The financial markets have shown surprising strength in recent weeks. Foreign investors poured more than $5 billion into Indian equities in January, making it the best first month of the year for share prices since 1994 and helping the rupee claw back some of the ground it lost at the end of 2011.
The strong opening comes despite the fact that there continue to be storm clouds on the horizon, with both the International Monetary Fund and the World Bank releasing very cautious assessments about the world economy this year. The US economy has done better than expected, but that is balanced out by the fact that the euro zone mess still seems intractable. Neither has much changed on the ground as far as the Indian economy goes, though the latest readings of the Purchasing Managers’ Index for January point to robust manufacturing growth across the world.
The current rally seems to be riding on a strong revival in the risk appetite of global investors. The monthly survey of fund managers conducted every month by Bank of America-Merrill Lynch, a mood gauge that is closely tracked, had hinted at “a reawakened sense of optimism towards the global economy and greater appetite for risk”. The optimism came as part of the best one-month improvement in the growth outlook since May 2009, close to the post Lehman bottom. The optimism of the January survey is in stark contrast to the December results, which reeked of risk aversion and showed that liquidity conditions were at their worst level since early 2009, when all hell broke loose in markets across the world.
The revival of confidence among large global investors is welcome, especially given the large current account deficit India has to finance with capital inflows. But there still seems to be some disconnect between the sizzle in the financial markets and the fizzle in the real economy. After all, the next 12 months are likely to see lower global growth and there continue to be significant risks to global financial stability. The current rally may soon peter out.
Is the current spurt in financial markets sustainable? Tell us at email@example.com