (institutional and non-institutional) to focus more on fundamentals and less on narratives. Going ahead, the brokerage expects a further reset in expectations and valuations in the ‘narrative’ parts of the market which include capital goods, electric utilities and PSUs.

"We would watch for any change in the stance of retail investors, who have been the major force behind the market in terms of flows. We prefer sectors with high visibility of compounding in earnings/book available at ‘reasonable’ valuations and avoid ‘narrative’ stocks. We would note that valuations are still on the higher side for most sectors," said the brokerage.

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The BJP-led NDA secured a narrow victory in the 2024 national elections, gaining 292 out of 543 seats in the Lok Sabha. Despite concerns over political stability, the markets find solace in the likelihood of the BJP/NDA government continuing its economic agenda, leading to a positive sentiment.

Following a nearly 6 percent decline in the Indian benchmark indices on June 4 due to lower-than-expected seat acquisition by the Modi-led NDA, markets rebounded by almost 2 percent in today's session fueled by value buying and confidence in the continuity of the Modi regime.

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In the near term, the brokerage expects a reset in the market’s hitherto cavalier investment stance toward ‘narrative’ stocks.

"We have struggled with the implied growth and profitability assumptions embedded in the market cap. of several ‘narrative’ stocks (capital goods, electric utilities and PSUs). We find the risk-reward unfavorable for these companies, notwithstanding the sharp decline in stock prices on election day. Most of these ‘narrative’ stocks have risen sharply over the past 12-15 months. They (1) offer a large downside to their fundamental fair values and (2) trade at rich-to-bubble valuations. Our reverse-valuation exercises show unrealistic volume and profitability assumptions in most cases," it explained.

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Commenting on the election results, the brokerage said that the NDA’s performance has been significantly weaker than estimates of the exit polls and that of 2019. The weaker-than-expected show of the BJP versus 2019 and versus exit polls reflects weaker-than-expected performance in its strongholds of North and West India, even as it made gains in East and South India and in a few concurrent state elections, it noted. However, despite the weak results, it pointed out that the government’s economic agenda is not likely to change much.

The brokerage expects the ‘new’ government to continue with its investment-led economic agenda, but it may tweak its priorities to support consumption and employment. 

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"We will get a better sense of the same over the next few weeks and in the FY2025 final budget. The government may continue with its focus on (1) affordable healthcare and housing, (2) energy transition, (3) infrastructure development and (4) manufacturing. The government has already executed the bulk of the required reforms for incentivizing private investments and execution will be more material," it stated.

Disclaimer: The views and recommendations made above are those of individual analysts or broking companies, and not of Mint. We advise investors to check with certified experts before taking any investment decisions.