What would a trade war mean for overall corporate earnings?
Fears of rising protectionism are back to haunt equity investors. Global stock markets were spooked by President Donald Trump’s intended imposition of import tariffs on steel and aluminium imports. The worry, although it’s early days yet, is that if a retaliatory move is announced by other countries, it could lead to a global trade war.
Indian equities too corrected with NSE’s Volatility Index (India VIX), or the fear gauge, rising more than 9% on Monday. Although a formal order on this announcement is yet to be signed, once that happens, it will have a bearing on companies having exposure to the US.
Nearly 25% of BSE 500 companies are almost completely driven by global factors (see Chart). “Similarly, from the perspective of Nifty, about one-third of overall Nifty revenues are from companies having global exposure and hence are at risk due to such events,” Deepak Jasani, head, retail research, HDFC Securities said.
This means, in the admittedly extreme event of a global trade war, earnings of such entities could be at risk, impacting the overall Nifty earnings estimates.
On Monday, metals and mining stocks fell in a knee-jerk reaction. But domestic brokerage house Kotak Institutional Equities foresees limited impact. “The US trade protection measures will lead to temporary disruption in a few regional markets. However, we believe the extent of steel mill/aluminium smelter restarts in the US will not be meaningful to disrupt the outlook on global aluminium and steel over the medium to longer term,” it said in a report.
Other sectors that could feel the heat if trade restrictions tighten further would be auto ancillaries and engineering goods exporting companies such as Motherson Sumi and Bharat Forge since they have decent exposure to the US market. Among automobiles, the JLR business of Tata Motors could be hit, analysts said. Share prices of the companies mentioned above corrected sharply on Monday.
In the recent past, IT and pharmaceutical companies have been key casualties of policy developments and business dynamics in the US. For some, company-specific problems have added to the woes. But since these stocks have already seen sharp corrections, the downside in most of them from current levels is limited, analysts said.
That said, it’s too early to forecast an all-out trade war. But there’s little doubt that, together with rising interest rates in the US, Trump’s protectionist policies add to the uncertainties on the external front.
Apart from globally oriented companies, around 22% of BSE 500 companies based on market cap are driven by local macro (stocks that are impacted by macro factors such as export oriented firms), 11% by market share (private sector banks and telecom), and 42% by penetration-driven stories (stocks driven by certain themes such as rural consumption).
So, should one focus on companies driven by local factors? Unfortunately, things aren’t too hunky-dory on the domestic front as well. There are concerns relating to worsening fiscal deficit, rising interest rates and a badly limping banking sector.
In such a situation, perhaps it’s time for those overweight on equities to book profits, analysts said.