Global risk-on is the next trigger for the domestic market
RBI’s warning of the risk of a bubble in the equity market in its annual report made the market cautious, in between. RBI has been mentioning about a disconnect between the market and real economy since 2020. As we know this diversion is due to COVID. The actual real economy is dull while the equity market is valued based on its future earnings growth based on an ongoing concern basis. The undertone of the long-term economy is solid and the extra liquidity has supported the market with fiscal & monetary gains. Some sectors have also benefited from pandemic.
The policy is expected to maintain its prejudice reaffirmed by the RBI & government in recent announcements. This liquidity support is expected till the economy stabilises, post that a calibrated reduction in easy money policy is expected. This change will be negative for the market only for a short to medium-term basis while long-term economy & market trend & policy should continue.
Regarding high valuations, the method used by RBI would be based on historical trends which will show high figures given the low real economy today, it shouldn’t be very relevant. If, we value based on future earnings that too is on the higher side and will certainly impact the performance of the market on a short to medium-term basis.
Industries which are at high valuations are IT, Pharma, Chemicals and FMCG, but we should also consider that they have a good outlook limiting the setbacks and increasing validity to trade at premium levels. Cyclicals like Metals are too at high valuations with a mixed outlook and expected to trade weak. Broadly, Mid & Small caps are also at expensive levels with mixed pockets of high & low valuations. Given mismatch in financial figures, the market will reflect premium valuation during the pandemic period till economy & growth rate stabilise.
A domestic trigger was the report of the government working at the next set of stimulus measures. This is to minimise the second wave economic impact, especially for worst-hit sectors. Well, this is unlikely to be a big event for the equity market because the size of the fiscal measures will be limited and towards populist items like MGNREGA, free Food grains, direct cash transfer, MSMEs and vaccination drive. If the government is able to provide a decent cut in fuel excise duty, it will help the market & economy with a drop in inflation forecast and bond yield.
As discussed last week, the benefit of reducing COVID cases continues to influence the Indian market. Hope of drop in localised lockdowns & downgrade in GDP forecast added encouragement to the theme. Corporate revenue is expected to increase from Q2FY22 onwards and a rise in GDP forecast is expected if the economy is able to add traction with a fall in infection rate.
The rally had factored a good amount of these immediate benefits. This is when the domestic market found another trigger from the falling US dollar. The new energy of Risk-on has changed FIIs inflows from negative to positive, recently. This has upgraded the market and moved out of the narrow downside channel, the trend it was following since February 2021, to touch a new high, for Nifty50. About a month INR has appreciated against USD by 4 percent to 72.4 per US dollar, with limited intervention by RBI.
This fall in USD is expected to continue, at least in the short-term by the next FED policy meeting. The FED has indicated a plausible hike in the future but reiterated too that the inflation is transitory beating down worries of a hike in the near-term. High fiscal expenditure by the US government and increased level of Federal debt has weakened the dollar. Oversupply of USD, rising fiscal deficit position & current account deficit is impacting strength of dollar. While recent data of fall in US jobless claims has helped the global market to raise its optimism, this benefit is expected to spread to the rest of world by a rise in economic activities.
Disclaimer: The views and investment tips expressed by investment experts on Moneycontrol.com are his own and not that of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.