Eyes on December 2024: Will the Bull Run Continue?

As we analyse the movement of the equity markets in the months to come, we see some specific key factors that will influence the direction of the path. Among them, the rising risk of a U.S. recession could negatively impact not only exporter earnings but also capital flows. Further, domestic demand and earnings’ dynamics need to show a recovery from the second quarter onwards while the valuations will play a crucial role. Here is the lowdown on the scenario that will play out. 

As we navigate through the ebb and flow of the global financial markets, our equity market has demonstrated a strong resilience. While August began with a mini-meltdown in global equities—a tremor felt across many of the world’s leading stock indices including India—recovery was swift for most, though not for all. September further tested market resilience with a fresh bout of jitters, triggered by unsettling macroeconomic data from the United States. 

These events underscore a growing trend: market volatility is on the rise, and it shows no signs of abating as they come in clusters. Amid these turbulent times, the BSE Sensex representing the Indian equity market has consistently outperformed a majority of its global counterparts not only in volatile times but also over various other timeframes. In an environment riddled with fluctuating markets and geopolitical uncertainties, the Sensex has not only weathered the storms but has also charted impressive gains. 

Among the emerging markets, while heavyweights like the Shanghai Composite and the Russian Trading System Index (RTSI) faced significant downturns, the Sensex soared to achieve a remarkable one-year growth of 22.07 per cent over the past one year. This achievement is bolstered by its year-todate performance, which shows a robust increase of 13.43 per cent—a figure that outshines many indices from both Western and Asian nations. 

The chart alongside gives a glimpse of returns of different indices for different time periods as on September 13, 2024. 

However, as discussed above, we are still not out of the woods. Global uncertainties still loom large and investors are increasingly pondering over the future trajectory of the equity market. In this analysis, we will endeavour to ‘crystal gaze’ into the future, speculating on where the market might stand as we approach the close of 2024. 

The Current Status 

Impact of Geopolitical Tensions on the Equity Market 

Ongoing conflicts and economic shifts, such as the RussiaUkraine war and tensions between Iran and Israel, have triggered ripple effects across the global markets. This heightened volatility presents numerous challenges for the world equity markets, and India is no exception. Indian equities are particularly sensitive to fluctuations in crude oil prices. Escalating geopolitical tensions contribute to global inflation by disrupting supply chains, driving up commodity prices, and creating trade uncertainties. 

However, a study by JP Morgan analysing significant geopolitical events from Germany’s invasion of France in 1940 to Russia’s invasion of Ukraine in 2022 has revealed that such events usually have no lasting impact on Large-Cap equity returns. The study examined equity market performance three, six and 12 months after each event, comparing these results to returns during periods without notable geopolitical events. 

It concluded that while the markets tend to underperform in the three months following an event, six-month and 12-month returns are, on an average, identical to those during periods without geopolitical disruption. For the average equity investor, it’s as if the event never occurred. The 1973 oil shock was the notable exception to the pattern, as it had a lasting impact on equity returns. 

This was primarily because oil remained in short supply for an extended period, leading to a macroeconomic state of ‘stagflation’—high inflation coupled with declining productivity growth. In essence, the high oil prices of the 1970s crippled economic efficiency. In contrast, after Russia’s invasion of Ukraine disrupted the global energy markets in 2022, additional oil supply quickly became available, mitigating the economic and market impact. Consequently, the recent shock was less severe and prolonged compared to its 1970s counterpart. 

U.S. Federal Reserve Rate Cut and Market Reaction
The markets are approaching a new chapter as the Federal Reserve prepares for rate cuts. While theory suggests that lower rates should boost valuations, historical evidence often tells a different story. Past rate cuts, such as those in 2001 and 2007–08, led to significant market downturns, and in 2019, the equities remained largely flat. The reason is that rate cuts typically follow an earnings slowdown, where EPS downgrades and weak growth outlooks outweigh the benefits of reduced capital costs. 

Only when the rate cuts are substantial and the valuations are attractive do they have a revitalising effect. The market’s reaction to rate cuts is highly context-dependent. In 2001, the Federal Reserve’s rate cuts came late—nine months after the technology bubble burst—and domestic demand was sluggish, with the BSE 500 top-line growth below 10 per cent. As a result, Nifty dropped 35 per cent, adding to a 25 per cent decline from the previous year. 

Conversely, in 2007, the Federal Reserve rate cuts coincided with strong domestic and emerging market demand, even as the U.S. economy slowed, leading to a 30 per cent rally in Nifty initially. However, lofty valuations and the Global Financial Crisis (GFC) triggered a severe crash in 2008. In 2019, the Federal Reserve’s timely pivot (before the yield curve inversion and with a stable labour market) and the prior market de-rating in 2018 helped rate cuts to be more effective. 

Currently, several U.S. labour market indicators, including full-time jobs and hiring rates, signal ‘not so bad’ conditions. However, the domestic demand remained weak with the BSE 500 top-line growth below 10 per cent in the latest quarter. This was primarily due to an intense heat wave and general election (more on this in the following paragraphs). This combination calls for a bit of caution but is not an alarming situation. The following table gives you a snapshot of different variables in the last three U.S. Federal Reserve rate cuts and market reaction., 

Quarterly Results and Earnings Season
The June quarter’s financial results of India Inc. present a mixed yet promising picture. Revenue growth year-over-year (YoY) stands at a solid 9.36 per cent, showcasing steady top-line expansion across companies. Notably, net profit growth surged by 17.8 per cent YoY, reflecting strong bottom-line improvements driven by effective cost management and operational efficiencies. 

The operating profit growth and EBIT growth also displayed robust numbers, rising by 15.165 per cent and 15.915 per cent YoY, respectively. The operating profit margin growth is marginal, at just 0.16 per cent. Out of the companies that reported, up to 2,392 delivered positive results, compared to 1,606 with negative outcomes, highlighting a broadly favourable earnings season despite some underlying challenges. 

Moving ahead from the given numbers, let us move to how Nifty 50 numbers have done against the street expectations. The quarterly earnings reports of companies in Nifty 50 for Q1FY25, along with the preceding five quarters, offer insightful trends into the performance consistency and market expectations’ alignment of these leading Indian companies. Here’s a breakdown and analysis of the performance dynamics across these periods. 

Nifty 50’s quarterly earnings from Q4FY23 to Q1FY25 present a volatile pattern, with the percentage of companies surpassing estimates peaking at 42 per cent in Q4FY24 before dropping to 24 per cent by Q1FY25. The reasons for such a fall in the latest quarter could be attributed to the elections in April-May and the intense heat wave, resulting in lower economic activity. On the optimistic side, the management commentary indicates the possibility of renewed momentum. The following table provides a glimpse of the quarterly earnings of Nifty 50. 

The following table gives you a glimpse of quarterly earnings of Nifty 50 Against Estimates 

For many, the valuations of the Indian stock market may appear stretched or having emerged as the most expensive market compared to other global equity indices. With Nifty 500’s trailing 12-month price-to-earnings (PE) ratio at 26.96 times, it is still trading below its one standard deviation long-term mean. However, despite Nifty 500 trading above its historical average, a closer examination reveals that it is still relatively less expensive when considering its standard deviation (4.9 times) from the mean valuation. This indicates that Nifty 500 has some headroom before it becomes overly expensive. 

If we analyse the historical peaks from where we have seen a sharp decline in Nifty 500, we find that we are not yet at an exorbitantly higher level. Despite the current valuations hovering above the historical averages, it is imperative to note that they remain well within reasonable boundaries, with no indication of entering a bubble zone. When we analyse the current price-to-book value (PBV) ratio of Nifty 500, it is at 4.43 times, which is more than one standard deviation higher than its long-term means. 

This suggests that the valuation is elevated. Nonetheless, it should be taken with a pinch of salt as it ignores intangible assets and does not consider a company’s future earnings’ potential or growth prospects. While the PB ratio can be one of the many tools in an investor’s arsenal, relying solely on it without considering other financial metrics and qualitative factors can lead to misguided investment decisions. 

A comprehensive approach that includes earnings’ potential, cash flows, industry dynamics and intangible assets is often more effective in evaluating a company’s true performance. The following chart shows the movement of PB ratio of Nifty 500 since 1997. Historical analysis suggests there is still headroom before reaching critical overvaluation levels. 

Taking a Leaf from History
To understand the seasonality of the performance of the Indian equity market in the last quarter of the calendar year, we analysed the historical data. Our analysis of performance of last 45 years of BSE Sensex shows that about 62 per cent of the time, the quarter has ended with positive returns, as seen in 28 instances, while negative returns were observed in 17 instances. Over the 45 years taken into account, the average return stands at 3.32 per cent, reflecting a generally positive market sentiment during this quarter. 

However, the returns show significant variability, as indicated by a high standard deviation of 11.92 per cent. The range of returns is wide, with the maximum gain recorded at 31.12 per cent and the maximum loss at (-) 26.18 per cent. The median return of 3.26 per cent closely matches the mean, indicating that the distribution of returns is relatively balanced, albeit with notable outliers. This data highlights the mixed yet generally optimistic performance of Sensex during the last quarter of the year. The graph shows the October to December return performance of Sensex since 1979. 

Conclusion
Looking ahead, we see three key factors that will influence the path of the equity markets in 2024. First, the rising risk of a U.S. recession could negatively impact not only exporter earnings but also capital flows. Second, domestic demand and earnings’

Three key factors will shape the short-term trajectory of equity markets. First, the US Federal Reserve's rate cut decision, including its timing and magnitude, will be critical. Second, global geopolitical tensions and their developments will have a significant impact. Third, the quarterly financial performance of companies, which was underwhelming in the previous quarter, will be crucial. The next two quarters will play a pivotal role in determining market direction, making them essential to watch for potential recovery or further weakness. 

dynamics need to show a recovery from the second quarter onwards. If domestic strength persists, the markets could withstand U.S.’ rate cuts more effectively. Lastly, valuations play a crucial role. If the markets pull back before the rate cuts, a timely Federal Reserve policy reversal might provide some support. 

While our outlook for the medium to long term remains positive, we anticipate short-term volatility as the markets adjust to the peak of the rate hike cycle. High interest rates, unprecedented in recent times, elevate the risk of economic missteps, potentially leading to a slowdown or recession in developed economies, which would impact domestic exportdriven growth. 

Defensive sectors like consumer, technology and healthcare are beginning to outshine cyclical sectors such as capital goods, real estate and PSUs. Although we remain optimistic about medium-term earnings, near-term growth has been hampered by diminishing commodity price benefits and tepid revenue growth. Consequently, the market is likely to favour companies with robust business models, sustainable cash flows, and long-term earnings’ growth potential. 

Given the recent market surge, we believe much of the positive narrative is already priced in, making style and sector rotation critical for outperformance. Despite strong gains in Mid-Caps and Small-Caps in recent months, the valuation cushion for these segments has shrunk relative to the large-caps. As a result, we expect the broader market to experience some time correction in specific areas, with investment flows likely shifting toward the large-caps. In this context, we anticipate that Nifty 50 could achieve new highs in the near term, potentially exceeding 26,000 by December 2024.