Brexit impact on India: Stock markets may face more mayhem

Global turmoil apart, markets may see correction as valuations are full

BSE Sensex, NSE Nifty
Wipro shares slipped over 4 per cent in early trade on Monday after the company said it expects revenues in the ongoing quarter to be impacted by a "mixed demand environment".

Indian investors lost nearly Rs 2 lakh crore in wealth on Friday following Brexit or Britain’s decision to pull out of the European Union (EU). While both the Sensex and the rupee did recover some lost ground by the end of the day, it may not be the end of the turmoil.

Market watchers say if money flows out of emerging markets (EMs) to safe havens, which is a distinct possibility, India cannot buck the trend despite its relatively superior macroeconomic fundamentals.

Andrew Holland, CEO of Ambit Investment Advisors, told FE that all EMs would be equally hit and India won’t be spared. “In the coming weeks, India could see outflows.”

Foreign portfolio investors (FPI) invested a net $3.2 billion in Indian equities in 2015 and the tally so far in 2016 is net $2.7 billion. Economists and strategists at Nomura Global Research cautioned that the impact of the contagion in Asia should not be taken lightly. “Once the financial, confidence and psychology channels are taken into account, our warning is to not underestimate the depth and reach of financial market contagion to Asia,” they wrote.

The fallout of the global turbulence apart, Indian stocks are expensive and could lose value. “The Indian market may see further moderate correction as valuations are still full,” Kotak Institutional Equities wrote in a report.

The Sensex currently trades at 17.4 times estimated FY17 earnings, above the long-term average of 15 times. The Nifty trades at a price-to-earnings multiple of 17.6 times one-year estimated forward earnings.

Strategists at HSBC Global Research believe that in addition to the immediate impact on Asian markets, Brexit could take a toll on equities over an extended period. “This will have an immediate impact on Asian markets, but longer-term contagion effects cannot be ruled out, especially if the level of volatility is higher than anticipated. Furthermore, it is unclear how or whether central banks and other policymakers will react to these risks,” they observed.

Indeed, prospects of depreciation in the rupee could prompt foreign investors to sell both stocks and bonds. While a strengthening dollar would in any case weaken the rupee, $26 billion of FNCR (B) deposits, due for redemption starting mid-September and some other forex repayments due from banks and companies could put pressure on the currency. This is despite the fact that the country’s forex reserves are at an all-time high of $363.83 billion and the Reserve Bank of India (RBI) may intervene in the currency markets to lessen volatility.

On Friday, the rupee closed at 67.9688, down 72 paise over Thursday’s close. FPIs have been net sellers of rupee-bonds to the tune of $1.84 billion so far in 2016.

Once the rupee settles down and global financial markets become calmer, India could get a disproportionate share of portfolio flows as central bankers globally are expected to remain accommodative.

“India will gain from steady prices of commodities, especially crude oil,” observed an economist, unless the currency depreciates very sharply, offsetting the gains. The lower prices of commodities will help companies rein in costs and boost earnings. In the meantime, the markets could, however, become more expensive with earnings downgrades being expected for sectors such as automobiles and IT. “We expect earnings cuts in automobiles, IT and metals sectors due to ‘Brexit’ and related weaker global economic growth,” he said.

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