We are going through a cycle of heightened global news flow, events and uncertainty. Financial conditions have tightened following aggressive monetary policy action across the world to combat surge in inflation. This has caused higher volatility in financial markets and USD has strengthened to a two-decade high. Central banks and governments are grappling with the rapidly changing economic outlook and this was reflected in United Kingdom where currency plunged upon government move to cut taxes and within days they were forced to rethink on their strategy. At the same time, we believe that Central banks all over the world, will have to loosen their tough and aggressive rate hike plans to ease this upheaval in financial markets.
The Indian economy and to some extent, financial markets have come out relatively unscathed so far. The INR has been amongst the best performing currencies vs the USD. Domestic demand remains stable with accelerated credit growth at 16.2% YoY. Seasonally adjusted manufacturing capacity utilization reached the highest level in three years, standing at 74.3% in Q2FY23. Outlook for Rabi season also augurs well with reservoir levels at 87% of full capacity vs a 10-year average of 77%. The central bank data trends suggest stronger domestic demand from robust credit growth, capacity utilization, winter harvest prospects and capital goods demand. However, downward risks to exports are possible, due to headwinds from geopolitical tensions, tightening global financial conditions and slowing external demand restrict GDP outlook.
From a global investor perspective, Indian equities are coming back in focus, given the resilient economy and currency. A view of moving away from EM funds and China funds into India specific funds is also slowly gaining pace. This flow should act as an added strength for Indian equities. However, we have to be conscious of the global events and news flow and avoid chasing momentum. In the near term, as we enter the earnings season, we expect stock specific volatility as many companies/sectors will witness margin compression owing to high input prices. At the same time, if festive demand is good then markets may like to ignore near-term noise and just focus on the positives. We would prefer to be in the latter camp.
The strength in markets continued in August with markets reporting a second consecutive month of positive returns. Volatility was high as global markets corrected sharply towards the end of the month, led by renewed fears of sharp interest rate hikes and resultant spike in US 10-year Gsec yields. Dollar Index also hit a new high, triggering another bout of risk-off globally. Amidst all this, Indian equities outperformed major global markets. NIFTY50 ended up 3.5% for the month, while S&P BSE Mid-cap and S&P BSE Small-cap 250 indices outperformed large-cap indices. Except IT sector, all the other sectorial indices closed in green with S&P BSE Power, Capital Goods and Consumer Durables indices gained sharply around 15%, 8% and 8% respectively.
Indian equities have shown remarkable resilience over the last couple of months. This is particularly noteworthy given the continued volatility in global markets. On the economy front, India has stood out with outlook for GDP growth continuing to be over 7% for FY23 in a world where economies are struggling to avert recession. The added opportunities for Indian manufacturing on the back of China+1 move as also increasing competitiveness of Indian companies because of high power costs elsewhere in the world, is adding to the optimism. Domestic demand outlook is very strong led by increasing spending in the ensuing festival and wedding season – the first normal one in three years post Covid related shutdowns. Both rural India – led by record agricultural produce and high agri product prices, and urban India – led by income level increases particularly in the IT services and financial sector; is seeing increased activity and that gives confidence of a strong economic outlook. From a global investor perspective, Indian equities are coming back in focus, given the resilient economy and currency.
Although Indian markets looked relatively better, this very sharp outperformance in the global context has surprised lot of market participants. While we continue to believe that Indian equities will do much better than most global markets, in the absolute near-term select euphoria is being witnessed in the markets. The recent moves have been more allocation related and also momentum based. News flows globally will continue to lead to high volatility and patience and careful discretion should be the strategy going forward.
The month of July witnessed a very welcome and sharp rally in equities globally. After the sharp fall in the months of May and June, this up move did come as a boost to the confidence of investors. A sharp correction in commodities triggered views that worst of inflation is behind us. The ensuing fall in interest rate yields aiding the sentiments and a decent earnings quarter added to the optimism. Indian equity markets too participated in this global move and rallied sharply with NIFTY50 being up 8.7%, with S&P BSE Midcap and S&P BSE SmallCap 250 keeping pace. There was also a visible change in FII behaviour towards Indian equities. After a record selling of ~USD 50 bn in the past 8-9 months, July saw a turnaround wherein FII’s bought ~USD 0.6 bn. While the absolute figure is modest, it was the change in liquidity pattern which acted as a key catalyst.
Domestic earnings season has been broadly decent so far with indications of healthy demand environment. Despite there being pockets of margin pressure, there has still been decent profit growth driven by price-action and operating leverage. Q1FY23 earnings season early trend for 91 companies out of NSE 200 shows sales growth at 41% YoY, albeit on a lower base. Margins though have come in at three-year lows, a function of sharp increase in input costs. Profit growth of 13% YoY has been strong, led by sharp increase in profits from the financial sector.
Despite the spill over of the global geo-political tensions and financial market volatility, Indian economy has stayed on the path of improvement and economic revival. The movement of various high frequency indicators reiterates the momentum in the domestic economy. Economic cycle now has more legs (manufacturing revival, capex, global exports) vs consumption led earlier cycle. Macroeconomic factors like fiscal deficit, forex reserves, liquidity etc are strong. India’s macros are well placed within the emerging markets landscape and cannot be missed on global investment landscape. Normal monsoons bode well for the rural economy and an ensuing normal festive season (last two years impacted due to covid restrictions) should aid robust consumer demand over the next few months.