Prepare for mediocre equity returns in ’23: Kotak’s Gupta

What is your expectations from the results season? Will we see Nifty earnings upgrades or downgrades?

For the December quarter, we expect Nifty earnings to increase by just 11% y-o-y and 9% sequentially. We expect automobiles and banks to show a sharp y-o-y increase in profits, but that of downstream oil companies and metals & mining companies to decline sharply y-o-y. We expect single-digit y-o-y net profit growth for capital goods, consumer staples and IT services. We remain worried about the risk of consensus earnings downgrades in some consumer discretionary segments (consumer durables, quick service restaurants, food delivery services, media, etc.) given a post-Diwali slowdown, and in some export-oriented sectors (auto ancillaries, chemicals) given a likely global slowdown in 2023.

Which are the sectors and stocks that offer value and which are to be avoided?

At current valuations, we continue to like financials – banks (including the large PSU banks), NBFCs and life insurance. They are well-capitalized, books are clean and well-positioned to grow strongly over the next few years with valuations that are still reasonable. We also like consumer staples now, with raw material prices coming off and demand normalizing. From a long-term perspective, we also like the capital goods sector which is likely to see very strong growth over the next few years as the private capex upcycle gains momentum. At current valuations, we would avoid most auto OEMs, commodities, medical diagnostics, oil marketing companies, and consumer discretionary-focused stocks for now.

After extreme volatility seen in the markets during 2022, should we expect a better 2023?

The economy will continue to recover from the covid-led slowdown, but the pace of growth will be slower given a normal base effect, and more importantly, due to a slowdown in global economic growth. In FY24, we expect real GDP growth to slow down to 5.6% y-o-y, but Nifty earnings growth should improve from 10% in FY23 to 16% in FY24 and 15% in FY25. However, we also expect a modest de-rating of the market given our relatively high valuation; so one should be prepared for mediocre returns from equities this year. Saying that, one should always have a longer-term view when investing in equities and there will always be stock-specific, higher-return opportunities.

How are the Indian markets placed compared to emerging and other global markets?

India is currently trading at a huge premium to the MSCI EM index, of about 70% (versus typical historical range of 40-80%). India did extremely well last year versus other major markets, but the same outperformance is now working to our disadvantage as foreign investors are finding cheaper and more attractive investment opportunities elsewhere. It’s not surprising that in the first two weeks of 2023, the Nifty is -2% (versus MSCI EM +8%) and we’ve seen FPI outflows of $1.74 billion. Meanwhile, the pace of local inflows into equities is slowing down as fixed income is becoming relatively more attractive given the higher yields. Hence, India will likely underperform other emerging markets – even more so if global risk appetite picks up (due to say, a Fed pivot or easing of Russia-Ukraine tensions) in the short term, but for long-term investors, India remains a very attractive market.

What will be the approach of FPIs towards India? Can China easing covid curbs and valuations of China markets lead funds getting diverted to China?

Given India’s relatively expensive valuations, we expect FPI outflows to continue in the short term as global investors trim their positions in India to invest in other more attractively valued markets. China is clearly one such example which underperformed massively last year but is now drawing a lot of global interest as economic growth is expected to pick up once the covid wave subsides, and due to its much cheaper valuations. However, as the confidence in China returns, we are also likely to see inflows into global emerging market funds for whom China typically has a large weightage of ~30%.

That should result in some allocations for India as well – hence, while we expect EM funds to increase their weightage in China (at the expense of India and other EMs), the overall flows into such EM funds may result in a manageable FPI outflow situation for India.