Red flags for Indian equities emerge after crude oil jumps 30% since June this year
BNP Paribassays an overwhelming sense of fatigue has engulfed Asian equities and anecdotal evidence is suggestive of investor indecision. Kotak Institutional Equitiessay higher crude prices are a risk to corporate profitability.
- Higher crude oil prices to negatively impact India’s GDP growth rate and current account deficit. A 10% rise in crude oil impairs GDP growth by 0.10%.
After rallying relentlessly for three weeks, Indian equities appear to be losing steam. A lot has also happened since June 2023, not just the Nifty50 sailing past 20,000. Crude prices are up 30% since June this year too and have gone past $90/barrel. No wonder, Indian equities are now in a state of funk.
In fact, it is not just Indian stocks, Manishi Raychaudhuri of BNP Paribas, says that there’s an overwhelming sense of fatigue that has engulfed Asian equities and anecdotal evidence is suggestive of investor indecision. He compares the current mood in Asian markets to the period between 2002-2003, when markets moved sideways for a year after declining for a year prior to that. The three-week rally that took Indian benchmarks to new lifetime highs, markets are headed downwards. Moreover, there are no real triggers to push markets out of this funk, even if the US Federal Reserve’s monetary policy committee cuts interest rates from 2024.
BNP Paribas says that even if rate cuts happen in 2024, they should come against the backdrop of recessionary expectations. Manishi Raychadhuri writes in his report, “We are possibly at the tail end of the rate hike cycle. BNPP economists believe a shallow rate cut cycle shall begin from mid- 2024. A shallow two-quarter recession in the US is expected to set in from early 2024. In this backdrop of “higher for longer” rates and contraction in economic activity for the next three quarters, we think investors may have to brace for a few more months of this ‘tired-sideways movement’.”
Kotak Institutional Equities, which is more like the good old mother-in-law of Indian markets, continues to sound caution against the irrational exuberance that had gripped Indian markets and investors. In its latest report KIE has listed out several fresh headwinds that Indian markets face. These headwinds have more to do with domestic issues as well as global ones.
The big elephant in the room happens to be rising energy costs. Crude oil prices have breached $90/barrel in a matter of weeks and that is a big negative for India. Rising crude oil and other raw material costs will have a negative impact on corporate profitability. Says Kotak Institutional Equities, “We see growing risks of weaker-than-expected profitability from (1) the recent steep increase in global oil prices and (2) related hardening in raw material prices for the automobiles and components (tires), construction materials and commodity chemicals sectors. These companies had seen a very sharp expansion in their profitability over the past few quarters.”
As is the case in any bull run, the market expects the sharp improvement in corporate profitability to sustain over the medium and longer-term. But Kotak has been consistently waving the red flag at the rapid rise in the benchmarks. Kotak Institutional Equities is not sure if the companies can raise prices (again) to pass on the increase in RM prices to customers given muted demand conditions and already-high profitability of the companies.
Higher crude prices will also fuel inflation yet again and impact India’s GDP growth and fire inflation. India is a net importer of oil and which is why higher oil prices will impact GDP growth negatively. A 10% increase in crude oil shaves off 0.10 percentage point from GDP and will impact the current account deficit by 0.40%, according to Nomura’s estimates. The Japanese investment bank’s economist team says: “Within Asia, India, Thailand and Philippines appear more vulnerable to higher oil prices. With subsidies and price controls in place, Thailand and India are vulnerable to worsening current account balances.”
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