The Indian equity market surged close to 8 percent, while the rupee appreciated by 2.3 percent during the month of March. Given the gloomy sentiment in the market at the end of February, it has been a pleasant surprise for investors. However, all that the Indian markets have done is play catch up with the rest of the world and its emerging market peers.
Playing catch up….
Even after the strong March rally, Indian equity markets are lagging behind their peers for the first three months of calendar year 2019. During the period, the MSCI Emerging Market Index is up by 9.6 percent whereas, even after the rally in March, the MSCI India Index is up by 6.6 percent and CNX Nifty has appreciated by 7.6 percent in US dollar terms.
And mind you, the rally has largely been driven by strong foreign inflows of US $8.5 billion in equity and US$2 billion in debt during the period Feb 25 to April 3. Globally, the sentiments improved and equities rallied due to the dovish stance taken by the US Federal Reserve, with the probability of rate hikes in US going down significantly. Also, there has been some progress on easing trade tensions between the US and China.
But economy hits a bump………….
Though equities have rallied on hopes of better chances of the incumbent coming back to power and positive global cues, the domestic economic data indicates a moderation in growth momentum. Discretionary consumption demand seems to slowing down as the impact of seventh pay commission driven salary hikes (including payment of arrears) wane. Auto sales are weak, air traffic growth has been moderating for the past five months, and the commentary from companies is turning cautious. The prediction of lower-than-normal monsoons could add to the slowdown blues.
On the other hand, growth in consumption of petrol/diesel is quite healthy, interest rates are going down and the services PMI reading is at multi-month highs. Thus the economic picture is sending mixed signals at the moment.
………….. yet earnings growth is at an inflexion point
Notwithstanding the recent moderation in high frequency economic data-points, the outlook for corporate earnings is quite healthy for the next two years. The peaking out of asset quality issues in the banking sector is expected to result in normalization of earnings of corporate sector banks. Thus, the swings in aggregate profits of banks from a very low base created due to huge requirement of provisions for bad loans would be significant and push up the aggregate earnings of Sensex/Nifty companies over the next couple of years.
This trend would be visible in the March quarterly results. Consensus estimates point towards aggregate profits of over Rs 20,000 crore for seven bank stocks in the Nifty/Sensex in Q4 FY2019 as compared to aggregate loss reported in Q4 of FY2018. This Rs 20,000 crore incremental profits of banks amounts to close to 33 percent growth on the base of around Rs 60,000 crore of aggregate net profits of Sensex 30 companies in Q4 of FY2018.
The steady pick up in non food credit, lower competitive intensity from non banking finance companies (NBFC) and easing of interest rates by Reserve Bank of India (RBI) are also supportive factors for the improvement in bank earnings. At its recent meeting, the RBI’s monetary policy committee has left the door open for further rate cuts, given the lower forecasts for retail inflation and industrial activity.
In addition to banks, earnings growth would also get a kicker from the energy sector (oil & gas companies) and heavy weights such as Reliance Industries and Larsen & Toubro. On the other hand, the performance of autos, telecom, metals and pharma is expected to remain weak in the near term. But some of these sectors could bottom out soon and show growth in the later part of FY2020 and the full year FY2021.
Don’t miss the big picture
To be sure, the events of the next couple of months are quite critical from the political, policy and tactical point of view. However, the outlook remains constructive for the year given the strong revival in earnings, reasonable valuations in certain pockets and favourable set up for equities globally. Don’t miss the big picture and don’t let near term issues cloud your investment decision.(Gaurav Dua is head of research, Sharekhan. Views are personal.)