Biggest correction in Indian markets, but not the worst yet

Biggest correction in Indian markets, but not the worst yet

And worse I may be yet: the worst is not. So long as we can say ‘This is the worst,’" said Edgar in Shakespeare’s King Lear.

The 58% drop in the benchmark index, Sensex, from its highest close in January is the worst correction the Indian markets have witnessed ever.

When the tech bubble went bust in 2000, the Sensex had corrected by 56% from its peak, and that too if one were to count the sharp fall after the 9/11 attacks as part of that correction. After the Harshad Mehta scam in the early 1990s, the index had corrected by 55%.

But it still doesn’t seem that the markets have seen the worst yet. Global markets are in turmoil, as investors continue to liquidate positions en masse. Friday was one of the worst days the Indian markets faced, but so was the case with most other markets. It hardly helped that amid the selling, news emerged that the UK’s gross domestic product had contracted last quarter, besides which some European firms reported disappointing results.

But of course, the larger worry now is if the global financial system will go out of control and the whole process of liquidating assets and capital flowing to safe havens has only gained momentum.

Also See: Peak to Trough (Graphic)

In this context, FT Alphaville’s blog post called “Quote of the day" is rather apt: “It’s a depressing world when the only safe haven at the moment is a country that has recently nationalised its two largest mortgage companies, bailed out the world’s largest insurance company, is spending $700 billion (Rs35 trillion) buying toxic assets, is injecting $250 billion into its largest banks after high-profile failures and is about to go on a fiscal expansion the likes it has never before seen in its history." The statement was made by Jim Reid, head of fundamental credit strategy at Deutsche Bank AG.

Under the circumstances, few investors want to take any risk, as attractive as some share prices may be. Hindalco Industries Ltd achieved the distinction of being one of the rare prominent stocks in the country to trade below its level on 1 April 2003. That’s when the rally had begun, which means the stock has given away all of its gains in the 2003-08 rally. There are a few other large companies such as Ranbaxy Laboratories Ltd and Dr Reddy’s Laboratories Ltd that also trade lower than April 2003 levels, but then these stocks hardly participated in the rally.

Another shocker in Friday’s trading was the halving of Unitech Ltd’s shares. These prices now suggest that Indian markets are pricing in a strong possibility of bankruptcy of some firms. Of course, those with the highest leverage and dependence on fresh fund infusions have taken the biggest hits in share price. Some firms may not be at the brink of bankruptcy but there’s little buying interest because it’s evident that there would be negative news flow from the company and its sector for some time to come. Take, for instance the metals sector, which is expected to be hurt badly because of the fall in commodity prices. And it’s not that only companies and sectors with some form of overseas exposure will be hit. There are home-grown problems as well, as is now evident with the real estate sector and the financial institutions who have lent aggressively to them. While the markets are already pricing in some of these problems, it’s important to note that the impact in terms of provisions and write-downs is yet to be seen.

The fall in prices could have been much worse but for sustained buying by domestic financial institutions. So far this month, they have bought stocks worth Rs9,200 crore, offsetting a large part of the sales worth Rs14,500 crore by their foreign counterparts. But domestic institutions are increasingly depleting a large part of their cash surplus. One can’t imagine what would happen to share prices if these institutions add to the selling pressure, if faced with large redemptions. So far, domestic institutions and large investors haven’t scrambled for cash the way their foreign counterparts have. With the markets now faced with a long bearish phase, and debt instruments yielding double-digit returns, at least a few may change their strategy. We may haven’t seen the worst yet.

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