Equity returns rise, but no ‘V’ recovery

Mumbai: Equity returns are unlikely to follow a ‘V-shaped’ pattern going forward due to lack of evidence of a strong growth cycle and global headwinds, said foreign brokerage Morgan Stanley.

Weak global growth, stress in parts of the financial sector and reflexive impact from weak share prices on the real economy are key risks for the Indian equity market, the brokerage said.

“Our proprietary leading return indicator suggests that equity market returns are likely improving after a poor few months. This is because the market has support from valuations and sentiment indicators we track,” said Morgan Stanley. “However, given the absence of evidence of a strong growth cycle and the headwinds from global factors, it is unlikely that equity returns follow a V-shape,” the brokerage said.


Morgan Stanley said patient investors will be rewarded well over 12 months, and has a base case of 45,000 on the Sensex by June 2020. The Sensex ended down 141.33 points or 0.38 per cent at 37,531.98 on Monday. The benchmark index is 6.9 per cent off the lifetime high of 40,312.07 hit in early June.

Morgan Stanley said earnings growth is likely to be better in the coming two years than in the previous few years given the tax cuts but the government and the Reserve Bank of India will need to continue to work on lifting sentiment in both the equity markets and the economy.

On September 20, finance minister Nirmala Sitharaman announced a reduction in India's effective corporate tax rate from around 35 per cent to 25 per cent. The market euphoria triggered by the tax cuts appears to have has fizzled out for now with worries about the asset quality of select banks and nonbanking finance companies (NBFCs) and economic slowdown taking precedence.

Some market watchers have raised concerns over the impact of the stimulus on the country’s fiscal deficit. After the Sensex rallied 3,000 points for two days after the tax cuts, the benchmark index has corrected nearly 950 points from September 23.

The RBI’s lower-than-expected interest rate cut of 25 basis points last week has also dampened sentiment. The market expected the central bank to cut interest rates by at least 35 basis points.

Morgan Stanley said policy rates are still high relative to nominal growth when compared with history.

According to the firm, the government’s to do list includes a clarification on the immediate effectiveness of a hike in FPI limit to FDI limit, which could then lead to a higher India weight in MSCI. A new Direct Tax Code to streamline direct taxes, accelerated financing for real estate companies, strategic divestments of public sector companies, trade deals with the US and other countries, continuing rationalisation of GST rates, and a smoothening of processes and continued infrastructure spending are also on the government’s to-do list, the brokerage said.

Morgan Stanley is overweight on consumer discretionary, industrials and financials. It is underweight on technology, healthcare and materials space.