It’s not coming back. The Indian market’s (Nifty50 Index) 29 per cent return in CY2017 sets a high bar for CY2018, especially as a large part of our projection for 23 per cent profit growth in FY2019 may be largely discounted in the market’s current high valuations.
The market’s performance in CY2018 will largely depend on (1) FY2019E earnings being met (largely discounted) and (2) continued confidence in FY2020E earnings as domestic and global macro-environment factors may be less favourable than in CY2017.
Great returns from demonetisation lows
The Indian market’s strong performance in CY2017 reflects (1) the market’s strong faith in earnings recovery over the next two years (FY2019-20) and (2) moderate re-rating after the collapse of multiples in end-CY2016 due to demonetization. However, the Indian market’s performance in CY2017 is nothing unusual in the context of performance of other emerging markets.
Three-year returns are less impressive
The Indian market’s performance is less impressive on a longer-term basis. It has delivered 28 per cent return over a three-year period, which is awkwardly lower than 30 per cent return logged in last one year.
The Nifty50’s performance on a three-year basis has lagged the growth in earnings over the same period (43 per cent earnings growth; 27 per cent return) as multiples were too high at end-CY2014 (20.3 times 12-month forward PE), but it has outperformed the growth in earnings on a five-year period (35 per cent earnings growth; 78 per cent return) with strong re-rating in multiples in CY2014 (formation of the current government).
Incidentally, domestic equity mutual funds saw strong inflows in all the years — Rs 1.05 lakh crore in CY2015, Rs 718 billion in CY2016 and Rs 1.9 lakh crore in 11MCY17.
Wide variation across sectors and stocks
The 29 per cent return for the Indian equity market in CY2017 masks wide difference in performance across stocks. Several largecap stocks (sectoral leaders in automobiles, banks, consumer staples, metals, oil & gas and telecom) delivered 50-80 per cent return, while laggards in IT and pharmaceuticals delivered poor returns.
On hindsight, one could have delivered fantastic performance by simply buying the top one or two market-capitalisation stocks in every sector at the beginning of CY2017 and not turning up for work for the rest of the year.
Pray, we are right about earnings
The performance of the Indian market in CY2018 will largely depend on (1) FY2019 earnings meeting (or at worst, falling short by 5 per cent or so) the Street’s and our high earnings growth estimates and (2) reasonable confidence about mid-teens growth in earnings for FY2020.
The full valuations of the Indian market at 18.8 times 12-month forward earnings largely factor in the 23 per cent growth in net profits for FY2019 projected by us. We are somewhat confident about FY2019-20 earnings but see risks to multiples if (1) domestic macro conditions were to worsen on higher inflation and crude oil prices and (2) global macro conditions were to turn less favourable (China slowdown). India’s macro will be less favorable in FY2019 versus in FY2018.