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Equities in FY07: Tale of two 'crashes' - Views on News from Equitymaster
 
 
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  • Mar 26, 2007

    Equities in FY07: Tale of two 'crashes'

    As we enter the final week of this fiscal FY07, equity markets, in India and globally, are hanging under air of uncertainties. Be it the Japanese yen carry trade unwinding, or concerns about burst of the US sub-prime mortgage bubble, or slowdown in the US and Chinese economies, or apprehensions of overheating of the Indian economy, there are factors galore that have kept the market men (speculators and investors alike) on tenterhooks in recent times. And then there is the usual anxiety of the pre-quarterly result period.

    Recent stockmarket performance
      1-Jan-07 23-Mar-07 Change
    China 2,675 3,074 14.9%
    Singapore 2,986 3,206 7.4%
    Germany 6,597 6,899 4.6%
    Brazil 44,474 45,533 2.4%
    UK 6,221 6,339 1.9%
    France 5,542 5,635 1.7%
    Japan 17,226 17,481 1.5%
    US 12,463 12,481 0.1%
    Hong Kong 19,965 19,693 -1.4%
    India 13,787 13,286 -3.6%

    FY07 has been marked by two 'meltdowns' as far as Indian equities are concerned - May-June 2006 and February-March 2007. The decline in May-June 2006 was attributed to the US Federal Reserve's stand on interest rates in the US. By this time, the Fed had already raised interest rates 16 times, each time by a quarter of percent (the Fed finally stopped after one more hike to take the US short term rates to 5.25%) to counter inflation risks in the US economy.

    What impacted global markets then was the fact that a further rise in Fed funds rates (in light of the recent inflation data) would have impaired the pace of global growth. There were apprehensions that further rate hike(s) would have negatively impacted commodity demand, which has in fact been one of the key growth drivers for many emerging markets during the past 2-3 years. Apart from these global 'concerns', there was one domestic fact that impacted sentiment for participants - prospects of new tax being imposed on select FII trades. Well, the Finance Minister later denied this!

    Coming back to not so distant times, the correction in February 2007 were kick-started by vibrations emanating from the mother of all economies, China (which has given 'birth' all these excesses, some good and some not so good, that we have witnessed in the past few years), where stocks plunged nearly 9% on the day Chinese authorities announced that they would come down hard on 'speculative' capital that drove shares to record highs. There were also talks of an interest rate hike after inflationary concerns in the past two months. Like the Indian central bank, the Reserve Bank of India (RBI), the Chinese central bank (People's Bank of China) raised bank reserve requirements by 0.5% on February 25, 2007.

    Then there was the usual uneasiness that occurs every year near the middle to the end of February as experts try to predict what the Finance Minister shall give away (or take) by way of tax concessions through the Union Budget. And this time was no different! The markets reacted negatively to the FM's corporate unfriendly budget. Then there were usual issues like fears of an economic slowdown in the US, China's proposed leash on speculative domestic capital and the realisation that the Indian economy is in an 'overheated' mode. The RBI's actions on slowing down the money supply growth added fuel to fire. All this shook investors' belief whether the Indian stockmarkets, after a 4-year dream run, are actually a pretty 'risky' place!

    These two 'meltdowns' witnessed in the Indian equity markets in FY07 have reinforced the fact that the world has become a 'flatter' place to live, work and make money in. The 'crash' or the 'healthy correction', as was witnessed in these two instances, followed what happened in other global equity markets. Call it by the name of 'crash' or 'healthy correction', or anything else as you may, what has emerged again and again is that participants have continued to resort to the 'consensus' way of doing things.

    When the markets are buoyant and everything that you pick up rises in value in a short span of time, participants (investors and speculators) tend to form a consensus that the euphoria will not end soon. More importantly, small investors, who (usually) follow such a consensus approach to investing, are the first to fall prey. Now, when the markets react sharply to global events, there emerges a consensus that it is time to 'value buy' into stocks, from whatever sector it may be, of whatever company it may be! But why?

    So, what to expect?
    We continue to believe that the Indian economy will grow at a rate of 7% to 7.5% per annum on a long-term sustainable basis. We continue to believe that earnings of India Inc. will grow at 15% per annum on a long-term sustainable basis. So do not get confused about the noise that will be created over a slower growth rate in the US economy or by the selling of Foreign Institutional Investors (FIIs) that may cause the market to decline sharply (as it did in May-June 2006).

    Focus on your portfolio, and your ability to take risks

    The effect of a slowing economy will vary by sector: capital goods companies will possibly see a slowdown in orders; but technology companies may not be affected. However, the global decline in stock markets may see a further sell-off in Indian share markets. But do not let these near-term swings and 'bull' and 'bear' markets rattle you. There is a way to be immune to all the noise about the Asian flu and global cues. The smartest and most successful investors in the world tend to ignore such volatility and always invest with a long-term perspective - they are never concerned about the daily movements in stock prices.

     

     

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