Wall Street brokerage Morgan Stanley has pencilled in an “absolute upside with relative downsides” for the domestic equity markets with Sensex rallying 10% in a base case scenario in 2023 scaling to 68,500 points by December.
“An up-trending profit cycle, a likely peak in short rates in Q1 2023 and ebbing global macro risks relative to 2022 make the case for ‘absolute upside to Indian stocks,” said a report by Morgan Stanley’s Chief India Economist Ridham Desai and his team. But India’s relative gains may take a breather in 2023.
Stating that the bull market is intact, it said at the helm of the outperformance of the domestic equities in the past two years has been government policy, including a structural rise in the domestic equity saving pool, a boost to corporate profit share in GDP, and a focus on FDI flows, which raised the share of FDI in balance of payments, allowing the country to run monetary policy that is less sensitive to the U.S. Federal Reserve, and reduced the equity market’s sensitivity to U.S. growth conditions and oil prices.
While emerging markets are likely to benefit from a relatively more benign world versus 2022, India’s trailing outperformance may take a breather in the first half of 2023, given relative valuations, it cautioned.
Pencilling in a 10% upside to the Sensex in the base case scenario, at 68,500 points by December, the report said profit share in GDP is on a structural up-trend with falling material costs and rising capex, strong demand conditions favouring earnings in 2023.
The report did not offer a Nifty target or the best case scenario target for the Sensex.
“We raise our 2023 and 2024 EPS estimates by 5% and 7%, respectively, and are now 10% above the consensus number for 2024. These estimates imply an annual compounding of 22% from 2022 through 2025 as it expects the domestic ownership of the shares to continue and also sees PFI buying.”
Going into the second half of 2023, the market should start factoring in its view on the general elections slated for May 2024 with either outright repositioning or considerable hedging of portfolios, it added.
Upside risks include the present low FPI positioning leading to an FPI bid, short-term interest rates near the peak, increased domestic buying on the back of an upward revision in equity allocation for retirement funds, higher capex leading to better earnings, and better overall earnings outlook.
On the limited downside risks to the projections, Desai said a deep and broad U.S. recession leading to slowing earnings and a consequent rise in the dollar could pressure on the BoP coupled with a resurgence in oil and fertilizer prices cause elevated inflation and higher rates, leading to corrections in equity returns.
The brokerage is overweight on financials, technology, consumer discretionary and industrials and is underweight on all other sectors.
On the share of corporate profits in GDP, the report said at 4% it is already double of pre-pandemic level and expects this to scale a new high of 7%. The report said its optimism is premised on the supportive government policy for corporate profits and evolving global dynamics which favour the country.
For an economy that is likely to grow at a nominal rate of 10% per annum, if the profit share in GDP doubles from its current level of 4% to 8% over the next four years, as Desai expects, broad market earnings can compound annually at 20-25%.
On the other catalyst for a likely 2023 bull run, the report said emerging markets are likely to benefit from a relatively more benign world versus 2022, and given India’s trailing outperformance and rich relative valuations, Indian equities will likely see a retracement of relative gains.