Insights

Indian markets fell sharply at the beginning of the month after a weaker-than-expected US employment data, a sell-off in Japan and geopolitical tensions in the Middle East but stabilized towards the end with Nifty-50 Index gaining 1%. Mid and Small cap indices were up 0.5% and 0.9% respectively. Sectoral indices ended on a mixed note with healthcare (+7%), consumer durables (+4%) and IT (+4%) were the major gainers, whereas PSU (-4%), realty (-4%) and capital goods (-3%) were the major losers. Globally, Brazil, Indonesia and the Philippines gained 6.5%, 6% and 4%. South Korea, Shanghai and Mexico declined 3.5%, 3% and 2%. Other key developments: (1) Bank of Japan said that the central bank would not hike interest rates when markets are unstable, (2) the India government proposed that indexation benefits will be restored for immovable property bought before July 23, 2024, (3) the RBI maintained status quo on interest rates for the ninth consecutive time, (4) the Supreme Court allowed states to levy tax and royalty on minerals, apart from central duties, and collect past dues, (5) the Federal Reserve Chair's comments reinforced expectations of a rate cut in September, (6) Real GDP growth in 1QFY25 eased to 6.7% compared to 7.8% in 4QFY24, (7) Fitch affirmed India’s rating at 'BBB-' with a stable outlook and (8) FPIs bought US$ 0.9bn of Indian equities in the secondary market, whereas DIIs bought US$5.8 bn.

Q1FY25 earnings season: The effect of elections, heatwave and stable commodity prices was visible in earnings in the latest earnings season. 1QFY25 results of BSE-500 companies show that revenue growth has moderated at 8% yoy on aggregate and 9% yoy ex-OMCs. EBITDA of non-financial companies of this universe increased a modest 1% yoy (16% yoy ex-OMCs), while PAT increased 3% yoy (11% yoy ex-OMCs).

High-frequency data for August recorded growth in sequential terms after declining for three consecutive months, while it grew at a slightly slower pace on a YoY basis. GST collection growth remained largely steady at 10% yoy; credit growth (adjusted for HDFC merger) slowed to 13.6% YoY in Aug. Within auto sales, while two-wheelers rose at a faster pace, passenger vehicles declined at a softer rate on a YoY basis in Aug. While manufacturing PMI softened to 57.5 (58.1 in July), Services PMI rose to a 5-month high of 60.9, remaining above 60 in CYTD24 on the back of expanding business activity and new orders. Air passenger traffic moderated in YoY terms but improved on a sequential basis. Consumer sentiment improved sequentially.

As such, within consumption, we see rural demand picking up as indicated by 1) rural FMCG volumes outpacing urban, as reported by Nielsen; 2) improvement in two-wheeler sales; 3) favourable monsoon trends (8% above long period average) and kharif sowing (up 1.9% YoY), 4) moderating inflation; and 5) anecdotal commentary from large FMCG firms. In addition, recovery in private capex is likely to gain strength as seen from 1) improving investment intentions, 2) rising investment announcements across sectors such as semi-con, air conditioners, power, 3) increasing order books – and is thus likely to support the robust trend in public and household capex.

Indian markets continue to respond well to ongoing strength in macro-conditions. In recent weeks, the brightening prospect of a cut in interest rates globally and perhaps in India and weakening oil prices have further added shine to the markets. Recent correction in commodity prices is heartening and takes away some of the risk to corporate earnings, however this is an area that needs careful monitoring. Upcoming state elections, the outcome of the US elections and any other geo-political event remain key variables that can induce volatility in the market as they can have implications for global growth and domestic economic policies. While we take a sanguine view of the domestic economic cycle, we acknowledge that the market cycle is quite ahead of the economic cycle. The steady upward march of the market therefore poses risk of possible sharp pullbacks. This may lead to market returns compressing as we walk into the remainder of this calendar year.

Notwithstanding such short-term aberrations, we find India’s current aggregate positioning in the global economic cycle very attractive and remain convinced of a strong domestic investment and consumption opportunity unfolding over the next few years. This will provide adequate compounding investment opportunities for investors. Intermittent corrections, particularly those caused by global factors should be used to enhance overall return outcomes.

US treasury yields continued its declining trend across the curve as more than expected worsening of unemployment rate triggered market expectations of aggressive rate cuts by FOMC. However, rate hike by Bank of Japan created heightened volatility across global financial markets.

Domestic G-sec yields also rallied across the curve by 5-7 bps with bull steepening bias. While the benign global backdrop and domestic inflation which came better than expected at 3.54% were positive for the rates, elevated supply on SDL and RBI’s surprise exclusion of new 15 yr and 30 yr G-Sec benchmark from FAR security dented the sentiment. Corporate bonds underperformed the G-Sec especially in the short end and corporate bond yield curve remains inverted. Domestic banking liquidity remained in surplus, however money market rates remained high on elevate supply

Outlook

Many key Central banks have already started the rate cut as inflation moderates amidst growth slowdown. US’s FOMC is also set to begin the rate cut cycle in September, quantum of which will depend upon the incoming data on US’s jobs market. FOMC’s September meeting will also be closely watched upon by market participants for future rate guidance as any sharp worsening of job’s market may prompt FOMC to indicate aggressive rate cuts over next few months. Even as global monetary policies turn favourable, global volatility in financial assets may remain elevated as US presidential election unfolds.

Contrary to many other global Central banks, RBI continues to maintain its caution on domestic headline inflation and has not given any rate cut expectations in near future. In our view, MPC may take cognizance of 1QFY25 GDP slowdown to 6.7% as against RBI’s projections of 7.1% along with healthy pickup in monsoon which is expected to provide relief to the elevated food inflation. Further, with global backdrop turning favorable, MPC may moderate its hawkish tone in upcoming October monetary policy providing a positive impetus to market. We believe that RBI will be able to get better clarity by CY 2024 end in terms of domestic food inflation and if the global uncertainties recede by then, MPC may look to pivot towards the commencement of rate cut cycle.

Even as domestic rate cut cycle is sometime away, onset of global rate cut cycle & extremely favorable domestic demand-supply dynamics bodes well for local rates. G-Sec demand supply is favorable not only in FY25 on the back of JP Morgan debt index inclusion but also in FY26 as Government has committed to further consolidate fiscal deficit below 4.5% in FY26. FPIs have bought more than Rs. 60,000 crs G-sec since June 2024, surpassing market expectations. Reduction of T-bill supply and cash drawdown of Rs 1.4 lakh crores by Government to fund fiscal deficit in FY25 is beneficial for the short end of yield curve.

Overall, risk-reward remains favorable at current juncture with benign fundamental & elevated yields across the yield curve. Short end of the yield curve is expected to see a downward movement over next couple of months with improving banking liquidity. Longer end of the yield curve is expected to remain supported on the back of favorable demand-supply dynamics. Any uptick in yields due to still evolving global factors and unfolding political landscape should be seen as an opportunity to build further exposure as the rate cut cycle commensurate over next few months.