This trend is not peculiar to India but across the globe. Retail inflation rate in Pakistan, Sri Lanka, Turkey, Latin America and even the US, where historically inflation rarely crosses 4 per cent, has leapt to multi-decade highs.
In a way, this was expected given how central banks across the globe printed money in the last couple of years. Loose monetary policy always leads to high inflation. And, now a tightening will begin. This has spooked investors.
Benchmark indices on Monday tanked following the global markets, extending losses to the fourth session. Poor quarterly numbers and weak analyst commentary added fuel to the fire.
“We expect equity markets to remain volatile globally. Given the uncertainties, the feel good factor post sentiment booster by RBI might not last long in Indian markets too,” said Gaurav Dua, Head – Capital Market Strategy, Sharekhan by BNP Paribas. “Thankfully, the healthy inflows in the domestic market would support Indian equities.”
The rising inflation will put companies, especially those in the consumption and discretionary sector in a dilemma. Their raw material cost is rising sharply, which they pass on to consumers but this could lead to drop in demand. And if they don’t, the bottomline and margins will contract.
Rising input cost is expected to result in downgrade of earnings estimates in many sectors during the Q4 result season. After the earnings upgrades for the past 4-5 quarters, weak demand and higher costs are expected to lead to cuts in FY23-24 estimates for auto, auto ancillaries, cement, building material, consumer staples and oil marketing companies among others, say analysts.
But, it is not as if inflation is bad for everyone. There are some segments of the market which are going to reap the rewards, especially those who supply raw materials to the companies. Analysts expect earnings upgrades in real estate, banks and select energy (Reliance Industries, ONGC) and commodity companies (especially metals).
“From investors’ perspective, this calls for a review of the investment portfolio to factor in the possibility of high inflation for a longer period and its impact on various sectors,” said analysts at Sharekhan.
The broker suggests two key changes:
- Reduce exposure to broader markets and focus on large-sized businesses with pricing power and healthy balance sheet
- Readjust sector allocation in favour of sectors like IT services, defence companies, real estate, banks, metals, etc that are not likely to see much of an impact on their earnings estimates due to inflation.
Yogesh Patil, Head of equities at LIC Mutual Fund, also agreed and said market leaders with strong brand and customer stickiness might be less affected during the inflationary phase as they might be able to pass on the rise in input cost to clients.
“Historically, it’s seen that rising inflation leads to lower consumption, and it affects the majority of sectors in terms of revenues and margins. Metal companies and the energy sector may do better in the short run. IT, logistics and consumer sectors may be less affected,” he added.