India’s benchmark indices are now down a shade less than 15% from their peaks in October 2021 when the Nifty was at 18,477 and the Sensex at 61,765. It is a fairly steep correction and has resulted partly from the big sell-off in the US markets where the S&P 500 has lost 20% since early January and the Nasdaq has given up 30% from its recent peak in mid-November 2021. Until Monday, when the benchmarks gave up 2.5% to hit an 11-month low, the Indian market appeared a lot more resilient. Despite some relentless selling by foreign portfolio investors (FPI), the markets held up reasonably well thanks to the confidence reposed in it by local investors. Since October 2021, FPIs have sold close to $29 billion worth of stocks in what is the longest selling streak in recent memory. However, local investors more than made up for the outflows, running up a tab of $35 billion.
The net equity inflows into mutual funds have been positive for 15 straight months and total inflows in the trailing 12-months to May were a substantial Rs 2.64 trillion. Investor sentiment was driven by a revival in corporate earnings post-pandemic and expectations that the economy is on the mend. Their expectations have, by and large, been met. India Inc had a good FY22 with profits before tax rising 58% on the back of a revenue growth of 29%. However, the markets had run up way ahead of the fundamentals and that valuations had turned frothy. At one point, India was hugely overvalued with the Nifty trading at a price-earnings multiple of nearly 23x. These valuations were hardly justified given that the economy, while getting back its momentum, was barely at 2019-20 levels. In fact, even the sharp spike in crude oil prices and the rally in other commodities—huge negatives for India—were shrugged off.
Undoubtedly, the India story is a sound one over a longer period. Capacity utilisation has improved, the real estate market should do well, and there is evidence of the capex cycle turning. However, in the near term, the macroeconomic environment is turning increasingly unfriendly with high inflation and rising interest rates threatening to hurt household budgets. Companies in the consumer space have no doubt been able to pass on the cost of additional inputs, but at the cost of volumes. Inflation could hurt big -ticket purchases like homes where asset prices are up 10-15%. There is also concern that India’s exports, a big driver of growth in FY22, might not fare so well this year as global growth and trade slow down. While the downgrade in earnings post the Q4FY22 results season was a very small one, it is possible estimates could be trimmed in the coming months. Although the Nifty’s multiples have now descended to saner levels of 17.4x after Monday’s rout, any earnings downgrades would make the markets more costly. Also, even at these levels, India is relatively more expensive than peer economies like Taiwan, Indonesia, and South Korea. As of now, net profits for the Nifty 50 are expected to grow by 14% in FY23 and 13% in FY24, but these numbers could be trimmed. The broader markets too have sold off sharply and investors have been badly burnt after the crash in new -age tech stocks. There is no need to panic, but small investors should not be swayed by promises of lofty returns. In these uncertain times, it is better to play safe.