The markets are on fire after India’s scorching second-quarter GDP number of 7.6% and the reassurance from the ballot box that the nation is mostly assured of political continuity, stability and certainty even after the 2024 polls. While equity experts are right to note that there is still valuation comfort on the indices and on many large-cap names, on the political economy front, we need to be cautious of too much exuberance on growth.
Here’s why:
1.
The enthusiasm over the second-quarter GDP coming in at 7.6% needs to be a tad tempered. As many an economist has pointed out, the 13.9% manufacturing growth, which yanked up the Q2 GDP numbers, had a huge base effect. Q2 of 2022-23 saw the manufacturing sector contract by 3.8%.
2. There is additional scepticism over the way the GDP components are deflated, which exaggerates growth in a year of falling input prices. The National Statistical Organisation (NSO) doesn't deflate the input and output prices separately to arrive at the real GVA, but only deflates the net value added; this method exaggerates growth at a time when raw material prices falling. Chances are, therefore, that last year's GDP was understated, while this year's is overstated. This means last year's full-year GDP was a shade higher than 7.2%, and this year's GDP, if properly deflated, would be a shade lower than the projected 6.5% growth. This points to the fact that growth is actually slowing.
3. The bigger worry about the GDP internals is that the two labour-intensive sectors -agri and services- have shown sub-par growth in Q2. Agriculture & allied activities grew just 1.2% while "trade, hotels, transport & communication" - a hugely labour-intensive services sector category, has grown only 4.3%. Services as a whole grew only 5.8%. This points to an extremely skewed or inequitous growth pattern.
4. Even though November auto sales and the festive-season home and jewellery sales are being touted as huge, the Q2 numbers show that private consumption has grown by only 3.1%. It's government consumption, at 12.4%, and capital formation at 11% that are growing well. And the capital formation by the private sector, which appeared to pick up in Q4FY23, has dwindled sharply in Q2, CMIE data shows.
Again, this is not to doubt earnings growth or the price surge in equity markets. Corporate earnings have seen upgrades after the second quarter results. As per Motilal Oswal Financial Securities, the Nifty EPS will likely be at ₹996 by FY24-end, marking a year-on-year growth of 24%. MOFSL sees a 14% rise in Nifty EPS for FY25 to ₹1,135. While Nifty P/E trades at nearly 21x if one took FY24 earnings, on FY25 earnings, the valuation falls to 18.4x, below the last 10-year average Nifty-traded valuation of 19.5x
Stocks Not Overvalued Yet
The worry is concerning over-exuberance on the general economy, not stock valuations. On the economy front, despite the higher-than-expected second-quarter GDP growth of 7.6%, on a four-year basis starting from the pre-COVID year of FY20, the GDP is growing at a four-year compounded annual rate (CAGR) of less than 4% versus the 6% CAGR in the decade leading to FY19.
FY25 Set To Be A Tougher Year For Economy
The widespread expectation is that with the return of a strong government in 2024, following the election, the Centre will be able to take tougher steps to buoy growth. However, as of now, the chances of a marked slowdown in economic growth in FY25 look more likely.
Let's look at why that might be the case.
Firstly, the current year’s likely 6.5%-plus GDP growth is built on a large fiscal deficit of nearly 9% (5.9% central deficit, plus 3% states’ deficit). Hence, this year’s GDP is more akin to growth from the intake of steroids. This deficit will have to come down sharply in FY25 and that can take its toll on growth since private capex has yet to take off.
Secondly, the advantage of falling YoY commodity prices won't be available next year. This is obvious in the Nifty EPS forecasts for next year, which range around 12-15% versus 24-25% this year.- This will have a concomitant impact on the national gross value add.
Thirdly, the consensus estimates for global growth next year are sharply lower than this year. The Bloomberg consensus estimates for 2024 stand at 2.1% versus 2.7% for this year, although a Reuters poll puts 2024 growth at 2.6% as against 2.9% this year. Either way, the bet is for slower growth.
