Geopolitical risks, Lok Sabha polls to keep markets edgy in 2019: Experts

Despite a bumpy ride, the Indian stock market held up rather well in 2018, compared to some of its global peers that slipped into bear territory. However, experts caution that the road ahead may not be smooth. 

The immediate trigger for volatility: the upcoming national elections, and the noise surrounding it. Sharp swings are likely if the final outcome veers too far off Street expectations. That said, there has been no visible change in market direction at the time of the last six general elections, say market observers, and this time may be no different.

Monetary tightening by central banks and the geopolitical strife worldwide pose greater risks. “As monetary conditions are expected to tighten at a time when global growth is surprising negatively, volatility is likely to remain high in global markets in 2019,” observes Neelkanth Mishra, co-head of equity strategy, Asia Pacific and India Equity Strategist at foreign brokerage Credit Suisse. “Indian equities would be affected, too, particularly if equities globally see a compression in valuation multiples.” 

The US Federal Reserve raised its benchmark interest rate for a fourth time in December but signalled a dovish outlook for 2019, hinting at two more hikes. Central bank balance sheets are expected to shrink by more than $400 billion in the next 12 months and by nearly $900 billion in the next two years, according to Credit Suisse estimates. “The Indian market would not be immune to this stress though the impact should be lower than in the past,” says Mishra. 

Global growth is likely to slow next year as rising protectionism impedes trade growth and no one is quite sure which way the tariff war between China and the US is headed. Brexit and other political developments in Europe could challenge the region’s unity, resulting in financial stress for countries such as Italy. The conflict in West Asia may aggravate as well. 

“Geopolitical developments have been off the radar for investors for a very long time and that may pose a considerable risk to the markets,” observes Navneet Munot, executive director and chief investment officer (CIO) at SBI Mutual Fund (MF).

Foreign portfolio investors dumped stocks worth Rs 33,000 crore in 2018, compared with purchases of Rs 1.06 trillion by domestic institutions, mostly MFs. The unwinding by central banks and geopolitical tensions may fuel the risk-off sentiment among overseas investors, crimping flows to emerging markets such as India. 

The good news is that global crude oil prices – which touched multi-year highs in October on fears that the impending sanctions on Iran’s petroleum industry would lead to constricted supplies – are now at their lowest levels in 18 months. Oil prices are expected to remain below $65 per barrel, at least in the near future. 

The other positive is the surge in domestic equity inflows. According to Credit Suisse, foreign investors have not been meaningful buyers of Indian stocks for the past three years and now account for less than a third of trading volumes. Flows in equity MFs through monthly systematic investment plans, on the other hand, continue to be robust at between Rs 6,000 crore and Rs 7,000 crore. Lump sum investments from retail and wealthy investors, though, are beginning to taper off in the aftermath of the recent volatility.

With Indian equities still richly valued, investors will also be pinning their hopes on a sustained recovery in earnings growth. The progress on banks’ asset quality resolution and the revival in private capital expenditure will be closely watched. A spending spree by the government in the run-up to the 2019 national elections could throw the fiscal math off course, and may be viewed negatively by investors.

According to Manish Gunwani, CIO–equity investments, Reliance MF, corporate profit growth may surpass nominal gross domestic product growth in 2018-19. “The market seems to be in a middle zone as positives like a strong macro outlook after the fall in crude prices and the likelihood of earnings cycle picking up are countered by valuations that are a bit higher than historical averages,” he says.

“Expectations of earnings growth have not played out for the last three-four years, and markets may crack if we see lower growth for a few more quarters,” adds U R Bhat, director, Dalton Capital Advisors. 

The benchmark 50-share Nifty is currently trading at about 26 times its 12-month trailing earnings. 

Gunwani believes that sectors such as corporate-lending banks, pharma, and telecom, which have been in a down-cycle in the last three-four years, have bottomed out from an earnings perspective. He believes that soft commodity prices may act as a tailwind to consumption and banking stocks.

Experts believe that the heightened volatility calls for caution. According to Nitin Singh, managing director and head, Standard Chartered Wealth Management, India, investors ought to take a more balanced approach to investing by selectively taking risk through a diversified equity exposure, while keeping a greater margin of safety through bonds and keeping some powder dry for tactical opportunities.