2022 was a difficult year globally – the main negative factors included high inflation, higher interest rates, the strength of the US Dollar, the Ukraine war, and the European energy crisis. In the USA, S&P 500 was down 17% and NASDAQ -31%. In Europe, Stoxx 600 was down 10%. Korean Kospi was down 21%, Japanese Nikkei -7%, and Chinese Shanghai Composite -15%.
India outperformed significantly with positive stock returns though the absolute return for Nifty 50 and Sensex was only 3%. India also faced the challenges of higher inflation and higher interest rates but it continued to grow at the rate of almost 6.8% and remained the fastest-growing major economy globally.
Sectors performance in 2022 in India varied significantly. PSU, Banking, and Infrastructure were the top performers with 26%, 20%, and 15% returns respectively. Consumption also generated close to 10%. Technology which was the top performer in 2021 went down 17% while international schemes went down by 13%.
Going forward, challenges remain globally. The risks that the stock markets faced in 2022 are still not over. Monetary tightening, the Ukraine war, and the European energy crisis are still present. Top strategists at Morgan Stanley and Goldman Sachs are warning that the stocks can face fresh declines in the first half as corporate earnings fall because of weaker economic growth and still persistent inflation.
Central banks continue to remain hawkish. Even the better news on inflation has come with a big caveat because it has not swayed the central banks from their focus on getting it under control. Hawkish tone from both Fed and ECB has reminded us that the long-awaited policy shift will not be simple.
However, there are quite a few who believe that the Fed pivot will come sooner than expected since the monetary policy acts with a lag and eventually it will start affecting the economy and bring down inflation. Additionally, consecutive down years for the USA market are rare. Since 1928, S&P 500 has fallen for 2 years on only 4 occasions – the great depression, World War 2, the 1970s oil crisis, and the dot com bubble burst in the early part of this century.
The most likely scenario is the USA market trading in a range that could be good for emerging countries. Consensus projections are gains of 5% for Stoxx 600 and 7% for the S&P 500. A relatively benign global environment could allow Indian fundamentals to reassert.
Mr. Shaktikanta Das, RBI governor in his customary interview after the MPC meeting on Dec 7, 2022, stated that Indian economic fundamentals are good and his growth and inflation projections for the year 2023-24 were also favourable. RBI has still maintained the stance of withdrawal of accommodation and is pursuing a prudent balanced policy of supporting growth with controlled inflation. Additionally, the government in its forthcoming budget is likely to continue its emphasis on developing infrastructure and supporting manufacturing. Present high-frequency indicators including buoyant GST collections are good. Moreover, early signs of a private Capex revival are also emerging. India continues to benefit from the 4 Ds – demographics, deglobalization, digitization, and decarbonization.
Earnings growth is always an important factor as a driver for stock prices. Corporate profit level which was down to 2% is now steadily climbing with a present level of 4%. It is expected to go past 8% in this cycle. If nominal GDP ( real GDP+ inflation) goes up by 10% and corporate profits double, earnings growth will go up by a significant CAGR during the next few years.
Per capita income of USD 2000 is a structural inflection point for economies and India has crossed that recently. The first 2000 USD is for basic necessities, the additional income is utilized for discretionary consumption and which can put the economy in a nice virtuous spiral. India is likely to double this per capita income to USD 4000 by the year 2030.
The world wants to diversify away from dominant production in China and consumption in the USA and India provides both dimensions. According to Morgan Stanley India Strategy Report, the MNC sentiment indicator for India is steadily moving higher. This indicator correctly predicted enhanced FDI for China during the last 2 decades. When this sentiment converts into actual investments in India, that will be another boost for CAPEX and healthy GDP growth. India’s corporate capital stock is depleted and there were no investments in the last 12 years. Moreover, Indian corporate leverage is on the lower side, balance sheets are strong and the growth cycle is recovering.
Risk factors are mainly outside India. These include recession and a major slowdown in the western countries. This factor in an interconnected global economy will cause a slowdown in India too and that can affect the earnings growth momentum. Any untoward geopolitical incident causing commodity prices to flare up is always a risk. This can be further exacerbated by the high valuation ratios of the Indian stock market, both in absolute terms and also relative to other Asian countries including Korea, Taiwan & China. The 2024 elections in India is also an important factor and a major risk if the political stability is threatened in any way.
Looking at multiple factors, both positive and negative, we feel that the Indian market will generate positive returns based on good domestic performance, but it might not be a runaway market in the year 2023. Also, the move might be punctuated with frequent corrections. However, these are always probabilistic scenarios and we have to find the best way to express the probabilistic view.
We continue to recommend significant equity allocation for goals with a time horizon of more than 4 years, expressing it appropriately with good sector selection, mostly domestic economy oriented, is crucial. Money should mainly be invested in well-chosen high-quality diversified equity schemes with multiple capitalization sizes and sectors. Additionally, the banking sector, given its valuations and the current economic cycle stage, is attractive. The infrastructure and capital goods sectors are also likely to perform well because of the government’s sustained push and spending. A new CAPEX cycle might be emerging and will be good for industrial, engineering, industrial automation, and logistics companies. Domestic consumption is a good story and will favour autos, hotels, and discretionary consumer spending stocks. Global materials, energy, and to some extent, even software services might underperform for a couple of quarters. Some defensive domestic sectors may also underperform like utilities, consumer staples, telecom, and healthcare. In view of continuing uncertain global macros, it is important to maintain good amounts in your liquidity and contingency fund. Those should be in ultra short-term debt funds in the current scenario of rising and volatile interest rates.