Global cues, not Budget, to decide market trend in medium term

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The long expected market correction has started. The Nifty50’s recent high and low are 14,754 and 13,577, a correction of 8 percent compared to the 96 percent rally in a period of 10 months. Our view is that the long-term trend is unlikely to change to a meltdown, it will be an intermediate correction. Our target for Nifty50 is 14,500 for December 2021, assuming high double-digit earnings growth and that premium valuation will stay in 2021. Our rationale is that a correction of 10 to 15 percent is essential for a liquidity-driven rally to bring soundness and moderate the overvalued market, created by the oversupply of global and retail inflows.

It is a well-known factor that a change in foreign institutional investor (FIIs) inflows will impact the domestic market. FIIs brought Rs 1.5 lakh crore of net equity in the last four months and markets were up 30 percent, during the period. A change in trend is visible from January 22, with consecutive outflows. In the later part of the previous week, MFs supported with buying without help to the negative momentum.

The outflow is largely generated by the risk triggered by the over- enthusiasm of global trading. During the week, we had profit-booking and volatility in the global market led by speculative trades undertaken by retail and hedge fund investors.

Speculations are happening beyond the fundamentals of the economy and stocks due to a high amount of funds in the hands of investors which is increasing the risk-taking appetite. Such gambling cannot persist for a long time, which is supported today due to high book profits and easy funding. The market will move toward equilibrium in the medium-term in line with the fundamentals, tightness in easy money either due to margin safety & hike in yield and stringent measures, which may be introduced by the regulator to control risk, improve the safety of the system and lower excess speculation.

In its economic outlook published in October, the International Monetary Fund’s predicted a buoyant global growth of 5.2 percent in 2021. But, since then, rich countries have imposed tighter restrictions due to second and third waves with new variants of the coronavirus. In IMF’s latest forecast, hopes of a strong rebound have vanished though the economy has improved. On the positive side, the industry has adapted to new ways of investment and is working to make itself competitive in a world of social- distancing and remote working. The growth forecast has been pared but good growth can be expected in the second half of 2021 and 2022.

Due to high speculation, fall in growth outlook and fear that the easy-money policy may not stay for long. The global risk parameters have increased despite the US Fed maintaining a supportive policy. This may be due to a lack of clarity on monetary stimulus and the yield curve.

The S&P500 volatility index (VIX) jumped by 50 percent to around 30 in the last few trading days. US’ 10-year yield is on the upside trend, at around 1.1 percent, up 50bps in the last six months due to a likely drop in fiscal and monetary liquidity in the future, hike in inflation and implications of new policies adopted by the new government. The bond yield is forecasted to stay low at 1.3 percent during the year despite expectations of inflation rising to 2.5 percent due to the Fed’s accommodative policy. This is positive for equity in the long term but can disturb the level of optimism due to a hike in cost of funding.

In India, an important event for the market will be the Union Budget 2021-22. The question is if it will be market-friendly? What we feel is if the government does not increase taxes like STT, Long-term Capital Gain and introduce new cess, it will be good for the market.

Other than that, we expect the government to announce populist and efficient funding plan to vaccinate the country. A plan for the below poverty line and rural segment and a subsidy plan for middle class and private sector will be welcome.

The government should increase expenditure despite high deficit gaps for the next two-three years to address the risk of a K-shaped recovery in GDP growth. For example, the European economy is at risk of a double-dip recession in 2020 and 2021. The market expects the fiscal deficit for FY21 at 6 to 7 percent and for FY22 at 5 to 5.5 percent, which will be good for the market to support expenditure.

Special support should be provided to heavily hit segment like hospitality, tourism, healthcare and rural market. Importantly, the government should maintain the reformist agenda, with more privatisation, huge divestment plan (including LIC), recapitalisation and consolidation of PSU Banks, ease foreign investment rules and introduce rapid measures to develop an export hub for the manufacturing sector.

Despite these high expectations, we feel that the Budget may not be the key trigger to decide the trend of the market in the medium-term. But of course, it can add strength to our outlook and help us to perform better than the rest of the world if it is good or in-line with expectations and even ruin the trend if the budget is not good enough. The risk itself is the high expectations that government will find a balance between populism, reform and growth under a weak fiscal position. We feel global trend will have an upper hand in deciding the movement of the equity market.

In the coming week, auto stocks will be in focus as investors will keep an eye on sales for the month of January post a strong December. Global markets will be watchful of any regulatory actions, which may be taken given the recent speculation issue, doubting the efficiency of the market system.

Article first published in moneycontrol.com

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