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SBI has predicted only a 4.2% GDP growth in the second quarter.
SBI has predicted only a 4.2% GDP growth in the second quarter.

There may be a reason why stock markets are ignoring the economy

  • Output of core infrastructure industries shrank by 5.2% in September 2019
  • Most high quality large cap stocks have benefited from the lower tax rate, said an analyst

New Delhi: The rich valuation of the Indian stock market is at odds with the economic indicators. Despite sharp decline in the core sector, lower GDP forecast, fiscal slippage, lower consumption, the BSE Sensex has been able to sustain the all-time highs of over 40,000 points.

A study by Kotak Institutional Equities points out that Indian market is trading at rich valuations despite continued weak economic conditions. Most high-frequency monthly indicators indicate further deterioration in the economic conditions over the past few months. The current downturn is partly due to structural factors and thus, mere fiscal and monetary stimulus may not be adequate to revive the economy.

The country's largest public sector bank, State Bank of India, has predicted only a 4.2% GDP growth in the second quarter, Kotak Mahindra Bank expects it to be at 4.7%.

At a time when Sensex is about to touch 41,000 and Nifty has breached the 12,000-mark, the stock market doesn’t seem to mirror the economic fact sheet. Are equity indices oblivious to the economic realities?

“There has been a disconnect between the macroeconomic environment and markets, which could stay for some time. Looking at the current rich valuation of Nify-50 it seems the street is factoring in swift recovery in the economy. We are not sure when the convergence between economy and market will take place," says Rusmik Oza, Head of Fundamental Research, Kotak Securities.

Output of core infrastructure industries shrank by 5.2% in September 2019 as seven of eight sectors witnessed negative growth. The figures for the same month last year stood at 4.3%. During the April-September period, the growth of core industries fell to 1.3% against 5.5% in the year-ago period.

“Although high frequency indicators are not showing any signs of macro improvement the broader Indices are close to near highs because of faster recovery in earnings led by corporate tax rate cut and lower loan-loss provisions for banks. After the reduction in corporate tax rate corporate, earnings have picked up in Q2-FY20 and FPIs have turned positive on India. Sentiment and flows are also driving markets higher as there have been some positive developments on the US-China trade war. Series of intervention by the Finance Ministry in the last two months has changed the mood of the market. There has been a remarkable difference in the performance of the top-20 stocks of Nifty-50 and the rest of the market. Most high quality large cap stocks have benefited from the lower tax rate and to that extent their stock performance has further contributed to the Nifty-50 up move," Oza added.

Further, if a leaked government report is to be believed, consumer spending in India declined for the first time in more than four decades in 2017-18. The average monthly spending by an individual fell to 1,446 in 2017-18 from 1,501 in 2011-12, down 3.7%, Business Standard reported citing the National Statistical Office (NSO) survey that is yet to be released.

Accodring to Vinay Khattar, Head Edelweiss Professional Investor Research, “The current data is extremely bearish. However, Indian markets are expecting the base effect to start playing out from November onward. Thus consequently, the numbers would look better. In addition to this, the government’s focus on pumping significant liquidity in the interbank markets, will led to increased supply of credit and lower interest rates, over an extended period of time, thereby creating demand & economic recovery."

“The money flowing into emerging markets like India, tends to give rise to risk on trade. In addition healthy domestic SIPs, result in supporting market indices at their levels," Khattar further added.

Government’s recent moves to give relief to telecom companies by letting them not make spectrum payments for two years and going full steam ahead with privatization of at least five public sector companies could also keep the markets buoyant.

The mutual fund industry garnered 8,246 crore through systematic investment plans (SIPs) in October, a rise of 3.2% as compared with the year-ago period. With this, the total SIP contribution in the first seven months of the current financial year rose to 57,607 crore as compared with 52,472 crore in April-October 2018, according to the latest data from the Association of Mutual Funds in India (Amfi).

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