What happened to the great Indian bull run?

The Indian stock market, as reflected by the benchmark S&P BSE Sensex, fell for six straight sessions and is down close to 3.5% in June. The stock market ended the day on Tuesday at its lowest level for the year and has corrected over 10% from the all time highs seen on 4 March. That’s not all. The expert commentary in the marketplace suggests that stocks will remain weak in the near term, and some more correction cannot be ruled out. But this is not the way things were supposed to be.

In 2014, when markets gained about 30%, the consensus view, especially during the general elections and its immediate aftermath, was that Indian markets are in a bull run and equity investors are set to see handsome gains in the short to medium term. Clearly, as things stand today, the story is not playing out according to the script, and investors who entered or made substantial investments in 2015, are wondering what happened to the great Indian bull run.

Multiple reasons, both domestic and international, can be attributed to the current state of the market. First and foremost is the gap between expectations and the unfolding reality. Earnings have disappointed investors and, after yet another poor show for January-March quarter, analysts say that at best performance will improve in the second half of the financial year or later. Everyone is not willing to hold stocks and wait for earnings revival. Hence, the selling pressure.

On the policy side, despite a rate cut, sentiment on the street got affected by the tone of the monetary policy on 2 June. The central bank also revised its inflation forecast for January 2016 to 6%. Now the “smart money” on the street knows that since the Reserve Bank of India will target 4% inflation from next financial year, there is practically no scope for further cuts in interest rates. Moreover, bringing down inflation from 6% to 4% will not be an easy task and there is a possibility of a drought this year, which can affect inflationary expectations.

This is the reason why markets fell over 2% on the day monetary policy was announced and continued to extend losses for a week. In fact, stocks in some of the rate-sensitive sectors, such as real estate, have been badly hammered. It’s not that another 25 or 50 basis point-rate cut would have significantly alerted fortunes of these companies, but this is how change in sentiment plays out in the market. (One basis point is one-hundredth of a percentage point.) A section of the market is also worried about the deficient monsoon and its effect on growth. For example, rating agency Crisil Ltd has cut its growth forecast by 50 basis points to 7.4% for the current year due to the possibility of a weak monsoon.

Apart from domestic reasons, some international factors are also affecting markets. The uncertainty over rate hike in the US is taking a toll. Though the consensus view is that India is better prepared compared with 2013, when the US Federal Reserve first announced that it will start tapering the asset purchase programme, a rate hike in the US could still entail volatility in the short term. The rise in bond yields in some of the European markets, notably Germany, is also affecting the financial market. Consequently, foreign investors sold Indian stocks worth $67 million in May and are net sellers in June to the tune of $292 million so far.

However, at the fundamental level, both these factors are not exactly negative. The hike in interest rates in the US will depend on the strength of economic activity, and rise in yields in Europe is on the back of expectations that risk of an outright deflation is subsiding. But financial markets, fuelled by liquidity for years, will adjust in their own way. In the interim, it could lead to volatility.

What does this mean for Indian markets? Action in the bond market, both in Europe and the US, will continue to affect flows. The stock market in China (Shanghai Stock Exchange Composite Index), which has gone up by about 160% in the past one year, largely on the back of debt fuelled investments, is looking wobbly and a sharp fall can affect capital flows in the region. However, the problem for Indian markets is more domestic in nature. Unless the signs of earnings revival are visible, it will be difficult for markets to move up decisively. So, should investors wait for things to improve? The positive aspect of the fall is that all the bad news is known to the market and is largely priced in. This is not to suggest that markets cannot correct in the short run, but we also know what will work for India in years to come. Therefore, phases like these open up opportunities for long-term investors. Consider this: In 10 years to 2014, markets witnessed a massive bull run, a global financial crisis, years of underperformance, and a turnaround. Between all this, returns from Indian markets stood at about 15% compounded. Therefore, it makes sense for investors to not lose sleep because of near-term prospects and focus on the long term. And yes, this includes not worrying and waiting for bulls to take charge.