By Mahesh Patil
Co-CIO, Aditya Birla Sun Life MF
Globally, most asset classes were in the red in 2018 due to macro concerns, especially volatile crude oil prices and strong USD. Secular growth in the equity markets seen in 2017 gave way to volatility in 2018, and India was no exception.
Looking forward, in 2019, we believe the macro backdrop will become much more supportive of markets. With the US expected to see a soft landing, we will see a dovish Fed and USD strength will start abating which will ease pressure on the Rupee. The macro backdrop for India will be stable with range-bound oil prices, stable INR, benign inflation, and manageable twin deficits.
India will continue to see steady economic growth with a marginal improvement in FY20E. The key driver will be private consumption, which will continue to be on a steady growth path, supported by investments in infrastructure. Government stimulus in an election year, in the form of farm loan waivers and higher MSP, will give a boost to rural consumption. Credit growth will also remain strong as banks step in for NBFCs.
Going forward, even as there would be near-term pain in earnings for NBFCs and wholesale-oriented banks, broader earnings growth for the market will remain supportive. After a strong 2017, we believe 2018 was a year of consolidation in the market. The large-cap Nifty index fell around 7% from its peak. With earnings catching up, valuation multiples which were fairly high have corrected. An improving growth outlook will drive markets to scale new highs in 2019.
India and other Emerging Markets now offer favourable risk-reward amid improving growth, supportive macro, healthy balance sheets, light investor positioning, and reasonable valuations. Consequently, we will see a reversal of the FPI outflows that took place in 2018. In addition, domestic liquidity will sustain in India with SIP flows expected to remain steady.
The General Election scheduled next year clouds the economic and market outlook. However, the uncertainty will be over by H1CY19. Analysis of market performance around past General Elections shows that returns in the 6-month period both before and after elections have been mostly positive.
Also, FPI flows have generally picked up after election uncertainty is over. Clearly, while elections can lead to short-term blips, the market reverts to fundamentals shortly thereafter, and market performance is driven mainly by the strength of the economy.
With fall in crude prices, stable currency, and steady economic growth, we should see earnings growth of 15% compounded over the next two years for large-caps. While CY2018 had witnessed a risk-off environment, resulting in Top 5 heavy-weight stocks in the large-cap Nifty index contributing to most of the returns, a more broad-based growth is expected in 2019.
The large-cap Nifty index valuation at 17-18x one-year forward earnings multiple is ~10% higher than the long-term average. However, considering the better earnings visibility, large-cap valuations are reasonable. We should see returns in the low teens next year.
Themes of interest are financials, i.e., private banks, corporate banks and select NBFCs, and Consumption i.e. Consumer and Consumer Discretionary. Sectors which can be avoided are Telecom, Oil & Gas, and Power.