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Informist, Tuesday, Nov. 26, 2024

 

MUMBAI – Capital Economics expects the MSCI India Index to fall by 5% in dollar terms by the end of 2025, which would represent an underperformance relative to most other major benchmark indices. The overall market is not in a bubble, but there are warning signs in the small-cap and mid-cap sections of the market, which could weaken further, the London-based economic research firm said in a report.

 

The excess earnings yield in India is the lowest since 1999, indicating equity valuations are quite stretched. Excess earning yields are the difference between earnings yield and a global risk-free real yield, proxied by 10-year US Treasury inflation-protected securities yield. Such stretched valuations suggest the presence of a bubble. But other reasons, such as a structural increase in earnings growth and decline in perceived political risk suggest India's equity market should command a higher price-to-equity ratio. The recent weakness in India's stock market is partly due to global factors such as post-election uncertainty around US policy, as well as weak domestic earnings in the September quarter, Capital Economics said.

 

The retail participation in India's market is booming as the number of unique IDs registered on the National Stock Exchange rose by 240?tween 2018-19 (Apr-Mar) and 2023-24. The higher retail participation is partly due to "financialisation of savings" in India, which was boosted by onset of the pandemic. While there are reasons to be concerned about the overall frothiness of India's equities, Capital Economics said it does not think the aggregate market is in trouble and is in the process of bursting.

 

In the background of slow earnings growth, the gains in the MSCI India mid-cap index reflect a big rise in valuation, Capital Economics said. According to Capital Economics, the large-cap stocks will not be able to reduce the impact of a deflating bubble in small-cap and medium-cap this time as they did in 2018, the last time when small-cap and medium-cap crashed.

 

Banks, the largest constituents in large-cap stocks, have lower valuations. However, the sector faces cyclical headwinds over the coming year. Capital Economics said it does not think the banking sector will see a major rebound in the near term as it is facing cyclical headwinds from deteriorating asset quality. Investors will stay cautious of the sector as the banking sector is unlikely to drive a meaningful turnaround in the overall index, Capital Economics said.

 

With Donald Trump's victory in the US elections, India could see a manufacturing boost as it takes business away from China. India had gained market share in exports to the US in the last round of tariffs, but the stock market did not have a noticeable benefit. This time round, India's industrial sector could benefit from potential tariff hikes imposed by the US on China. However, the share price of India's industrial firms has already done well lately and therefore has limited scope for further gains.

 

India may remain the fastest growing major economy but elevated valuations, slower growth, and a challenging external environment will exert downward pressure on its highly valued stock market, Capital Economics said.  End

 

Reported by Akshay V. Johnson

Edited by Ashish Shirke

 

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