Market Euphoria

The Indian Stock Market has been inching toward record highs and defying any kind of macro-economic data coming its way, off late. In fact, the saying that stock market indices are a reflective of the economy has been proven wrong. Many high frequency indicators like bank credit growth, investment demand, government expenditure among others are at odds with what the market is showing. Still, there is no stopping for the markets.

So, what has aided this rally despite a pronounced slowdown?
To put it in one word: “Hope”.
The Government has already taken a slew of measures to revive the economy ranging from corporate tax cuts to creating an Alternate Investment Fund (AIF) worth INR 25000 crores for the beleaguered realty sector. But it’s the expectation of future reforms which have bolstered this rally. Not to forget that during this time there had been a positive global sentiment throughout: de-escalation of geopolitical risk, better than expected American GDP data, which also steered the markets.
But is the rally myopic?

We remain a bit sceptical on the same because of the following:

1. Pricey valuations: The Indian bourses have become the most expensive in the emerging market basket. The Price to Earnings ratio of Sensex and Nifty are at 21-22 times their FY20 estimated earnings, whereas the MSCI Emerging Market index’s P/E is at 13.77. As such, a meaningful upside remains far-fetched unless earnings catch up. In fact, the valuations have become as expensive as the 2008 era, just before the Lehman crisis.

2. Not a broad-based rally: The rally has been limited to a handful of bluechip stocks like RIL, HDFC twins, ICICI Bank, among others. Moreover, the number of stocks hitting 52-week lows has soared along with Sensex and Nifty. Over 300 stocks were within 5 per cent range from their 52-week lows, which is nearly three times the number of stocks (120) that were near their 52-week highs.

3. Earnings challenge: The September quarter earnings for most of the companies were better largely owing to tax cuts. Still, the overall performance has been tepid. An analysis of 1462 companies showed net sales in the July-Sept quarter was the lowest in at least 27 quarters. Moreover, there could be more pain for the India Inc. in the coming months if Minimum Alternate Tax (MAT) which was lowered to 15 per cent from 18 per cent becomes applicable only from FY21.

4. Stretched Government finances: The Government has very little room to provide further fiscal stimulus to the economy after slashing the Corporate Tax Rate. Moreover, slowing tax collections due to the slowdown is putting more strain on the fiscal front. Just to add an important point: due to a meagre growth of 1.5 per cent during H1FY20, the gross tax revenue has to grow at 18.3 per cent during H2FY20 to meet the total expenditure of this fiscal. Given the slowdown, the task looks daunting.

Till the time any meaningful improvement happens on the macro front, the current rally would be seen with a sense of skepticism. Furthermore, for the current valuations to become comforting, an imminent recovery in earnings in warranted. Going forward, the RBI policy meet would be a key event to watch out for as it could determine the way ahead for the Indian Stock Market.

Meanwhile, kindly let us know your views!!!

Source: BSE, RBI, ET, Mint and NSO.