Why are stock markets on an overdrive ?
Updated: Feb 23
Are you an amateur investor with no stock insights or 'tips' ?
Never mind this gap. You could have still grown your capital by 26.9% if you simply followed BSE S&P index in 2020. Better still, a neat return of 75.4% if you got in the market (few mortals can time the market) in March 2020. Done better than this ? Pat yourself on your back. But its worthwhile for us to understand the possible variables impacting the market.
So what explains this spectacular rise of stock market ?
Wouldn't it be erroneous to attribute a single factor for it ?
More likely its a combination of factors and events. Government's intervention and hands-off approach both have a role in this wealth generation process. We will talk about the market in India.
Never miss an crisis
In the middle of the 2020, while everyone was clamoring for cash stimulus and call for cash distribution, Government of India didn't seem to be listening. They didn't cave in and appeared 'insensitive'. Turns out, they didn't sit idle either. It was appropriate time to do reforms. Quietly without fanfare, as many were not expecting or even paying attention to reforms during the lockdowns. Series of reforms were announced which were not big bang but rather dismantling of rules and procedure which bottled existing industries. The intent was clear.
Indian companies also didn't let go of this window either. They raised record funding in 2020, shunning credit market and embracing the public market to shore up their balance sheet.
Utilizing the data
I am not privy to inner working of govt institutions and ministry. I would like to believe that policy maker were crunching the data, as they should, while fence sitter were simply calling out with their policy prescriptions - what should be the response be. It requires more motivation to analyze the data in detail before coming out with suggestions. Most experts don't have time or the necessary tools to slice and study these large set of factors.
Remember we are always working on constrained environment. Resource allocation process is delicate balancing act and needs to be simulated, wherever it can be. If you are giving some resources to an someone, you are taking away from someone, assuming everything is constant.
Government or for that matter any institution public or private should use all tools which aid their decision making. Data is one of them. Its your friend. Your must friend. You don't want to be flying blind and taking decision based on just popular opinion. Large majority is also silent.
On those reforms; right after the budget of 2019, the market didn't react immediately. Did it even matter ? I liked this approach for two reason 1) it opened up more opportunities and simplified process on business (somewhat) 2) it didn't lead to fiscal expansion. One could see government wanted ammunition at its disposal in case the crisis is protracted.
Truth be told, our growth was faltering when we entered 2020. The fiscal space was extremely limited.
Credit becomes due (to Finance ministry), when you can do more with what you have, not what everyone expects you to do.
Earlier in 2019, Government in the budget had reduced taxes for salaried income. Similarly, they started the process of reducing corporate tax, making it globally competitive. So there always was a risk of shortfall in the revenue collection.
Fiscal challenges for emerging market government
Realistically government didn't actually have 'cash' to spend, unlike government in UK, USA and other major western economies who could borrow without limits - no question asked. They could do without drawing the ire of rating agency, threatening sovereign downgrades. And its relatively cheaper for those government to do when cost of borrowing is practically zero.
Not for India. Or other emerging markets. World doesn't hold Indian rupees as global reserve currency, yet. Printing money was one option and borrowing was another. One macro economic indicator which saw some discipline over last few years has been inflation. Printing rupees would have risked that. We have already seen what reckless printing can do to economies in Latin America and Africa.
Fear of rating downgrade
The over zealous rating agency takes 'twice' more time to upgrade then downgrade emerging markets like India. Like it or now, the global investor still trust the rating agency despite the episodes of 2008 financial crisis. Our cost of capital would have gone up and this would have impacted everyone - the critical infrastructure projects, private companies finances, strain on tax collections. Remember, the capital cost is the most important factor in infrastructure projects. One cannot gamble on it. You want those city-defining high rise buildings, bridges, city infrastructure, roads, ports, airport, healthy banks, modern train network, smart cities, then we have to create an low-interest rate and stable environment. Downgrade makes it unpleasant.
What did India do ?
So despite all the sane voice with all their right intent of giving cash handout, spending money like the rest of the world was doing wasn't India's first choice. And I am glad we didn't fall for the pressure. And it didn't happen.
Though money was transferred directly to beneficiaries. MNREGA - the work for cash programme by the central government saw large disbursement during this period. This also keep the rural demand intact, apart from good crop.
And in the middle of 2020, no one could have predicted which way the pandemic would go and how long will it last. Remember we didn't have any vaccine then. If we spend all the money, what happens when the pandemic stretches on - was a very valid question to ask. Its like putting all the card on the table before even knowing the direction of the game.
Because we didn't go on spending binge, we have more data on the virus, vaccination process is on, government can now plan its spending. The budget of 2021-22 reflects that.
Factors driving stock market
2020 was also the year of reforms
The frugality, if you wish to call that, is being rewarded by the market. We didn't overspend. Old rules were taken away and sector opened up. Market eventually had to see through this reforms which were announced in the first series of measures during the lock down is finally getting the attention and the market perhaps is reflecting that.
The stock market is driven by large number of variables, in an intertwined global economy and flow of money.
A hedge fund manager's sudden hitch for India with couple of billion bets can send market high and if we care, induce the butterfly effect. That's the nature of today's finance.
New swarm of retail investor
In the hyper connected and fluid world, what would be the next trend is anybody's guess. Like we all discovered our new found love for puppies, we also fell in love with investing. In India, its estimated that 10 million new retail investment account have opened in 2020. Our need to feel loved is one theory behind the rise in adopting pets. What could have possibly led many to investment ?
Social Media Influencer
Then you have case of social media influencers, who can not only persuade you to buy a certain brand of biscuit but can also rally investment products.
Case in point being the sudden rise and fall in GameStop, an unknown company which suddenly captured business headlines for weeks. This episode can explain market movement. More dangerously, a network of well purposed influencer can move the market by creating a synthetic collective thought. This lives the gullible and honest retail investor vulnerable. They could be playing a game without realizing the factors influencing the market.
So have stock investment changed in 2020-21 ? Humans (aka influencer) with concerted and coordinated action can trick algorithmic trading ?
We saw a good year in the capital market considering we had one of the deadliest health crisis since the Spanish flu of 1918-19. Market has a mind of its own and it responded. But headlines can quickly turn bleak, the moment the market is down by 2% points. All the gains can just as easily go away if you haven't planned and make your bets on hearsay. We don't like the corrections. But if you are not worried about headlines, you should stay invested even when market sees large corrections. It will inevitably happen. How can we say that ? Because things moved far too much and too fast. It makes me uncomfortable. Don't believe me? Read some financial history to help you stay grounded.