What are the biggest threats to Indian equity markets in 2023?

The Indian equity market has been posting positive returns for the last seven years. Though last year Sensex and Nifty posted only a modest gain of 4.9% and 4.3%, respectively, Indian markets appeared strong even as S&P 500, Russian MOEX, FTSE Italia, DAX (Germany), CSI 300 (China), Hangseng and Nikkei 225 posted negative returns of 18%, minus 51%, minus 48%, minus 26%, minus 21% and minus 11% respectively.

Fortune India spoke with a few fund managers to understand what could spoil the equity applecart and what the big threats for the Indian stock market are in 2023.

Aditya Sood, fund manager, InCred Multicap PMS, believes that rising interest rates may pose a challenge to retail flows in Indian equities. “On the domestic front, the risks in the markets would be a function of sustenance of retail flows in the markets. As deposit rates inch up retail flows into equities might get impacted,” he says.

In 2022, foreign investors sold Indian shares worth ₹1.21 lakh crore ($17 billion), while domestic investors bought ₹2.56 lakh crore ($36 billion) of equities reflecting the buoyant mood of Indian investors toward the stock market.

Sood believes higher crude oil prices are also a key threat as they impact India’s trade and current account balance and fuel inflation. He points out that weakening rupee against USD is the single most important risk to Indian equities.

Madangopal Ramu, Head, Equities, Sundaram Alternates highlights the higher valuation at which the Indian market is currently trading. “Index is trading at 18 times one year forward and has little room for upside on earnings, which is already factoring for double-digit earnings growth and any disappointment on the earnings front will not bode well with investors,” he says.

Domestic flows, which were supportive in the last two years, in the wake of higher deposit rates could also pose a risk to equities in 2023. “Higher fixed deposit rate is always welcome by Indian savers so retail inflows into equities may get slowed down if rates move up,” he adds.

Madangopal believes that 2023 would be a stock picker market as the Indian market is trading at a premium to other markets. Nifty is currently trading at a premium of approx. 55% over MSCI ASIA ex Japan and 36% over the MSCI World Index.

Stock pickers and active funds may take precedence over Index Funds that were in vogue for past years, he says. “The company with a sustainable earning profile will outperform Index,” he believes.

At the macro level, the credit growth cycle has been very strong and is likely to continue, but keeping in mind two strong years of credit growth we may see a moderation in growth in the second half of 2023, Madangopal says.

Global growth headwinds will also adversely affect companies in the manufacturing sector as most of them are factoring in very high growth, he says. Rising interest rates and a slowdown in global growth are threats to companies in the export sector that are already trading at higher earning multiples, Madangopal views.

Hardik Bora and Sanjay Bembalkar, Co-Head Equity, Union Asset Management Company say the slowdown in the rural economy may pose a threat to Indian equities in future.

“One of the potential domestic threats that markets may encounter in the coming years is a rural slowdown caused by a delayed rural recovery that may result from elevated inflation levels or a delayed spending cycle from corporates and the government,” they say.

Both experts believe a slowdown in the global economy may pose a threat to companies in the export sector. On the macroeconomic front, global inflation and high-interest rates could cause a slowdown in the global economies, potentially impacting a section of Indian enterprises which are dependent on global economies for their growth, they say.

“We are not out of the woods from a geographical risks perspective if any unintended consequences arise from such conflicts that might add to the headwinds for Indian markets,” they say.