IIFL Wealth is now 360 ONE Wealth. We’re updating our website and it’s new version will be live soon.

Will markets continue rally in Samvat 2074?

A lack of earnings visibility and high valuations cloud the outlook for Indian stocks in Samvat 2074, the Hindu calendar year that starts on Diwali, analysts said. The markets closed Samvat 2073 near record highs despite the twin shocks of demonetisation of high-value currencies and the implementation of the goods and services tax (GST) on 1 July.

On Wednesday, the Sensex lost 24.81 points, or 0.08%, to close at 32,584.35 points, just shy of its all-time closing high of 32,633.64. Similarly, the Nifty lost 23.60 points, or 0.23%, to close at 10,210.85 points, a tad below its record closing high of 10,234.45.

"The rally henceforth will be a function of earnings recovery," said Gautam Duggad, head of research (institutional equities) at Motilal Oswal Securities Ltd. "The market has limited room for price-earnings (PE) re-rating."

The Sensex and Nifty are currently trading at 18.3 and 17.9 times their one-year ahead earnings respectively, much higher than their long-term averages.

Although the Sensex and Nifty have rallied 16.67% and 18.38% respectively in the just-ended Samvat, muted corporate earnings have raised concerns on valuations which may have led to the flight of foreign money in the latter part of the year. Fund flows from foreign institutional investors amounted to $865.7 million in Samvat 2073, down 85% from the previous year. That the markets continued to rally was due to robust investments by local mutual funds and insurance companies. Domestic institutional investments in local equities grew 339.01% from a year ago to Rs97,597.15 crore.

While it is possible that investor sentiment may remain positive as long as domestic flows remain robust, such a rally won't be sustainable, analysts said.

"Eventually the markets will need to realign with fundamentals. Looking for returns in a flow-driven market can be risky in my view," said Dhananjay Sinha, economist and strategist, Emkay Global Financial Services Ltd.

The wait for an earnings recovery may well take some time. Despite some recent positive economic indicators, such as industrial production growth rebounding to a nine-month high of 4.3% in August and merchandise exports surging 25.7% in September, the fastest in six months, slowing economic growth is weighing on investor sentiment and earnings.

Kotak Securities Ltd, for instance, expects Nifty company earnings for this financial year to rise by just 3%, even though it predicts profits to grow 23% in the next fiscal year. The securities house thinks that part of the potential earnings that were expected this financial year is likely to accrue in fiscal 2019.

A few analysts are also predicting that the GST rollout will eventually boost growth by lowering logistics costs, arresting tax leakages and prompting companies to pass on more cost savings to consumers.

"The recent measures to simplify GST have been encouraging. Given a reform-led government at the centre, we have reason to expect resolution of sticky issues like bad loans in the banking system. The earnings yield of equities remains decisively favourable, and equities continue to hold an inherent edge over other investment avenues," said Amar Ambani, partner and head of research at IIFL Wealth Management Ltd.

Duggad of Motilal expects earnings to recover as early as the third quarter of the current financial year, led by a low base, a pickup in demand and rural consumption led by drivers such as the formalization of the economy.

"Two quarters down the line, if the potential GST collection picks up steam, then government finances will be in a far better shape. That can propel heavy government expenditure on infrastructure and social activities," said Rusmik Oza, head, midcap, Kotak Securities.

Earnings growth should improve starting the December quarter, given the low base effect a year ago, he said, adding: "Taking into effect the low earnings base, reasonable valuations on one-year forward basis and sustained local flows, we should see decent-double digit returns in the benchmark indices in Samvat 2074."

Read the original article:

Livemint