Do it yourself

The first half of the financial year FY25 has been good for financial and commodity markets. Despite elevated geopolitical concerns, inflation, and political changes in many countries, stocks, precious metals, industrial commodities and crypto made a steady move up, though not without higher volatility.

In 1HFY25, the global central bankers embarked on a path of monetary easing, with several of them cutting rates. Most notably, the People’s Bank of China (PBoC) and the Federal Reserve of the US, did rather aggressive easing. The Chinese (and Hong Kong) equities rose sharply in the last week of the 1HFY25 to erase months of underperformance. Indian equities were amongst the top performing global assets for 1HFY25. Japan, South Korea and European equities were notable underperformers.

Another notable feature of global markets was the sharp rally in precious metal. The central bankers across emerging markets accelerated their gold accumulation, in view of the geopolitical developments and trade tensions.

At present equity markets appear little jittery in view of the recent escalation in the middle east and resurfacing of the Sino-US trade tensions. Otherwise also, the post Covid growth momentum is evidently slowing down with stimulated demand waning across the globe. Fears of earnings failing to match the stock prices’ trajectory are rising. Uncertainties about the policy direction post the US presidential elections, and erratic weather conditions are some other points of concern.

India performance – 1HFY25

Indian markets performed very well in the first half of the financial year FY25. Indian equities have been amongst the top performing global assets. Indian bonds and currency have also been mostly stable. The key highlights of the India market performance could be listed as follows:

·         The benchmark Nifty50 gained 15.6% during 1HFY25; while the Midcap (+25.1%) and Small Cap (+25.6%) did much better. Consequently, overall market breadth has been strong.

·         Two third of the market gains came in the months of June and July 2024, post the elections. This was contrary to the pre-election consensus that the BJP failing to secure a majority on its own may result in sharp decline in market.

·         The total market capitalization of the NSE is higher by ~22.7%; more than gains in the benchmark indices – implying that stronger gains have occurred in the section of the market beyond indices.

·         The number of sectors outperforming the benchmark indices far outnumbers the sector underperforming. The rally was led by Consumers, metals, Pharma, and Realty sectors. PSU Banks was the only segment of the market that yielded negative returns.

·         Ship builders and chemicals were the notable outperformers amongst the individual stocks. Smaller PSU banks were notable losers.

·         Institutional flows to the secondary equity markets were positive for all six months. 1HFY25 witnessed a total flow of ~INR2697bn, out of which FPIs invested ~Rs375bn. The correlation of institutional flows with Nifty returns remained poor (~43%). 

·         The rates, currency and yields were stable in 1HFY25. Policy rates were unchanged; while money market rates were marginally lower by 20bps. Deposit rates did not see much change while lending rates were higher by 15bps.

·         The overall Indian yield curve shifted lower and flattened completely, as the RBI maintained the status quo on policy stance.

·         The economic growth for FY25 is expected to be ~7%, lower than the 8.2% achieved in FY24. Fiscal balance is expected to be better with FY25BE fiscal deficit projected at 5.1% (vs FY24RE at 5.8%).

·         CPI inflation has inched closer to the lower bound of the RBI’s tolerance band of 4%-6% with August 24 CPI inflation number coming at 4.2%.  

• Corporate performance has shown signs of slowing down in 1QFY25 with sales growth, margins improvement and RoE showing signs of fatigue. The steep post Covid upward earnings growth trajectory is now plateauing and showing signs of normalizing.

A random walk through the settlement statistic of NSE for past two decade and half decades provided some interesting insights into the market evolution over past two decades. It is interesting to note the things that have changed and the things that have not. Regardless, it is comforting to note that Indian markets are maturing well and the systemic risk appears to have subsided materially. The best part was to observe that our markets have become more democratic with deeper and wider participation.

(All data is sourced from www.nseindia.com)

Indian market maturing well

The latest bull market has shown that the Indian investors and traders are maturing very well. The tendency to recklessly over trade that was witnessed during dotcom bubble, and to some lesser extent during credit bubble of 2007-08, seems to have been reigned well now.

To give it some perspective, at the peak of the dotcom bubble, the average daily turnover of NSE was close to 0.8% of the total market capitalization in FY01. In FY08-FY09 it remained in the range of 0.3-0.4% of the total market cap. However, in the latest bull market, it peaked close to 0.3% in FY20-FY21.

In fact FY21 average daily turnover (ADT) as percentage of market cap has seen marginal decline over FY20, despite a 60% rise in the value of ADT.

Definitely, the changes in ownership pattern of Indian equity may have been at play in this. The institutional and promoter ownership is now much higher as compared to FY01. Nonetheless, there are clear signs of sensibility in day trading patterns, as depicted by the tremendous rise in the option volumes in past 10years. The traders now definitely prefer options more than the stocks, where they can better control their exposure in accordance with their risk tolerance.

A reliable evidence of the rationalization of speculative tendencies over past 20years is available in the form of lower interest in low value (penny) stocks.

In FY01, at peak of the dotcom bubble, in value terms only 8.4% of the traded value resulted into delivery of shares, while 91.6% value was intraday trading. Moreover, when we see the total number of shares traded resulting in delivery, it was 16.5%. This implies that traders were not only overtrading, they were trading more in low priced (penny) stocks.

The share of delivery in the value of trades increased to 27.6% in FY08, and this time the almost 25% of shares traded resulted in delivery; implying that the trading in penny stocks was much lower in FY08.

In FY21, the percentage of delivery has reduced materially to ~17% both in terms of value trade and number of shares traded; implying that traders continue to be cautious about penny stocks and focusing more on mid and large cap stocks for taking delivery.

Another evidence of market maturity comes from the share of smaller companies in the overall market activity.

In FY01, at the peak of dotcom bubble, numerous small, hitherto unknown and often unsustainable businesses were the top traded shares on the stock exchanges. In top 10 most active securities, 7 had market cap of 1% or less of the total market cap of NSE, with 4 having a market cap that was less than 0.1% of the total market cap.

In that year, on NSE the top 10 most active securities accounted for an insane 73% of the total traded value; whereas these securities accounted for just 13% of the total market cap. Himachal Futuristic (HFCL) with just 0.17% of the total market cap was the most active security accounting for over 15% of the total market turnover. Two other small cap companies Global Telesystem (0.11% of total market cap) and DSQ Software (0.05% of total market cap) accounted for 9% and 6.5% of total turnover respectively. To put this in perspective, the company with the largest market cap (Reliance Industries, 6.25% of total market cap) accounted for just 4% of the total turnover; and IT bellwether Infosys with 4.1% of total market cap, accounted for 8.1% of the total market turnover.

In FY08 also, 4 companies accounting for less than 1% of total market cap of NSE figured in the top 10 most active securities. The 6 top most active securities were Reliance group companies. But, the top 10 most active securities accounted for just 27% of the total turnover. Reliance Industries with 6.8% of total market cap contributed just 5% to the total turnover. IFCI was the only microcap stock in top 10 most active securities list.

Things improved significantly in FY20, when top 10 most active securities accounted for 20% of the market cap and 26% of the total turnover. Though this year also 4 companies with less than 1% of the total market cap figured in the list, the skew of share in total turnover was much smoother. Reliance Industries was again the top traded stock, but now accounting for just 3.6% of total turnover.

 

Systemic risks lower now

The stricter compliance norms, improved surveillance and disclosure practice and wisdom gained through hindsight have resulted in materially lower systemic risks in the markets.

Though the common man had started to participate in the stock markets from early 1990s as the economy was opened up, the development of Information Technology industry in late 1990s provided the real impetus. A large number of IT workers came from middle and lower middle strata of the society and had an opportunity to work in global companies. Young professionals from the smaller towns migrated to metropolis and foreign countries. ESOPs became popular and that laid foundation for a deeper and wider participation in the stock markets. The understanding about the financial investments however did not grew in tandem with the understanding of complex IT algorithms.

Besides, a large number of new entities, dealing in new economy businesses and services, came into existence. Many of these companies did not survive the test of solvency for long. Consequently, about one third of the companies listed on NSE in March 2000 had vanished by March 2004.

This was not repeated in 2008-09 and 2020 market crashes. The number of companies available for trading on NSE increased by 25% during the period from March 2007 to March 2010. During the period between March 2020 and March 2021 also the number of companies available for trading has increased by 1.5%.

Democratization of Indian markets

A key development in the stock market has been the democratization of the markets. Not long ago in the history of Indian stock market, the market participants were a small privileged group of people, mostly from established industrial families or senior corporate executives.

Common household investors had begun meaningful investment in listed equity in late 70’s at the time of forced dilution of foreign owned companies operating in India, under the provisions of a stricter Foreign Exchange Regulation Act (FERA). These companies now known as MNCs were then referred to as FERA companies in common market parlance.

Reliance in 80’s and PSU disinvestment and capital market reforms in early 90’s drew the 2^nd lot of household investors. IT boom of late 90’s drew the 3^rd and the largest set of new investors to the listed equity. However, the participants were mostly concentrated in the few larger cities of some industrialized states. The four top cities accounted for more than 80% of investment amount and investors.

Anecdotal evidence point to the fact that Covid19 enforced lockdown has drawn the latest set of investors to the equity markets. 2020 was the period when many businesses were either locked down or their workers were operating from home, whereas equity markets were functioning uninterrupted. This was one trading business that could be done from the comfort of homes and without any additional investment in infrastructure or facility building.

Since, traders and small business owner had no work to do; and bank deposit and bond returns were falling; many of them deployed their working capital in the equity trading. Many small and micro businesses which were declining since demonetization and GST implementation also shut down during this period, with their owner shifting their focus on financial investments.

Thanks to the significantly improved accessibility due to the financial inclusion efforts, technology and Fintech popularity, the participation in stock market is now much deeper and wider. People from across the country and wider spectrum of socio-economic background are participating in the equity investing.

One glimpse of this democratization process could be seen from the average trade size on the stock exchanges. In mid 1990s the average trade size on NSE was in excess of Rs1,00,000. This fell below Rs20,000 by FY12. In FY21 it has increased to above Rs 33,000, (higher than the past five year average of Rs26,000), but has again declined to around Rs29000 in past couple of months.

In a market with total market cap of Rs250trn, where the delivery percentage is just 17% of the total value and number of share traded on daily basis, an average trade size of Rs29000 is a stronger indication of democratization of market than the number of trading & depository accounts opened or mutual fund portfolios created.

 If we consider the sector wise performance since April 2020, there exists huge disparity between various sectors. While Metals and IT have remained massive outperformers; the consumer (FMCG & media) and PSU Banks have been lagging far behind. Auto, Services, Pharma, and Infrastructure have performed mostly in line with the benchmark Nifty.

Pharma and Infrastructure performance is little surprising as both the sectors had major catalysts in Covid19 and massive government spending on infra building to stimulate the sagging economy.

But what is most surprising is the lack of investors’ interest in PSU banks. Notwithstanding, numerous research upgrades of SBI; government beginning the process of disinvestment in couple of PSBs; improved profitability shown by all the PSBs in FY21; and a market heavyweight buying material stake into Canara Bank; and many private sector lenders faring much worse than their Public sector peers - PSU Banks have failed to impress the traders and investors alike. We may attribute this underperformance to a number of factors, e.g., huge losses suffered by investors who invested in these banks in past 4-5years; material equity dilution to bridge the capital inadequacy gap; uncertainty about how the Covid19 related stress will reflect in bank books etc.

Impact of Covid19 pandemic on consumers’ income and consumption behaviour might have impacted the sentiment towards the consumption sector. The displacement of a large number of workers due to pandemic may also have been a factor impacting the consumption. Notwithstanding the huge stimulus to support the household consumption, the consumption growth has been lower than the estimates. Of course expensive valuation due to outperformance of stocks in previous years may also be one of the factors.

The question now is – “Do we have enough catalysts present to cause a major sectoral rotation in the markets?”

Will a weaker USD, sharp outperformance, and expensive valuations result in traders and investors moderating their preference for IT sector?

Will supply augmentation due to easing logistic constraint, and demand tapering due to inexorbitant commodity prices, result in softening of commodity prices and therefore traders rotating out of metal stocks?

Will the well managed fiscal conditions, reasonable valuations, improved earnings and growth visibility and an earnest beginning to implement the National Asset Monetization Plan, spur interest in infrastructure sector?

We would know the answers to these questions in due course; nonetheless it is not a bad idea to be alert and keep a close watch

 My dilemma this morning is whether I should be concerned about the internal politics of the United States of America, as most of my colleagues and financial market participants appear to be! In past 20yrs, we have seen George Bush Jr. (Republican, 8yrs), Barak Obama (Democrat, 8yrs) and Donald Trump (Republican, 4yrs) as presidents of United States. In these 20years, India witnessed Atal Bihari Vajpayee (NDA, 3.5yrs), Manmohan Singh (UPA, 10yrs) and Narendra Modi (BJP, 6.5yrs) as India’s prime minister.

Evidently, a Socialist India (UPA) has lived well with Republican US (Bush); and a free economy supporter India (BJP) has lived well with Democrat (Obama) US. In past two decades, we have achieved progress in our civil nuclear program and we have been able to materially enhance our relationship with key US allies like Japan, Australia, UAE, Saudi Arab, and France; while maintain our strong relationship with Russia and Iran. The relationship with China has been volatile all through these years; though US has supported us in the rough patches of Sino-India relationship.

The issue of VISA, especially H1B VISA, has frequently made news in these past two decades. The volume and profitability from US business of our IT companies has grown manifold in these two decades, despite all this noise. The issue of FDA being particularly strict on Indian pharmaceutical exporters to US has also made to the headlines frequently. The US business of our pharmaceutical industry has also grown multifold in these two decades. The number of USFDA approved facilities in India has grown exponentially in past two decades.

Of course we can debate that the trade could have been much higher; or we did not do as well as we could have due to VISA restrictions, FDA actions etc. But, then we will have to answer some tough questions like lack of ethics and discipline at some of our pharmaceutical manufacturers, protectionist policies of Indian government, misuse of H1B and L1 VISA by some of Indian IT services companies, etc. It is therefore better to go with the empirical evidence rather than dwelling upon some hypothetical outcomes. And the empirical evidence is that Indo-US trade and strategic relations have been widening and deepening consistently. George Bush had famously expressed his “respect” for Atal Bihari Vajpayee, and “Love” for Dr. Manmohan Singh. “Barak” visited India twice (most by any US president) and expressed his reverence to Gandhi, admiration for Prime Minister Modi and commitment to relationship with India. Trump has gone much ahead in showing bromance with Prime Minister Modi and expressing love for “Hindu”. Biden has chosen Kamala Harris as his running mate and has promised favorable H1B regime for Indian IT companies. Regardless of who gets to live in White House for next four years, 2020 election may end up with highest number of Indian American elected as federal and state law makers.

I feel, worrying about the outcome of US elections may be out of habit of worrying too much. I believe, in broader context, the question “Trump” or “Biden” may not be any different from “Suicide” or “Murder” (of SSR).