Markets should be able to withstand inflation up to 8%: Credit Suisse

Indian equity markets should be able to withstand inflation up to 8 per cent, said analysts at Credit Suisse Wealth Management in a recent note.

Should the rate of inflation move higher than this, the valuation of Indian equities could deteriorate further, they cautioned.

The fall from the peak levels has seen Nifty’s 12-month forward price-to-earnings (P/E) ratio of 17.6 dip toward its 10-year and 5-year (pre-COVID) average of 16.9, which suggests that valuation froth of Indian equities has settled, said the Credit Suisse analysts.

"We, however, continue to believe that India’s valuation relative to its emerging market (EM) peers could stay elevated and that this valuation premium is justified, given the country’s improved fundamentals and a solid structural growth outlook from a medium-term perspective.

"Based on our analysis, the Indian economy and the equity market should be able to withstand inflation up to 7 per cent – 8 per cent. Should the rate of inflation move higher, we could see valuations of Indian equities deteriorate further," wrote Jitendra Gohil, head of India equity research at Credit Suisse Wealth Management, India in a recently co-authored note with Premal Kamdar.

Corporate earnings

Over the next few quarters, Credit Suisse Wealth Management expects corporate earnings to come under pressure as businesses and consumer confidence get hit by aggressive central bank tightening.

As a result, it expects 4 per cent – 5 per cent EPS (earnings per share) cuts to Nifty consensus earnings estimates for the next couple of years.

The key risks to India’s economy, and thus the markets, stem from crude oil prices and a worsening balance-of payment situation, Credit Suisse said.

Meanwhile, the Consumer Price Index (CPI)-based inflation came in at 7.01 per cent in June, falling marginally from 7.04 per cent recorded in May.

In April, headline retail inflation had touched an eight-year high of 7.79 per cent.

The inflation rate remains above the Reserve Bank of India's (RBI's) tolerance band of 2 per cent - 6 per cent.

That said, Credit Suisse remains positive on India’s medium-term outlook and its relative attractiveness compared to other geographies despite inflation related headwinds.

Once oil prices start to fall, Gohil and Kamdar expect foreign portfolio investors (FPI) outflows to abate. In this backdrop, they suggest investors use this correction as a buying opportunity.

On their part, FPIs have remained net sellers in Indian equities for the past nine months with cumulative outflows of around $33.3 billion.

This relentless selling by FPIs, according to reports, has pushed foreign ownership of Indian stocks to a nine-year low of 19.4 per cent.