Analysts say investors would wait for the Budget to have a clearer understanding of the policies to be pursued by the new dispensation. If the new government does take necessary steps to ensure fiscal discipline, there could be a prolonged period of strong economic as well as stock-market performance. They suggest that investors — especially retail — stay put in the near term as there could be a significant market appreciation over the next few years.
However, they also caution that given the volatility in the market, there could be bouts of ups and downs and investors should buy at every correction in the market. The Sensex is trading at 14.6x one-year forward earnings, up from 13.7x at the beginning of the year and 12.8x in September 2013, which was when the rally in capital goods and banking stocks began. In contrast, the average multiple in 2010 was 15.9x. The five-year average multiple is 14.8x and three-year average multiple 14.2x.
Equity strategists at brokerage firm Nomura say that with a new government in, there would be a marked improvement in the execution ability, which would make enable speedier decision-making. “We expect markets to be underpinned by an inherent positive bias and to give an initial benefit of doubt to the Modi-led government. This calls for a mild multiple expansion of the market on the back of a likely fiscally prudent government, which will bring down the cost of capital in the economy, on the one hand, and higher growth expectations, on the other,” it says. The brokerage has raised its December-end target for Sensex to 27,200 from 24,700 — a 10% rise from the current level.
Expectations of a market-friendly outcome have seen rallies in equity, rupee and rupee swaps, but the key question is whether these moves can extend.
“Equities still have the most scope for further upside, with the next leg higher driven by domestic capex-sensitive sectors,” says a note from Goldman Sachs. It also stresses that economic reforms and a better growth outcome will have to be delivered. “The market trajectory from here — even when it is higher— is likely to be a lot more halting, and require greater patience and holding periods,” it says, adding that across asset classes, equities still have the most scope for further upside, although, even there, a period of consolidation is probably on the cards, before any cyclical upswings propels the market higher.
Geoff Lewis, executive director, Global Market Strategist, JPMorgan Funds, says historically, India’s elections and change of government have only had a limited impact on the stock market. “But if the NDA-coalition and (Narendra) Modi hold onto their key policy objectives as set out in the BJP manifesto, then the markets should start anticipating a cyclical improvement in the economy beginning early in 2015 that, in turn, will feed through the company profits, margins and earnings, holding out the prospect of significant upgrades to 2015 Sensex earnings. And beyond a near-term cyclical rebound, we also envisage a brighter medium-term outlook for the Indian economy that could start to become visible by 2016,” says Geoff Lewis in a recent note.
Given Prime Minister’s Modi superior managerial, coordination and execution abilities as displayed by him in Gujarat, where he was the chief minister since 2001, companies in the power/coal space, downstream oil marketing companies and selective asset owners in the infrastructure space will benefit. “The valuations of these sectors are still comparatively supportive and that opportunity for growth is very large and realisable in a positive policy environment,” says a note from Nomura.
Analysts expect infrastructure projects to be announced, including several mega projects. The BJP’s support for the business sector could also see a number of market-oriented micro measures. Good news for investment activity from the government should put an end to policy uncertainty. This, in turn, will lead to rising business confidence and more private sector capex initiatives.
Analysts say once a bull market rally begins, defensives, which have had a price-earnings ratio (PER) expansion earlier due to underperformance of the cyclicals, would see an immediate contraction in PER. Sectors like IT, pharma and fast-moving consumer goods that have benefited earlier may underperform. And sectors, which have been bearing the brunt of the slowdown like capital goods, banking and cement, will see significant re-rating in the near term, both in valuations as well as earnings.
Sector-wise, Nomura reiterates preference for rate cyclicals, which would benefit from higher growth expectations. Others are betting on banking stocks as any pick-up in the economy and earnings upgrade will help reduce the non-performing assets of banks.
In the near term, there would be strong inflow of dollars, which would result in strengthening of the rupee. This will not bode too well for IT and pharma companies focussed on exports. However, IT stocks still offer a good hedge against the risk that the government’s actions to resolve domestic growth issues fall short of market expectations. Normalising growth conditions in the US and Europe will boost demand for IT services as outsourcing budget of companies is getting traction in both the markets.