Why equity investors are still fence-sitting

Moreover, with the Chinese economy reopening, the country’s energy demand is likely to rise, thus pushing up energy prices and that is a potential risk to global inflation outlook. Interestingly, global growth expectations are now the least pessimistic in a year, says the latest global fund manager survey by BofA Securities. The share of respondents expecting a global recession fell to 24% in February, much lower than the peak of 77% in November. Also, a majority of fund managers see inflation easing further over the next 12 months.

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All the key measures of sentiment are improving month-on-month and shift in positioning highlights stronger risk appetite, said the survey report. In effect, net 32% of respondents said they are taking lower-than-normal risk levels compared to net 38% in January.

But the coast is not clear. Fund managers see inflation staying at elevated levels for longer periods as a top tail risk to their portfolios. So, while fund managers have slightly trimmed their cash positions and are now relatively less underweight on equities, 66% of those surveyed feel that stocks are seeing a bear market rally.

In India as well, retail inflation in January rose to 6.52% and came as a negative surprise. Remember, the Reserve Bank of India (RBI) recently raised the repo rate by 25 basis points (bps) and maintained its hawkish stance, leaving the door open for more rate hikes. One basis point is 0.01%. Some economists now caution that RBI is unlikely to change its stance soon and a probability of another 25bps rate hike in April is rising, thus further delaying a pause.

But sticky inflation is not the only problem. The recent rout in Adani Group stocks has been a dampener for investor sentiment. Secondly, December quarter (Q3FY23) earnings were largely a mixed bag, with financials doing most of the heavy-lifting. “In Q3, banks and IT have done fairly better providing some support to FY23 Nifty earnings per share earnings estimates. However, sustenance of current earnings estimates for FY24 seem challenging mainly on weak rural consumption and pressure emerging on urban consumption,” Nitin Bhasin, co-head institutional equities and head of research at Ambit Capital.

In this backdrop, India’s valuation premium to Asian peers is concerning. Although the gap has narrowed, India remains an expensive bet. “With China reopening, India has underperformed recently, but India’s valuation premium compared to Asia ex-Japan peers is still higher than historical average. At one-year forward PE Indian equities are trading at 18.5x, at premium to the last 10-year average of 16x,” said Kunal Vora, head of India equity research at BNP Paribas. And this does not bode well for foreign fund flows. FIIs were net sellers in Indian equities in CY22 and that has not changed so far.

Jitendra Gohil, director, global investment management, wealth management, India at Credit Suisse, thinks China’s reopening is a crucial near-term trigger for global markets, including India because of a likely dual blow of inflation impact and trajectory of foreign fund flows. He cautions of foreign capital getting re-allocated from India to China, which is trading at cheaper valuation. Furthermore, with Indian equity market’s lacklustre performance and rising fixed deposit rates, worries are that domestic institutional inflows could moderate.