Seven factors, ranging from the upcoming general elections to monetary policy may lead to Indian markets facing heightened volatility in the new year, according to Morgan Stanley's latest note.
The brokerage also said that while some of their technical indicators are nearing a "sell" zone, fundamentals are just about "mid-cycle" levels with more upside in the coming quarters.
"We expect a further rise in volatility," the brokerage wrote in its note.
These are the seven factors highlighted:
Upcoming Elections
India is set to face general elections sometime in April or May this year, dates for which are yet to be announced. That, according to Morgan Stanley may lead to a rise in volatility.
However, the recent outcome in three out of the five state elections, which voted the incumbent Bharatiya Janta Party (BJP) to power, the street is more convinced about the current establishment retaining power. This confidence triggered a stellar rally in the benchmark indices and the broader markets in December, taking the Nifty 50 and other indices to newer highs.
US Markets
Cues emerging from the US stock and bond markets is another factor. The US Federal Reserve is poised to cut interest rates in 2024. However, contrasting statements from multiple Fed officials has resulted in increased volatility in the US markets, which may also impact Indian equities
Oil Prices
While India remains less affected than the past due to rising oil prices, a further rise may present headwinds for the economy, according to Morgan Stanley's note.
Monetary Policy
Morgan Stanley's base case for India's monetary policy is a status quo. However, it believes that inflation and moves from the US Federal Reserve will be key to determine the future stance of the Reserve Bank of India.
Corporate Earnings
India still remains among Morgan Stanley's top picks and the brokerage said that the country's fundamentals are underscored by strong macro stability, flexible inflation targeting and stable non-portfolio foreign flows.
It further said that earnings growth is expected to be about 20% annually over the next three to four years, led by an emerging private capex cycle, re-leveraging of corporate balance sheets and unfolding of a structural rise in discretionary consumption along with a reliable source of domestic risk capital.
Bond Flows
Morgan Stanley believes that bond flows can start affecting the Balance of Payments positively starting next year.
The inclusion of the IGBs will be staggered over a 10-month period from June 28, 2024 to March 31, 2025, implying an inclusion of 1 percent weightage per month.
Rise In Net Issuances
Indian markets saw 78 Private Equity exits worth nearly ₹1 lakh crore all through 2023, according to a note from Nuvama Alternative & Quantitative research.
Morgan Stanley believes that the rise in net issuances, or the process of offering shares to raise funds from investors, may lead to more volatility due to highly volatile FPI flows.
Is The Market Overbought?
Morgan Stanley's note says that while market breadth and institutional flows are at a level associated with a correction, their "composite sentiment indicator" is yet to enter "sell" territory.
"Valuations, in particular market cap to GDP, appear to be stretched, but then share prices have barely kept pace with earnings over the past three-to-five years, whereas we remain in an earnings upcycle," the note said.
The brokerage is "Overweight" on financials, technology, consumer discretionary and industrials, while being "Underweight" on other sectors.
Morgan Stanley's Base Case, which sees the Sensex at 74,000 assumes a continuity in the current government with a majority mandate, robust domestic growth, the US not slipping into a protracted recession and benign oil prices.
The brokerage is projecting the Sensex to hit 86,000 as part of its bull case scenario in which oil prices fall below $70 per barrel in addition to the points highlighted in the base case. A renewal in US growth cycle, strong bond flows surprising to the upside and earnings growth compounding 24% annually over financial year 2023-2026 add to the base case.
However, its bear case sees the Sensex dropping to 51,000 where India's election delivers an unclear mandate, RBI tightens to protect macro stability, oil prices shoot past $110 per barrel and a US recession leads global growth lower.
