Globally, the biggest headwind is the rate of tapering, the degree of hawkish stance to be taken by FED to reverse its quantitative easing (QE) policy. Surely, it will affect the liquidity of global market, which is the key factor for the rally during the pandemic. A clarity of the rate of QE normalization was expected to emerge by September to December 2021. A part of this affect is already visible, in the disparate momentum of crypto, commodities, fall in the interest of IPOs and mid & small caps.
The market was eagerly awaiting to hear and assess the statement of Jerome Powell in Jackson Hole meeting. It was expected to provide a glimpse of the tapering plan. The speech has made it clear that tapering will happen in 2021 itself, a bit ahead than the earlier consensus. A strong reiteration along with the clarity that it will be of small amounts, based on the upcoming data like employment, inflation, and delta variant. Now, the market will become much more ensured with a drop in the uncertainty of the speed and size of tapering. This is expected to reduce the financial risk of global market and help emerging markets (EMs) like India.
It is sure that extra liquidity will reduce over a period, however, slowly it will be supplemented by the rise of economic growth & stability. Long-term monetary & fiscal policy is expected to be maintained ensuring financial stability and corporate earnings growth. Today equity valuations have reached to peak levels, the second headwind along with tapering, which will limit the rate of return. However, premium valuations will prevail supported by unlocking of world economy and help to sustain above the long-term average trend.
Despite these two headwinds (fall in liquidity & high valuations), we feel that this consolidation will be on a short to medium-term basis, supported by low interest rate cycle and supportive policies till 2023. The other risk is the rising geo-political risk for which market is not much concerned currently.
The broad market can rebound, however on a long-term basis the momentum will be more with largecaps as they are more attractive based on a risk to reward basis. Largecaps are expected to benefit more from unlocking, fair valuation compared to the broad market and momentum to safe assets amid the rising global volatility.
The ongoing correction of mid & small caps, their broadest indices have dipped by 6 percent and 10 percent from 52-week high, respectively, has provided opportunity to trade on a short to medium-term basis. The degree of fall is widely scrambled, which makes the call on a stock-to-stock basis. It also provides prospects for long-term investors to accumulate high quality midcap stocks. Accumulation seems the best strategy as investors should trade with a cautious, in a positive bias, as volatility persists. Be sure of what type of stocks, importantly the business model, we are owning as overall valuations continue to be absurdly high.
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