After the recent decline, the National Stock Exchange Nifty has fallen 1,365 points or 6.8% from its peak of 20,222.5 on September 15, 2023. Experts believe that there may be further correction due to various factors such as rising US bond yields, crude oil prices, geopolitical uncertainties, and disappointing earnings. The upcoming general elections in India could also introduce additional uncertainty if the state election results are unfavorable.
The yield on the 10-year US benchmark bond rose to over 5% for the first time since 2007, impacting global equity market sentiment. Although the yield has slightly dropped below 5%, it remains at a multi-year high, putting pressure on capital flows.
The benchmark S&P BSE Sensex and Nifty50 have already closed in the red for six consecutive sessions. The Nifty50 has declined by 4.82% during this period, while the Sensex is down 4.94%.
“In addition to rising bond yields, the war escalation in Israel has also led to risk-off sentiments. Despite this, the domestic macroeconomics remain resilient. However, the risk of deficient rainfall and reservoir levels continues to affect farm income and rural recovery,” stated JM Financial in a report.
The higher US yields pose risks for equity markets in two ways. First, foreign capital may flow out towards US bonds for better risk-adjusted returns. Second, higher borrowing costs may lead to economic slowdown.
Analysts suggest that the negative sentiment may continue to impact the market, even as the price-to-earnings (P/E) valuation returns to its long-term averages.
“Valuation-wise, the Nifty is in a comfortable zone at around 18-19x the one-year forward P/E. However, global factors may continue to weigh on the market. Midcap and smallcap segments may experience a larger correction due to their higher valuations,” said Siddhartha Khemka, head of retail research at Motilal Oswal Financial Services.
Experts mention that earnings disappointments from prominent firms, particularly in the IT and FMCG sectors, make it hard to support premium valuations.
According to some fund managers, although the market is currently at an elevated level, a meaningful correction may provide a good entry point for long-term investors.
Some suggest that investors should utilize their available funds in case the benchmark indices decline by another 4-5% from the current levels. This may result in a 15-20% correction in midcaps and smallcaps.
“The current equity market is trading at somewhat elevated levels given the valuations. Investors requiring near-term cash flows should shift away from equities. Investors with a five-year-plus view can continue to remain invested,” advised Rajeev Thakkar, chief investment officer at PPFAS Mutual Fund.
“In case the investor is already underweight on equities, the current fall could be used to gradually increase equity weight. If the investor is overweight on equities, they should review their portfolio and take profits to raise some cash. This cash can be deployed later when the markets seem to be making a short- or medium-term bottom,” suggested Deepak Jasani, head of retail research at HDFC Securities.
While geopolitical issues can affect the equity market in the short term, experts state that their impact is generally limited.
“If the conflict escalates and energy prices remain high, it could lead to elevated inflation levels and higher interest rates that may depress global equity market valuations. However, historically, the impact of geopolitical tensions has been transient and has had no bearing on long-term performance,” said Anand Shah, head of portfolio management services and alternative investment funds investments at ICICI Prudential Asset Management Company.
Experts also mention the possibility of positive developments that may boost the market.
“Any positive development on the geopolitical side or a decline in US bond yields and oil prices will act as a positive trigger for the market,” Khemka highlighted.
