El Niño Forecast Looms Over India's Monsoon and Equity Markets

A predicted El Niño development by April 2026 poses a significant threat to India's crucial monsoon season. The natural climatic phenomenon, known for causing weaker and erratic monsoons, higher temperatures, and drought conditions, is expected to disrupt agricultural output and ripple through key economic sectors. This forecast follows the last El Niño event in 2023 and comes as the current La Niña phase is projected to transition to neutral before El Niño's potential emergence.

Sectoral Ramifications

The agricultural sector and the broader rural economy are most vulnerable. El Niño typically brings below-normal rainfall to India, particularly in central and northern regions. This can suppress crop yields for water-intensive Kharif crops like rice, sugar, corn, and cotton, impacting farmer incomes and subsequently dampening rural spending. Companies reliant on this demand, including FMCG, two-wheeler manufacturers, and rural lenders like NBFCs and micro-finance institutions, face increased risks from strained asset quality and higher funding costs.

Rising temperatures associated with El Niño also drive up power consumption due to increased use of cooling appliances. While hydropower output may decline owing to reduced water availability, thermal power producers could benefit. Higher food prices stemming from reduced agricultural output also risk feeding into headline inflation, pressuring profitability for food processing firms and impacting household budgets.

However, the severity of impact varies. Companies like AC manufacturers Amber Enterprises India Ltd. and PG Electroplast Ltd. might benefit from higher temperatures, but existing inventory levels at OEMs such as Voltas Ltd. and Blue Star Ltd. could temper profit growth. Similarly, sugar companies might offset lower cane production through increased diversion to higher-margin ethanol.

Inflation and Monetary Policy Outlook

With food comprising approximately 46% of India's Consumer Price Index (CPI) basket, fluctuations in agricultural prices significantly influence headline inflation. While government interventions like export restrictions can offer some relief, persistent food price pressures remain a concern. This could compel the Reserve Bank of India (RBI) to maintain a cautious monetary policy stance, potentially delaying anticipated interest rate cuts to preserve its inflation credibility, even as FY27 inflation is projected around 4%. A new CPI series set to roll out in February, which reduces food's weight, may lead to less volatile inflation readings.

Investment Strategy Adjustments

Historical data suggests subdued returns for Indian equities during El Niño years, with the exception of 2009's post-financial crisis recovery. Investors are advised to favor defensive sectors and urban-focused companies, along with power-related stocks. Conversely, rural-facing consumer firms, rain-fed agricultural plays, and financial institutions heavily exposed to the rural credit market are considered more vulnerable and may warrant avoidance.