What explains the cool disregard for fundamentals? In one word: Liquidity
Thanks to a shift in monetary policy by major central banks, investments by foreign investors increased considerably last year
Hope springs eternal in the human breast, which perhaps explains why some outrageously hopeful investors took India’s markets to greater heights in 2019, despite economic indicators getting progressively worse. The Nifty 500 index rose 7.7% last year, a marked improvement over 2018, when the index had fallen 3.4%.
All of this, while growth in gross domestic product (GDP) fell to record lows during the year, and key indicators, such as electricity production, declining in recent months. What explains the cool disregard for fundamentals? In one word: Liquidity.
Thanks to a shift in monetary policy by major central banks, investments by foreign investors increased considerably last year. Foreign portfolio investors’ (FPIs’) net purchases of Indian equities amounted to ₹94,000 crore last year. In 2018, FPIs had been net sellers of Indian equities worth ₹35,000 crore. While domestic institutional investors (DIIs) toned down purchases, overall institutional flows into Indian equities stood at ₹1.36 trillion last year, nearly as high as the record inflows of ₹1.4 trillion in 2017. The easing US-China trade war also helped sentiments.
The gush of liquidity found its way, expectedly, into some of the largest and most liquid stocks, making the divide between large stocks and mid-cap stocks even greater in 2019. “The weak performance of the mid-cap and small-cap indices reflects the general slowdown in the economy," analysts at Kotak Institutional Equities wrote in a note to clients. Large-cap indices were, of course, in a universe of their own.
Even within the large-caps, demand was restricted to certain pockets such as financial services. The industry-wide truce on telecom tariffs led to huge gains for Reliance Industries Ltd and Bharti Airtel Ltd.
Besides, investors rewarded some stocks handsomely for the gains arising from the cut in corporate tax rates in September.While there was a great divide between large-cap and mid-cap stocks, things were somewhat better compared to 2018, as the chart alongside shows. In 2018, the only category of stocks that made decent returns was the one with over a ₹2 trillion market cap.
Last year, things were better, with some other segments also doing well. In 2019, nearly 22% of all traded stocks advanced, better than the 17% that advanced in 2018. Of course, one big differentiator last year, apart from the improvement in liquidity, was the corporate tax cuts. They were the single biggest driver of market returns last year. “The Nifty 50 index’s entire return for 2019 has come after September 19," Kotak’s analysts said. Investors have also been hopeful about some other fiscal stimulus, perhaps in the form of tax cuts for individuals.
At the end of the day, investors are still riding largely on the hope of a better tomorrow. Of course, their trade remains slightly hedged to the extent of the overweight position on a handful of large stocks.