Goldman Sachs Group Inc lowered its investment view on Indian equities from overweight to market-weight saying that risk/reward is less favourable at current levels, given the elevated valuations and recent strong performance.
“We have been strategically overweight India since March 2014 as we expected pro-growth government policies and structural reforms to drive a pick-up in economic growth and a recovery in corporate profits,” Goldman Sachs analysts said in a note on Sunday.
While earnings have improved, Indian equities have almost doubled over the past five years and outperformed the Asian region by 60 percentage points in US dollar terms, said the investment bank in the note as per a report in Livemint.
“At current levels, we believe the risk reward for Indian equities is less favourable and we lower our investment view from overweight to market-weight,” they said.
In terms of sectors, it has upgraded defensives and exporters and remains overweight on private banks, technology and metals. Rural recovery and housing plays, GARP (growth at reasonable price) and beneficiaries from the rupee’s slide against the US dollar are some of Goldman Sachs’ key investment ideas.
Five key reasons why Goldman Sachs has downgraded Indian equities, as analysed by the Business Standard :
(I) Stretched valuations: Indian equities, Goldman Sachs believes, are the most expensive in Asia (27x average price-to-earnings) and are trading at a 58 per cent premium to the region. At these levels, it says, equities have historically posted a negative return over the next three-six months.
(II) Macro headwinds: Tighter financial conditions, weak activity data and higher oil prices (in rupee terms) are likely to see economic growth moderate going ahead, analysts at Goldman Sachs feel. They forecast a current account deficit (CAD) at 2.6 per cent of GDP (gross domestic product) versus 1.9 per cent in the financial year 2017 – 18 (FY18) and expect the crude oil prices to remain elevated at $80 per barrel in the next three months.
(III) Earnings Recovery Priced in : Despite the unfavourable macros, Goldman Sachs believes that the markets have already priced in a growth in corporate earnings at the current levels. “Nifty has compounded at 14 per cent over the past five years while earnings grew at 5 per cent. While profit recovery is underway, this micro ‘catch up’ doesn’t warrant a further upside. Indian equities are pricing in a 17 per cent 10-year earnings growth on a compounded basis (CAGR) – the highest in the region,” the Goldman report says.
(IV) Slowdown in DII flows: Even though the domestic flows have slowed for four consecutive months, Goldman Sachs believes funds could potentially see lower equity inflows going ahead, as the yield gap between equities and bonds has dipped to a 10-year low.
(V) Event risk: Lastly, the report cites ‘event risk’ arising from likely increase in government spending / fiscal deficit ahead of elections and possibility of a less stable government weighing on the markets in the near-term.