Market’s sensitivity to change in eco growth outlook remains high: Nomura

Growth outlook in India beyond the Covid-19 pandemic and tightening of liquidity conditions are two key macroeconomic factors that will lead to volatility in Indian equity markets in the year ahead, global markets research firm Nomura said in its outlook report.

As expected, the Reserve Bank of India might comb back some of the pandemic era measures which lead to a gush of liquidity in the markets, although some fear that the emergence of the Omicron variant might force RBI to think twice. But Nomura says that while liquidity tightening itself is largely expected, the pace of tightening might pip the expectations.

“Rising inflation expectations, tight labour market and supply constraints are increasingly making Central banks hawkish. On domestic growth, most segments, particularly consumption and services, are well below the pre-pandemic growth trend,” the report read.

The impact of RBI’s supportive monetary policy has been negated by weaker consumer sentiment and the ongoing disruptions from the pandemic. Nomura notes that corporate earnings are recording a strong revival (CAGR of 23% FY21-24F Vs CAGR of 6% in FY17-20), led by pre-pandemic efforts on cost control and disciplined capital allocation, and post-pandemic impact of market share gains, higher commodity prices and lower costs.

“Consequently, profitability is improving, leading to a sharp rise in the earnings-to GDP ratio. The market will increasingly focus on earnings growth beyond FY24F, which will be increasingly dependent on the broader economic growth, in our view,” Nomura said.

Rather than being concerned over growth rate, as the central banks were when the pandemic broke out, they are now more worried about the rising inflation. The US Federal Reserve has turned increasingly hawkish, signalling three rate hikes in the coming year after maintaining it at record lows owing to the pandemic. “The unprecedented expansion in balance sheet by the central banks had a stronger impact on asset prices than on the real economy. There are upside risks to inflation amid rising inflation expectations, supply disruptions and a tight labor market, which could lead to faster-than-expected tightening of monetary policy,” Nomura said

When it comes to India specifically, Nomura notes that despite the strong recovery from the early impact of Covid-19, many economic indicators are still trending below the pre-pandemic growth path. “India’s potential growth rate is possibly set lower and is impacted by weak consumer sentiment and continued disruptions from the pandemic,” the report said.

The report also notes that the pandemic has accelerated the earnings recovery process due to market share gains by large players, lower operating costs and higher commodity prices. “The much-awaited rise in corporate earnings to GDP is playing out as earnings growth outpaces economic growth. Over the next 12 months, we expect the market to focus on earnings growth beyond FY24. With an improvement in profitability playing out, growth beyond FY24 will depend increasingly on the broader economic growth,” the report said.

Nomura view on equities:

  1. Prefer sector/stocks with potential improvement in their growth outlook vs current expectations
  2. Underweight on domestic and global cyclicals and overweight on defensive names
  3. Overweight on IT services, telecom and healthcare
  4. In consumption, Nomura prefers staples (low growth expectations) over discretionary
  5. Nomura prefers auto ancillaries (play on EVs) over OEMs
  6. Overweight on infra/construction, considering the policy focus on investment-led growth and India’s digitisation opportunity
  7. Underweight on metals and Neutral on oil and gas
  8. Top picks: Infosys, Axis Bank, L&T, SBI Life, Bharti Airtel & Lupin
  9. December 2022 Nifty target is at 18,150

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