The Benchmark Indices concluded Monday’s trading session positively, with the Sensex rising by 611.9 points, or 0.75 percent, ending the day at 81,698.11.
Meanwhile, the Nifty 50 index increased by 187.45 points, equivalent to a gain of 0.76 percent, and closed in the green at 25,010.6.
Over the previous five trading sessions, the Nifty 50 index moved up by nearly 1.8 percent, while the Sensex witnessed a rise of around 1.6 percent.
Over the past 15 years, investors have seen gains in 13 of those years. In the last four years alone, domestic institutions have invested over $100 billion into the markets.
Currently, the benchmark indices are nearing record highs, and valuations are quite elevated compared to other emerging markets.
However, the global brokerage firm HSBC has highlighted ten risk factors that, while not immediate threats, could potentially disrupt this ongoing rally. These risks include issues like stress in the banking system and heavy concentrations of foreign investments, among others.
Here’s a look at the factors to watch:
Reduced Net Foreign Investment and Its Implications
Net foreign investment in India has nearly halved in 2023 due to increased disinvestments and reduced new investments.
HSBC notes that the stock market rally has enabled private investors to profit from their start-up investments, either through IPO exits or stake sales, similar to cases like in Whirlpool, Timken, and BAT’s stake sales in ITC.
Additionally, HSBC also reported a decline in Gross FDI last year. Additionally, state-specific FDI is heavily concentrated in Maharashtra, Karnataka, and Gujarat, which together account for 70 percent of the total. While improving infrastructure could enhance consumer access, it may also pose present potential earnings risks for companies.
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Emerging Risks related to the Banking sector
In recent years, banks have made significant progress in cleaning up their balance sheets, with Gross NPAs (Non-Performing Assets) dropping to 2.8 percent from over 11 percent in 2017. The reduction in credit costs has allowed banks to allocate more capital towards new loans.
Despite these improvements, banks have recently raised concerns about potential threats to their asset quality, especially within unsecured personal loans, and have noted a rise in individual leverage.
According to HSBC, while these issues are not an immediate threat, they could pose risks to profitability for the financial sector, which constitutes about one-third of India’s earnings, as reported by FTSE India.
Limited Market Exposure and Banking Sector Challenges
HSBC noted that despite recent significant investments in equity markets, most Indians remain relatively underexposed, with only 8 percent of household assets in the equity markets. The majority of wealth is still held in property, gold, or bank deposits.
Increased deposit rates have pressured banks’ Net Interest Margins (NIM), and with loans growing faster than deposits, banks face difficulties in extending new loans. This situation poses risks to credit growth and could negatively impact earnings growth for banks.
Decline in Private Capex
One of the economists of HSBC Global Research highlighted a decline in ‘Machinery and Equipment,’ a key part of private capex, which could pose earnings risks.
Despite weak overall private sector investment, the listed equity universe shows a different trend, with listed company capex growing by 15 percent in 2023.
Urban vs. Rural Consumption: Trends and Divergences
According to HSBC, urban consumption is strong while rural consumption lags. Many first-time car buyers have leveraged the stock market rally and credit card availability for upgrades.
Urban demand is concentrated at the top of the income pyramid, whereas rural households, lacking benefits from the stock market rally, face challenges such as food inflation and the impact of fluctuating monsoon conditions.
Concerns Over Earnings Growth
HSBC notes that the recent rally in Indian equities rests on continued robust earnings growth. However, the brokerage is concerned by current quarter results, which have shown only modest double-digit growth—less impressive compared to recent years.
The brokerage highlighted sectors such as capital goods and real estate
are expected to offer better earnings visibility and growth in the latter half of 2024, while advising investors to closely watch upcoming quarterly earnings reports.
Corporate Governance Risks
HSBC identifies corporate governance as a major risk, noting widely reported allegations concerning the governance and structure of certain companies. It further noted that, if these allegations are proven true, they could raise broader concerns about the governance of Indian equities.
Regulatory Uncertainty
HSBC highlights regulatory uncertainty as a potential risk to the market rally, noting that sudden changes in rules and regulations can affect investor returns and confidence. Examples include modifications to capital gains tax and restrictions on purchasing long-dated government securities.
Market Structure Risks
The global brokerage points out risks related to the market structure, noting that India’s weight in the emerging markets and Asia indices is currently 23 percent and could rise further.
The brokerage suggests that some funds with limited single-market exposure might be constrained in increasing their Indian equity holdings.
Additionally, if interest shifts towards other markets like China, it may lead to the sale of Indian equities to reallocate funds.
Commodity Price Risks
HSBC warns that, being a major importer of oil and gold, India faces risks to consumer demand if there is a sudden increase in the prices of such commodities.
Brokerage continues to remain overweight on Indian equities despite all the risks, supported by a strong growth narrative and multiple factors driving company profitability in India.
Its notes highlighted that, large Indian companies are enjoying unusually high profitability and that concerns about corporate leverage are comparatively less.
Written by Shivani Singh
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