BNP Paribas Securities India has warned that returns from equity investments in India could dwindle over the next 12 months due to the confluence of tightening global monetary policy and lofty valuations.
At a media roundtable hosted by the brokerage unit of the global financial services giant in Mumbai on September 22, BNP Paribas said the Indian market would be vulnerable going ahead due to accelerated tightening of the US Federal Reserve’s balance sheet and higher global interest rates.
Indian equities have outperformed most major global markets in 2022 despite rising interest rates, inflation and geopolitical crisis in Europe. The Nifty has risen 2 percent, so far, in 2022 as against a 22.6 percent decline in MSCI All Country World Index.
Kunal Vora, head of research at BNP Paribas Securities, said the quantitative tightening, where the US central banks sells bonds to mop-up liquidity from the system, has so far not been reflected in the market but with the quantum of the tightening doubling from $ 47.5 billion to $ 95 billion from September liquidity conditions are likely to tighten.
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Lofty valuations, maximum discomfort
Vora, however, said the “lofty” valuations that Indian equities are commanding at the moment provided the “highest level of discomfort” to the brokerage firm. The Nifty is available at 19.2 times one-year forward earnings, a 17 percent premium to its average in the past 12 years.
“Valuations can’t decouple, they will ultimately matter,” Vora told reporters.
The current divergence in the 10-year government bond yield and the earnings yield of Nifty50 companies showed that equities were far more expensive than they should be, he said.
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The difference between the government bond yield and the current earnings yield of Nifty companies was more than 200 basis points, indicating relative attractiveness of bonds over equities. In previous instances of such a wide difference between bond and earnings yield, the Indian market gave muted returns over the next 12 months, Vora said.
BNP Paribas also doubts the sustainability of the recent resurgence in inflows from foreign portfolio investors after more than nine months of relentless selling. FIIs could go back to other Asian markets like Taiwan and South Korea if there was a revival in those markets, Vora said.
So far in 2022, Indian equities have seen more than $ 20 billion of net selling by foreign investors, whereas in Taiwan and South Korea it has been $ 12 billion and $ 39 billion, respectively.
On September 22, the Nifty ended 0.5 percent lower at 17,629.8.
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