For long the foreign portfolio investors have been negative on Indian markets. While outflows continue, B Gopkumar, MD & CEO of Axis Securities, believes that the worst of the FIIs outflow is over and the selling trend is likely to slow down. In an interview with Malini Bhupta, he explains how two pivotal events in June will impact markets. Edited excerpts:
How will markets be impacted over the medium term with brakes being put on foreign capital flows?
Two pivotal events due in June are over now, giving some clarity to the markets amidst the rising uncertainty.
First, the increase in the repo rate by 50 bps announced by the RBI following the 40 bps hike post an unscheduled midterm meeting. These rate hikes were prudent measures to combat the inflationary pressure driven by the prevailing macroeconomic developments and the rising oil and commodity prices. The RBI governor also highlighted that the Indian economy showed remarkable resilience over the last couple of months, with an uptick visible in most high-frequency indicators. Given this context, the RBI retained the FY23 GDP forecast at 7.2%, uplifting the inflation forecast from 5.7% earlier to 6.7%. The market has accommodated this step positively as this move provided more clarity on the inflationary front.
Secondly, the US FED hiked the interest rates by 75 bps, much in line with the expectations, and signalled for another 175 bps in the next six months, which is front-loaded and is essential to combat the ongoing inflationary scenario. They also noted that there could be some moderation in demand on the back of policy rate hikes.
As on the expected line, all central banks are now focusing on controlling the inflationary scenario by front-loading the rising rates in the next six months. It remains to be seen how the sustainable demand scenario pans out in the near term, but we could see inflation touch higher levels in the next couple of months and start to see the moderation path in the next one or two quarters.
We believe that the worst of the foreign institutional investor (FII) outflow is behind us and the selling trend is likely to slow down in the upcoming months as slowing growth could ease the pace of monetary policy tightening. We believe that, once the volatility settles down in H2CY22, the overall fiscal deficit and the growing phenomenon will play out, and FIIs will regain confidence in emerging markets. This reversal will be especially true for India as robust earnings growth and economic recovery will play out for the remaining months of 2022.
With FPI ownership falling to decadal lows and retail ownership increasing, how does this impact the markets?
Retail investors are more mature now, and that’s why we are not seeing any panic reaction in the market, given the volatile scenario in the last eight months. With continued SIP flows, DIIs are now supporting the market by counterbalancing every FII selling witnessed in the previous eight months. Retail investors still believe in the long-term India growth story, and we are confident that once this dust on the macroeconomics scenario settles, we will see our market regain its strength.
How will Indian equity markets be impacted if the US goes into recession?
The recession probability in developed markets has increased by 10-15% in the last couple of months. The outcome of steps by the central bank to influence the interest rate trajectory to balance inflation and growth dynamics remains to be seen. Inflation is expected to start moderating in the next two quarters and go down from January 2023 onwards. No one wants inflation to stay elevated at a higher level in 2023, so it is an emerging situation and how oil and commodity prices settle is a crucial monitorable in the near term.
On a domestic front, on 8 June MPC, the RBI governor highlighted that the Indian economy showed remarkable resilience over the last couple of months. It also highlighted that the urban demand has improved. The rural demand, too, is improving and may see a good pick-up after the monsoon, which is forecasted to be regular this year. Given this context, the RBI retained the FY23 GDP forecast at 7.2%. We believe the Central Bank is committed to calibrating tightening by balancing the growth and inflation dynamics, so the risk is less in the Indian market compared to the global economy.
Are we done with FPI selling?
We believe that the majority of foreign portfolio investors’ selling is behind us. We see the sign of tapering in selling in the next couple of months. India holds the sweet spot in the emerging market basket as the Indian economy will be the fastest growing economy in the world. FPI will likely regain their confidence in the India growth story soon.
Are valuations of Indian markets attractive now or with the withdrawal of liquidity, the multiples will also contract?
We continue to hold a positive long-term outlook on the market, supported by a favourable structure emerging from increased Capex spending that is enabling banks to improve credit growth. Moreover, the overall expenditure boost in the Union Budget 2022-23 will help deliver a broad-based growth in FY23. Strong earnings trajectory continues in the Nifty-50 universe, FY21/22 Nifty EPS grew 15%/37% to 534/734, respectively.
However, in the near term, the market performance is likely to be range-bound, led by the weaker global cues as the Indian market held an 89% correlation with the US markets in the last year. So in the near term, the market will follow the direction of the US market. The current India VIX is trading around LTA levels, and the clear trend is likely to emerge only when the volatility stays at the lower levels for longer duration. We rolled over our Nifty target to March 2023 to 18,400 by valuing it at 20x on FY24 earnings vs. 22x earlier. We cut the Nifty multiple to accommodate the rising interest rate scenario, which started after a 40 bps rate hike in early May 2022 and 50bps on June 22. We believe, though aggressive policy tightening will help in curbing inflationary pressure, persistently elevated oil and commodity prices will continue to pose challenges to the market multiple in the next few quarters.
While the benchmarks have not done too badly, what about the broader markets if you look at a 2, 3 and five-year horizon?
We look at India’s growth prospects which continue to be very strong in the post-pandemic world. India is likely to be among the fastest-growing economies in the emerging market basket in the next 3-5 years. The Indian economy is in better shape, especially the Indian banking system. The trend has improved significantly in the banking sector on the asset quality front, leading to a visible improvement in profitability. Balance sheets for the corporates have also improved considerably, with the cumulative net profit of NSE 500 universe for the last four quarters reaching all-time high levels (crossed `9.5 trillion in Q4FY22).
Financials, Oil &Gas, Metals, and IT now contribute 70% to the NSE 500 profitability. Moreover, loss-making sectors have turned positive and contributed significantly to the net profitability over the period. RoE for the broader market, too, is improving after a muted performance for several years.
Overall, the Indian market has entered into an up-cycle of earnings with an expectation of 20% Nifty EPS CAGR growth over FY21-24, which was at a single-digit 7% level during FY09-21. We believe the market will likely follow the double-digit earnings growth in upcoming years.