Sensex drop from new peak shows result high can’t last6 min read . Updated: 24 May 2019, 01:24 AM IST
- Before you get upset at missing the big jump, know that the immediate response of the market may not sustain
- Taking greater exposure to equity markets on the basis of election euphoria may be risky, especially if you have goals to be met in the near future
Anticipating the final result of Election 2019, the bellwether stock market index, the Sensex, hit a lifetime high of 40,000 as early as 10.35am on Thursday, before slipping and closing at 38,811. The anticipation of a Narendra Modi-led Bharatiya Janata Party (BJP) win was palpable on the back of the exit polls four days earlier that predicted this win. The markets had celebrated that news with a 1,422-point or 3.75% jump over the day. The stock market is clearly indicating that it likes the stability and continuity that the Modi government coming back to power brings with it.
But before you get upset at missing the big jump, know that the immediate response of the stock market may not sustain. The stock market is long-term about fundamentals and short-term about sentiment. So what do the fundamentals look like? In the run-up to the results, the weak economic data, including lower IIP (Index of Industrial Production) numbers, auto sales as well as the ongoing liquidity concerns combined with global unease on trade wars and oil prices, took precedence over the electoral expectations of the nation.
As the result is digested, the worries about earnings growth, falling consumption and jobs will all come back. “In the second term, we expect increased infrastructure spending, better GST compliance-led fiscal discipline and robust inflation management which shall lead to reduced cost of capital," said Sundeep Sikka, executive director and CEO , Reliance Nippon Life Asset Management Ltd. “Business cycle has clearly bottomed out and we expect corporate profitability and confidence to improve hereon," he added.
Markets can take a U-turn on their election day behaviour if the expectations are wrong. Take, for example, the 2009 story, when the markets celebrated a stable dispensation at the centre with the Sensex and the Nifty hitting the upper circuit breaker twice, after which trading had to be halted for the day. This is the same market that five years ago in 2004 had gone in the other direction when the same Congress-led coalition had won the election. In 2004, markets responded to a weaker coalition with the Left parties perceived as anti-growth with two successive days of market declines of 6% and 11%. But then, over the five-year term though, the Sensex gained a massive 217%, a compounded annual growth rate (CAGR) of 26%. This means that ₹1 lakh invested in 2004 grew to ₹3.2 lakh by 2009. In contrast, in the next five-year term of the 15th Lok Sabha till May 2014, the markets saw a 71% gain and in the last five-year term, despite a stable government seen as market friendly, the markets gained 60%, a CAGR of 10%.
Experts sounded a note of caution to temper the exuberance seen in the market. “Valuation-wise Nifty at 12,000 trades at around 19 times forward PE (price-to-earnings) basis. Hence, we see limited upside potential in the Nifty in the near future," said Rusmik Oza, head of fundamental research, Kotak Securities Ltd.
“The economic picture in the run-up to the election plays a role too. The country has seen a slowdown in growth for the last two quarters. Rural income and spending, especially, seems to be under higher stress. These are demanding challenges that face the incoming government. Should the government announce structural reform measures to address these tasks, the markets will respond positively. Unlike 2014, the market does not have tall expectations from the new government; this, to an extent, will help equity returns over the next few years," said Janakiraman R., vice-president and portfolio manager, emerging market equity, Franklin Templeton, India.
Markets have generally been strong post-election, delivering double-digit returns in the one-year after the election. The return of a stable government with continuity in policies will see funds flowing into the market in the near term, which will keep markets up. Over time though, the economic fundamentals and global factors will kick in to drive the direction of the markets. What also works for Indian markets at this stage is the strong domestic liquidity position with Indian institutions taking the lead in keeping markets afloat. The mutual fund industry has emerged as a key player in the markets and with SIP inflows at a steady ₹8,000 crore-plus a month and the fillip that equity market investments will get with the election results, they will continue to be a stabilising factor.
Debt markets too saw a softening of yields as the results came in. Stability and continuity of policies are being seen as the biggest takeaways for the market. Fiscal consolidation and clarity on the collection and expenditure numbers is a primary ask for the bond market from the government. “The government has been very responsible on fiscal deficit. It has managed to meet its disinvestment targets, including using innovative ways such as ETFs (exchange-traded funds), which the previous governments were unable to do. Going forward, this is going to be an important consideration for international investors and we need foreign capital to flow in," said Ajay Manglunia, managing director and head, institutional fixed income, JM Financial Products Ltd. Expansion of credit without being inflationary is what he expects to kickstart the investment cycle.
“The market will look for more details on how fiscal targets will be achieved. That remains the most critical part. While it is known that fiscal deficit targets have been met, one does not get the numbers to be able to reconcile it oneself," said Mahendra Jajoo, head of fixed income at Mirae Asset Mutual Fund.
What you should do
When the market moves 3-4% on a single day, you may be tempted to join the party. Calls from brokers and others advising you to increase your exposure to equity or to use the high levels to exit from positions may all add to the pressure to do something. But making investment decisions driven by greed to make more, fear of missing out or to avoid the feeling of regret of not being part of the market rally are all wrong reasons to make changes to your core portfolio.
Don’t let the markets dictate the asset allocation in this segment of your portfolio. Taking greater exposure to equity markets on the basis of election euphoria may be risky, especially if you have goals to be met in the near future. Similarly, don’t overlook the need to rebalance the portfolio that may have become equity-heavy with markets rising. Take the opportunity to book profits.
Staying with the asset allocation in your core portfolio that is aligned to your goals is the best way to deal with volatile markets. “Our advice to retail investors would be to invest in line with financial goals and risk appetite, rather than market conditions. We recommend that investors come into equities with a horizon of five years or more and invest systematically. The latter can help deal with equity market volatility as well as provide benefits from the power of compounding," said Janakiraman.
If you have a tactical portion in your portfolio, it should already have been tilted to equity significantly. Even for this portion of your portfolio, set targets and book profits as they are met. A steep rise in markets will be followed by a correction, particularly if they are seen as reasonably valued as the Indian markets currently are. If you hold on in the hope for more you may see the profits washed away.