Equities mood check: Peaky markets, crawling earnings

Central banks are at the centre of this week's market movements. Investors are keenly watching for potential interest rate cuts by the US Federal Reserve. While widespread expectations suggest that the Fed will maintain its status quo this time around, there is growing anticipation for rate cuts in September. Any hints regarding this will be closely analysed in Fed chair Jerome Powell's upcoming statement.

Adding to the tension, the Bank of Japan (BoJ) and Bank of England are also scheduled to announce their monetary policy decisions in the coming days. Major Asian indices felt the pressure on Tuesday as the BoJ commenced its two-day meeting.

Read this | Developed economies lead the global race to ease monetary policy, for now

The uncertainty isn't limited to Asia; multiple factors are making it difficult for US equity investors to find short-term relief. “Second quarter earnings season continued to deliver mixed results, highlighted by disappointing numbers for two of the Magnificent Seven stocks, Tesla and Alphabet (the parent of Google),” said Saira Malik, chief investment officer, Nuveen. 

Their underwhelming performance has prompted a negative reaction on Wall Street, suggesting that the benefits from artificial intelligence (AI) may already be factored into technology stocks. With Apple Inc., Amazon.com Inc., and Microsoft Corp. yet to report their earnings, any disappointments could lead to increased volatility on Wall Street, potentially triggering a market correction given these stocks' significant weightages in key US indices.

Back home, the June quarter (Q1FY25) results from corporate India have been lacklustre so far. The Nifty50 index companies have posted a mere 0.7% year-on-year increase in net profits, with weak volume growth and moderate margin compression, according to a Kotak Institutional Equities report dated 29 July.

But the Indian equity market seems to have blissfully ignored this. On Monday, the S&P BSE Sensex hit an all-time high of 81,908.43, before giving up some of these gains on Tuesday.The Nifty50 is at a kissing distance from the psychological mark of 25,000. Fear gauge, the Nifty Volatility Index (VIX)rose a modest 2% over the last five trading sessions, indicating a sense of complacency.

The market has cheered modest beats and dismissed large misses in earnings, Kotak said. “The ‘asymmetric’ response of the market to Q1FY25 results (and the FY2025 union budget) shows the irrational exuberance in most parts of the market,” added its report dated 29 July.

Additionally, while some regions in India have experienced heavy rainfall, the overall spatial distribution has been unsatisfactory in July. If this pattern persists into August, food inflation, particularly in vegetable prices, could remain high. Moreover, rural incomes might come under further stress if crop sowing is affected, potentially delaying the Reserve Bank of India's rate cuts. Geopolitical tensions and their impact on oil prices and global supply chains also remain potential risks.

Against this backdrop, India's high valuation multiple offers limited appeal. Bloomberg data shows that the MSCI India trades at a one-year forward price-to-earnings ratio of 22.5 times, a significant premium compared to its Asian peers. Investors continue to find comfort in India's relatively better GDP growth prospects. That said, sustaining such high valuation multiples requires robust earnings growth, and the lack of it could challenge the market's current optimism or risk-on strategy sooner or later.

Also read | Will markets' focus turn to earnings, finally?

“Markets seem to be assuming earnings growth will be robust, but the last four quarterly profit after tax growth for BSE500 companies has been 59/51/23/14% (Q1-Q4FY24) on a modest 2-6% topline growth (non-financial companies),” said an IIFL Securities report dated 30 July.

“Margin improvements won’t repeat in FY25. Rate cuts are needed urgently. Markets indices look decidedly peaky,” it added.