Will markets' focus turn to earnings, finally?

The outcome of the Lok Sabha election 2024– a fractured mandate and coalition government—was far from the Street’s lofty expectations of a clear majority for the Bharatiya Janata Party (BJP). Unsurprisingly, the benchmark index slid almost 6% on Tuesday.

Despite Wednesday’s gains, concerns linger. Investors will take cues from the government and cabinet formation in the next few days. Beyond that, there are concerns the BJP may find it tough to push aggressively on transformational reforms under a coalition government owing to increased reliance on allies this time compared to the single-party majority seen in the previous two terms. As such, the broad policy direction may not materially change, but a potential tug-of-a-war between driving consumption and capital expenditure (capex) could keep equity investors on tenterhooks.

Also Read: Poll result debacle: The stock market’s love for the BJP cost it dearly

Kotak Institutional Equities expects the new government to continue with its investment-led economic agenda, but it may tweak its priorities to support consumption and employment.

Amid elevated inflation, rural incomes have been under pressure. To fix the ailing rural economy, there may be increased spending on welfare schemes to boost demand in the hinterland. This would mark a shift from the government's earlier stance, which was primarily focused on infrastructure development that led to sharp re-rating in industrials, railways, defence, and public sector stocks.

The government may utilize some fiscal space for a welfare spending boost in the near term, though a broad shift from high infra spending is unlikely, according to Jefferies India analysts. The brokerage does not envisage much deviation from the 6.5-7.0% GDP growth path.

Focus more on numbers, less on narratives

Nonetheless, focus hereon could turn to earnings growth visibility and fundamentals, which were largely being ignored. “The 2024 election results may finally compel investors (institutional and non-institutional) to focus more on numbers and less on narratives," said the Kotak report dated 5 June.

“We would watch for any change in the stance of retail investors, who have been the major force behind the market in terms of flows," it added.

So far in 2024, domestic institutional investors have been net buyers of Indian equities worth ₹2 trillion, while FIIs have been net sellers.

Plus, the Indian equity markets have been enjoying a steep premium to Asian peers (see chart alongside) mainly due to political and macro-economic stability. Valuations may taper if fiscal prudence takes a backseat and focus shifts to populism.

On the earnings front, the progress of monsoon, movement in cost inflation and trajectory of interest rates will be crucial. The India Meteorological Department has forecast above-normal monsoon this year, but spatial distribution holds key. Movement in global crude oil prices and commodities such as aluminum and copper are important variables for profitability outlook.

An analysis by Nuvama Research showed that in FY24 Nifty earnings per share grew 16%, but with a large divergence in Q1 (with over 25% PAT growth) and Q4 (with lower than 5% PAT growth). PAT is profit after tax. Consensus earnings growth estimates for FY25/26 are largely maintained at mid-teens, but downgrade risks loom, cautioned Nuvama.

In short, ‘A rising tide lifts all boats’ scenario–which drove stocks up irrespective of their fundamentals-may be out of the window, for now.

“Amid increased risk aversion post the election result, investors are likely to get more selective in stock picking. Stocks are likely to get rewarded mainly based on their earnings performance," said Nishit Master, portfolio manager at Axis Securities. “When risk perception goes up investors tend to look at earnings growth more minutely."

Mint Quick Edit: Stock market jitters: Over-bearish on a coalition government?