Indian equities usually command a premium. Even now, as investors are lowering their estimates of corporate earnings in emerging markets, they believe firms in South Asian countries will achieve reasonably healthy profit growth.
Following the recent downgrade, stocks comprising the country’s benchmark Nifty index are projected to deliver around 15 per cent higher earnings over the next 12 months compared to the beginning of 2020.
This is when expectations of emerging markets as a whole have taken a beating below pre-pandemic levels. Is this expected improved performance worth the extra price?
Aditya Suresh, Head of India Research, Macquarie Capital, says India’s valuation gap compared to other emerging markets is “eye-watering” by 3 standard deviations from the historical average.
Not that global investors are shifting their portfolios to China’s southern neighbor as they worry about the mainland’s slowing economy and its growing isolation with the West.
Although the selling pressure has eased since July, foreign fund managers have sold more than $23 billion in Indian shares so far this year.
Equities are getting a boost from home buying.
Where is the funding coming from? If you look at the overall picture of banking, the excess liquidity created by the central bank during the pandemic years has vanished.
The Reserve Bank of India has increased its policy interest rate by 1.9 percentage points since May. Nevertheless, the local stock market is still not exposed to the full force of tight money.
To see this, let’s start with what brokerage HDFC Securities is calling the “changing nature of monetary transmission” in India.
In March 2020, less than 10 per cent of floating-rate rupee loans were priced lower than external benchmarks such as the RBI’s repurchase rate. By June this year, this figure had increased to 47 per cent. Taking advantage of rising interest rates, lenders often reset loan prices.
When it comes to paying for deposits, however, they are still holding back. Domestic equity funds have witnessed 19 consecutive months of inflows. This is at least partly because banks are not providing fair compensation to savers in an environment of high inflation.
The five-year fixed deposit is offered at 5.85 per cent by the country’s largest commercial lender State Bank of India.
This is when the current inflation rate is 7.4 per cent, and the Indian government is paying investors between 6.3 per cent and 7.5 per cent to borrow for three months to 10 years.
Banks’ rigor towards depositors is not only acting as a source of additional stock-market liquidity, but it is also providing an outlet.
With assets revaluation faster than liabilities, HDFC Bank Ltd., the most valuable among Indian lenders, recently reported a 19 per cent jump in its net interest income in the September quarter from a year ago.
This is giving a boost to investors.
An index that tracks bank stocks on the Bombay Stock Exchange has given a return of around 15 per cent so far this year, compared to a gain of 2 per cent including dividends for the Nifty index in local currency.
Can the country’s banks continue to squeeze depositors like this? Loans and advances are up 16% year-on-year as economic activity rapidly returns to normal to its pre-pandemic levels, due to the way credit demand is created.
However, deposits across the system are growing by only 9 per cent.
The divergence is largely due to forex outflows – official reserves have fallen by over $100 billion from their peak in September 2021 as the RBI tried to contain the rupee’s depreciation against the dollar.
Should credit expansion continue rapidly, India’s banks may have to compete more honestly for liquidity to pay better rates, indirectly driving capital away from the stock market and towards fixed deposits. will have to be encouraged.
“This is the most important risk for the Indian stock market in the next one year,” says Macquarie’s Suresh. To understand when the tight money will eventually hit the Indian stock market, investors may be looking at fixed deposit interest rates.
(Except for the title, this story has not been edited by NDTV staff and is published from a syndicated feed.)