Elections stoke volatility but don't alter market dynamics: Niket Shah

Shah suggests that if the ruling coalition fails to secure a substantial majority, it could exacerbate short-term market volatility

This report has been updated

With less than a month remaining until the declaration of results for the 18th Lok Sabha elections, the markets are witnessing a spike in volatility. While the victory for the incumbent government has largely been factored into market expectations, the uncertainty surrounding the allocation of seats is stirring some apprehension among investors. NIKET SHAH, the newly appointed chief investment officer (CIO) at Motilal Oswal Mutual Fund (MF), suggests that if the ruling coalition fails to secure a substantial majority, it could exacerbate short-term market volatility. Shah, who oversees assets valued at Rs 46,000 crore, shares with Abhishek Kumar via email that valuations remain reasonable, and the potential for higher earnings growth is bolstering the ascent of small and midcap stocks. Edited excerpts:

Some analysts suggest that the general election result may deviate from expectations. Do you perceive this as a risk for the equity market?
 

A significant majority secured by the current ruling coalition could be viewed positively by the market, potentially boosting investor confidence.

Conversely, if the majority falls short of expectations, it may prompt initial adjustments in investor sentiment.

However, it’s unlikely that the outcome of the 2024 general election will have a major long-term effect on the equity markets.

Should the ruling coalition fail to secure a substantial majority or witness a change in the central government, it could lead to increased market volatility in the short term.

Nevertheless, such developments may not fundamentally alter long-term market dynamics.

Given the elevated valuations along with geopolitical and election risks, should investors adjust their equity allocation?
 

The National Stock Exchange Nifty 50 is presently trading at approximately 18 times its forward earnings, closely aligned with its long-term average, indicating reasonable valuations.

However, small and midcaps are trading at a higher multiple of around 25 times forward earnings, driven by robust growth trends.

As long as earnings growth remains strong, these elevated multiples are likely to persist, thereby mitigating immediate market risks.

Regarding geopolitical factors, historical patterns indicate that short-term impacts tend to revert to their mean over time, as seen in past crises such as the Russia-Ukraine conflict. Similarly, events involving Israel and Iran are unlikely to significantly deviate from this trend.

Therefore, investors are advised to maintain a long-term perspective and focus on the country’s broader growth prospects.

Are the results from small and midcap companies justifying their valuations?
 

The valuations of small and midcaps are justified by their remarkable earnings growth, exceeding 40 per cent, which is the highest observed in decades.

In this scenario, a rerating was foreseeable due to the higher growth multiples. It’s worth noting that between 2010 and 2020, small and midcap indices recorded only 4-5 per cent earnings growth.

How do you assess the fourth-quarter (Q4) results that have been released so far? Has any sector presented any surprises?
 

It’s still early to draw comprehensive conclusions from the Q4 results. Among the key companies that have reported earnings, there has been notable profit-after-tax (PAT) growth of 9 per cent, surpassing the expected range of 7-8 per cent.

However, considering that a major portion of the overall earnings reports are yet to be released, it would be premature to make definitive assessments.

At the fund house level, Motilal Oswal has an appreciably lower allocation in banks. Do you foresee further downside in larger private banks?
 

We believe that banks have had a dream run over the past three years. This momentum has been driven by the Reserve Bank of India’s (RBI’s) repo rate adjustments, promptly reflected in yields, thereby benefiting net interest margins (NIMs) and improving the cost-to-income ratio due to the numerator-denominator effect.

Additionally, credit costs during the same period have come off, contributing to robust PAT growth and subsequent stock price returns.

Looking ahead, we expect the cost of funds to rise in the upcoming period, placing pressure on NIMs.

Furthermore, we envisage that the RBI rate cut could result in lower yields, further impacting NIMs.

Moreover, we envision credit costs gradually normalising from their multi-year lows, leading to lower PAT growth over the next 12-18 months as this cycle unfolds.

As the CIO, what changes do you plan to bring to Motilal Oswal MF’s investment framework?
 

Our QGLP (quality, growth, longevity, at a reasonable price) philosophy has consistently enabled us to deliver favourable performance over the past three to four years.

In my elevated role, I intend to enhance our investment framework, expand our talent pool, introduce innovative products, and sustain alpha generation for our investors over the medium to long term.

Additionally, I would aim to reinforce our collaborative work culture, ensuring synergy within the team.