Note Ban, POTUS & Indian Equities
KIRAN KUMAR K V
The month of November 2016 has been a vibrant month for Indian equities with two back to back surprises out in the news – Indian Government announcing the demonetisation of Rs. 500 and Rs. 1000 currency notes and Donald Trump winning the US Elections and declared to be the next President of the world’s largest economy. Indian equity markets have simply rejected both ideas and have started showing their bear faces without any delay. Markets, in general, hate uncertainty. Markets always attempt to incorporate all the information available in the market place (including privately held) and have its prediction, at least for the short term, in place. This ensures, when the actual event happens, markets would not react steeply. The case of these two events are different. Demonetisation announcement by PM Modi was least expected and Trump’s winning was a surprising news to the news channels themselves. What are the potential impacts of these two events on Indian markets in the days ahead? Given such reactions, what can we say about the behavioural trait of markets?
In the short term, at least till the end the FY17, markets may not be able to find a path of certainty. The increased chaos in the banking companies are expected to disturb the regular business of banking sector. Q3 results may not be that great in terms of profitability. But, yes, the asset quality, deposits and NPA/TA ratio may be positive. This may happen due to increased cash deposits. Flipside to this is the increased costs of servicing the customer footfall and reduced fee-based revenue.
The short term illiquidity in the hands of households will bring decline in the revenues of many cash-based businesses like real estate, unorganised retail, jewellery, restaurants and others. This is expected to bring down the overall demand in the economy. The bigger impacts of these include reduction in prices, reduced inflation (a possible deflation..!) and reduced GDP growth rates in the coming 2-3 quarters. This is reason enough for market participants to lose their confidence.
Following the old notes conversion deadline of December 30, markets would start looking forward for cues relating to two major events – Q3FY17 results and the Union Budget. Both are expected to be more dramatic than ever. The Q3 results of sectors discussed above would be most likely disappointing. The Union Budget would be expected to provide boosters for the economy, as the budgeted revenue collection by Government through increased indirect taxes due to introduction of GST from April 2017 (hopefully), increased direct tax collection due to new penal tax collection of cash depositors, and also the privatisation plans. Fiscal deficit has already got cushion through the demonetisation.
If one takes a long term perspective, demonetisation event holds many promises to the economy as a whole. Firstly, the interest rates in the markets could be brought down due to increased money supply, which in turn will boost housing, infrastructure and development oriented sectors’ performance. Secondly, books of banking companies will be stronger than ever. Banking system will also benefit from the increased number of accounts and increased transactions through banking channel. Thirdly, inflation becomes a controllable indicator, as the rate revision monetary policies will have impact for real. Fourthly, rupee can become stronger and lead to higher balance of payments. Fifthly, Government will be able to bring down the tax rates for individuals and corporates, leaving higher disposable income in the hands of households. This creates more demand and also higher savings and investments into financial markets. Fifthly, presumably the corruption, which has been one of the negative contributor to ease of doing business score (constantly pointed out by international community including World Bank), is expected to come down. Overall, the real GDP will grow at a higher rate. And ultimate beneficiaries of all these developments would be Indian Inc. and thus Indian equities.
One of the most discussed, attention-sought and analysed election campaign was witnessed in the history of US in 2016. Donald Trump winning a majority vote to helm as POTUS from January 2017 succeeding Obama, was against what most of the surveys, polls, media and analysts had expected. The radical standpoints taken by Trump during campaign were very unlikely of any POTUS candidate contested so far, more so from a republican candidate. Republicans, known to be conservative and believers of market system were contradicted by their own candidate when he spoke about creation of trade barriers and other opposing views. This led analysts to infer that Clinton, who appeared to carry the traditional Presidential persona, would be the natural choice by voters. US voters had a different take and the results were surprisingly different. Markets around the world reacted negatively to the news. Emerging markets have slumped by more than 5%, as they felt Trump to be bringing policies that make outsourcing unattractive for US Corporations. Chinese markets have plummeted by around 6%, as Trump has been vocally arguing for bringing back manufacturing jobs to US.
As already quoted above markets always abhor uncertainty. The entire analysis till the day of result had predictions tilted towards the victory of Clinton. The unexpected result was a new information and markets needed time to study the possible impacts and it was this uncertainty that led to fall in world’s major indices, including NIFTY and SENSEX from India. In the short term, till Trump actually takes over and starts revealing more though words and actions, market reactions would continue this way.
In conclusion, we can only say that Indian equities are volatile by nature and inefficient in absorbing new information. The above two events have proven the vulnerability of the markets. And, with regards to probable future direction, Indian equities may not be heading towards a recessionary downfall, but short run slump is unavoidable. Depending on the further events and actions, including, Union Budget 2017, FY17 results, GST implementation and commencement of the new Presidential term in US, Indian markets may take newer directions.