Indian Stock Markets Will Likely Rally Through 2024, But Returns Will Be Muted

With a stretched starting point, analysts have turned cautious and are wondering if 2024 will be a year of low returns for Indian stock markets. Analysts are now pondering in which form would risk manifest itself in 2024.

Would it be an escalation in geopolitical tensions or the return of the Covid virus; would it be the ‘hard landing’ of the US economy as the Federal Reserve undertakes rate cuts or a bitter global slowdown; would it be any weather-related shock or any surprises in general elections back home?

Any crystal gazing would prove futile if we don’t consider the factors that propelled the Indian markets to greater heights in 2023. To be sure, India’s stock market with a capitalisation of US $4 trillion today is larger than that of Korea and Taiwan combined; trading in Indian stock markets exceeds trading on the Hong Kong market. In terms of sheer numbers, there were more initial public offerings (IPOs) in India than in the US in 2023.

In 2023, there were a few factors that supported the markets:

• India’s GDP growth, averaging around 7 per cent, stood out among the world’s major economies
• The Nifty 50 companies posted superior earnings growth of 30 per cent in the April-September period
• The inflation and interest rate regimes in India, and globally, remained benign
• The Indian government’s policy and fiscal support remained healthy
• Equity flows, both domestic and foreign, remained robust, with combined flows of more than US $ 40 billion in the year.

While these trends would likely continue through 2024 and support the stock market, there are a few things that are worth tracking in the new year.

Modi Factor Priced In

Historically, equities have rallied in the six months leading to the general elections. With returns of 20 per cent in 2023, markets seem to have already factored the best-case scenario of PM Modi returning for a third term in 2024 elections, slated around April-May.

"For 2024, the pre-election year and two months (out of pre-election six months) have already factored in most of the positive surprises of the election," said research firm Bernstein in a report on January 5.

It’s worth noting that voters do tend to vote differently in national and state elections. Elections leave some bit of uncertainty for markets till they are over.

Economy, Exports And Consumption Demand

India’s GDP growth for 2023-24 was recently revised upward to 7.3 per cent , after a surprise upside in the second quarter. This follows a healthy 7.2 per cent GDP growth registered in the previous year, 2022-23.

Investment demand in the economy, which currently is at a decadal high, is supported by capital expenditure of both the central and state governments. However, consumption growth, which was slowest in the past two decades, barring the pandemic year of FY 2020-21, leaves much to be desired.

Additionally, lower rural demand and the impact of sluggish global growth on Indian exports remain key monitorable in the near term.

“Investment demand has displayed resilience thus far, although a potential moderation in the coming months is plausible as the private sector may exercise caution in capital spending leading up to the general elections,” said Care Ratings Limited in a note.

Stabilising Earnings Growth

In the first half of fiscal year 2023-24, Nifty 50 companies reported a net profit growth of 30 per cent. Profit growth of listed corporations in recent years has been a factor of margin expansion as compared to business growth. Even that growth was not broad-based across sectors. Companies saw downgrades by analysts in their earnings estimates at least till early March last year.

“Earnings revisions have stabilised in 2023 after a decade-long earning per share (EPS) downgrade cycle and we expect a turnaround in the earnings cycle, which should primarily drive index returns over the coming years,” said Goldman Sachs in a note on January 8. Most analysts have estimated mid-teen earnings growth for Nifty-50 companies in the next two fiscal years.

A benign interest rate scenario in 2024, both globally and domestically, is positive for corporations. But things do not look good as far as commodities prices and global supply chains are concerned because of geopolitical challenges. While these will compress the margins of corporations, slower global economic growth will limit top-line growth.

Geopolitical Tensions And Crude

The escalation of geopolitical tensions can add to the downside risks in 2024. The current conflict in the Middle East and attacks on shipping lines have led to increases in freight rates in recent weeks.

From India’s perspective, crude oil prices remain key monitorable as more than three-fourths of the country's petroleum requirements are imported.

While so far oil markets have remained calm despite the risk, any escalation in geopolitical tensions can affect global commodity prices.

‘Soft’ Or ‘Hard’ Landing Of The US Economy

Rate cuts by the US Fed are a big unknown for markets. With hopes of inflation peaking in the US, the question that the markets are asking is for how long the US Fed will wait before cutting interest rates. Markets seem to have factored multiple rate cuts by the US Fed by mid-2024.

The rally in global equities since November reflects the rising confidence of a US soft landing, meaning the American economy will slow but not slip into a recession.

“The US Fed finally signalled the possibility of rate cuts in 2024 in its December meeting, leading to a sharp decline in the US bond yield, which bodes well for FII flows across Emerging Markets including India in 2024,” said HSBC in a note on January 8.

The Fed meets next on January 30-31. Even the Reserve Bank of India (RBI) may follow suit. This means that 2024 will be a transition year as far as interest rates are concerned, which can have huge implications on liquidity.

However, there is a significant risk to global equities if the US Fed does not oblige with a rate cut or if there is a hard landing (the US going into recession).

"Our view continues to be that markets are pricing more rate cuts than are likely in 2024 in the US and the Euro area, as we expect central banks to be cautious. Risks of inflation re-igniting are not gone, given tight labour markets and areas of high wage growth, for example,” said the Denmark Headquartered Danske Bank in a recent note.

Finally, Valuation Discomfort

Currently, valuations are at all-time high levels. The Nifty 50 is trading at 22.6 times its one-year forward earnings, well above the five-year average of 21.6 times as of January 4. The small and mid-cap companies are trading at even higher valuations. Historically, Indian markets, given superior fundamentals, have traded at a premium to other peer markets.

“High valuation remains the primary investor pushback on India…India’s relative P/E premium at about 76 per cent also looks expensive vs. the past 5-year average of 50 per cent. While we expect valuations to moderate over the course of the year, as underlying earnings catch up, we believe the shifts in the macro environment, notably sooner than expected Fed easing cycle and better global risk appetite warrant a higher target multiple vs. our previous expectations,” added Goldman Sach.

Overall, India is in a sweet spot riding on both strong fundamentals amid a weak global growth scenario and positive sentiment. The return of foreign portfolio flows in recent weeks couldn’t have come at a better time for India.

FPIs will complement the rising equity culture domestically. Flows through the contribution from systematic investment plans (SIP) have successfully absorbed volatility in the markets in recent years.

Additionally, despite strong inflows in 2023, FPI ownership of Indian equities is at 17.6 per cent, which is well below the past 10-year average of 19 per cent, suggesting that there is more room for foreign inflows.

India will be the third-largest economy by 2027 after the US and China, overtaking Japan and Germany. India’s share of global growth is expected to rise to 18 per cent by 2024 end, up from 11 per cent in 2019. By the end of this decade India's per capita income will also nearly double to USD 4,500 by 2030.

India is heading a new upcycle that will likely last several years. Such transformation will also have a positive effect on the equity market as well. Investors need to believe in India’s long-term story. While the journey would not be linear and will be dotted with regular bouts of volatility, any correction could be an opportunity to go long on Indian equities.

(The author is a Mumbai-based independent journalist and analyst. Views expressed are personal)