Experts talk about slowdown, but market keeps rising! What should you do?

Experts talk about slowdown but market keeps rising What should you do Experts talk about slowdown, but market keeps rising! What should you do?

It is hard to define a slowdown but the macroeconomic definition is that 2 quarters of continuous fall in growth or four out of six months of fall in growth is defined as a slowdown. The paradox today is that the growth has been on a consistent downtrend over the last six quarters. In addition, high frequency indicators likes IIP growth and core sector growth have been in negative zone for 3 months in succession. However, in the midst of this economic weakness, the Nifty and the Sensex have been hitting new highs. What explains this paradox and what should investors do? Let us take a look at the GDP numbers first.

GDP touches 4.5% in September quarter (Data Source: MOSPI)

Since the middle of 2018, the GDP growth has almost halved. The growth rate has fallen steadily due to a mix of weak consumption and limited private investment. The tax cuts have been instrumental in making Indian companies more profitable but then top line growth is still under pressure. Weakness in growth could have been a lot more acute had it not been for services and government spending on public services. Traditional approach to equity tells that economic growth and stock markets can be diverged for too long. How to explain this phenomenon?

Three reasons for this GDP / stock divergence

How do you explain GDP growth hitting new lows and stock market indices hitting new highs? But, this is not just limited to India but it is a global phenomenon. Since 2016, GDP and Sensex have literally diverged and that is what is leading this trend in the stock markets, irrespective of how the GDP is panning out. Consider these statistics. In early 2016, Sensex was 23,000 while the GDP growth was above 7.5%. Between 2016 and 2019, the Sensex rallied from 23,000 to 41,000 but the GDP growth has fallen from 7.5% to 4.5%. Let us look at the 3 reasons for this divergence between stock markets and GDP growth.

  • Stock markets are at future economic potential rather than legacy economic data. This time around in India, as well as in most parts of the world, it is not about the economy at all. Markets are focusing on factors like stability of government, infrastructure spending, consumption boost, third generation reforms etc. The argument is that if the economic strategy is right then economic growth will catch up; eventually if not immediately.
  • There is the TINA (there is no alternative) factor in equity investing. Despite the P/E ratio of the Sensex being well above the average, there are 2 factors favouring equities. Firstly, where are the alternative asset classes? Demonetization put brakes on real estate and 135 bps rates cut made debt less attractive. The second factor is negative interest rates globally on bonds to the tune of nearly $15 trillion. With high pension liabilities, even pension funds and endowments are shifting to equities in a big way.
  • The finance minister has created an equity sweet spot in India. Corporate tax rate cut is likely to boost profits of Indian companies by $20 billion. That is a lot of value waiting to be created. Secondly, retail liquidity is pouring into equities. It is not direct but coming indirectly through equity funds, equity ETFs and ELSS schemes. Indian funds are seeing Rs.8300 crore worth of SIPs on a monthly basis.

Sensex at 41,000 sounds rich and lofty but there is a reason it is that high. The big question is what should investors do? Should they switch to other classes or stick to equities. Here are 3 things to do.

  • Stick to your financial plan allocation and don’t worry about valuations. Financial plans have in-built checks and balances to address these issues.
  • Adopt a systematic approach to investing and to divesting equities (SIP route) so that rupee cost averaging works in your favour.
  • Keep an eye on future growth. If growth does not recover and there is sustained fall in growth and rise in joblessness, it is time to be cautious. But that is still some time away.

zero brokerage 2 1 Experts talk about slowdown, but market keeps rising! What should you do?

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