Markets fear uncertainty more than bad news

Markets do not fear bad news as much as they fear uncertainty. Bad news, when clearly defined, is often easier for markets to handle than ambiguity. A weak earnings report, a rate hike, a tax increase, or even an economic slowdown can be painful—but if the contours are clear, investors can adjust expectations, reprice assets, and move forward. Uncertainty, by contrast, paralyses decision-making. It obscures future cash flows, complicates risk assessment, and raises the cost of capital across the board.

Understanding this distinction is essential to making sense of recent market behavior, where volatility often appears disconnected from headline severity.

Bad news can be priced; uncertainty cannot

The core function of markets is to price future outcomes (price discovery). This process relies on probabilities, assumptions, and models—none of which function well in the absence of clarity. When bad news arrives with sufficient detail, markets can respond decisively.

A recession forecast, for example, may lead to lower earnings estimates, compressed valuations, and sector rotation. Painful, yes—but orderly. Similarly, a clearly communicated monetary tightening cycle allows markets to adjust yield curves, currencies, and asset allocation accordingly.

Uncertainty operates differently. It does not merely reduce expected returns; it widens the range of possible outcomes. This makes valuation inherently unstable. When investors cannot confidently estimate earnings, interest rates, tax regimes, regulatory frameworks, or access to markets, they demand a higher risk premium—or step aside entirely.

Structural uncertainty vs cyclical uncertainty

Not all uncertainty is equal. Cyclical uncertainty—linked to business cycles, inflation fluctuations, or temporary policy tightening—is familiar and manageable. Markets have decades of data and experience navigating such phases. Structural uncertainty, however, is far more destabilizing.

Structural uncertainty arises when the rules themselves appear fluid. When trade frameworks change, geopolitical alignments shift, technology disrupts business models, or fiscal norms weaken, investors struggle to anchor expectations. Historical comparisons lose relevance. Models fail more frequently. The last few years have been dominated by precisely this kind of uncertainty.

Global supply chains are being restructured, but the endpoint remains unclear. Technology—especially artificial intelligence—promises productivity gains while simultaneously threatening existing revenue models. Monetary policy is constrained by high debt levels, blurring the boundary between fiscal and central bank independence. Geopolitics increasingly influences capital flows, trade access, and even currency usage. Each of these forces alone perhaps would be manageable. Together, they amplify uncertainty.

Businesses delay investment under uncertainty

One of the clearest consequences of uncertainty is delayed capital commitments. Businesses are generally willing to invest during downturns if they believe the policy environment is stable and demand will eventually recover. What they struggle with is not low demand, but unclear rules.

If tax structures may change, regulations may tighten, subsidies may disappear, or market access may be restricted, firms postpone irreversible decisions. Large investments, once made, cannot be easily undone. Uncertainty increases the value of waiting.

This behavior has a direct market impact. Slower capex translates into weaker earnings growth, lower productivity gains, and subdued job creation. Markets, sensing this hesitation, adjust valuations downward—even before earnings decline.

Policy ambiguity and market volatility

Markets respond not only to policy decisions, but to how those decisions are communicated. Clear, consistent policy—even if restrictive—is often better received than erratic or contradictory signals. A firm but predictable tax regime, for example, allows businesses to plan. A shifting or ambiguous regime encourages caution.

In recent years, policy ambiguity has become more common. Governments face competing pressures: growth versus inflation, fiscal discipline versus social spending, openness versus security. As a result, policies are sometimes announced incrementally, revised frequently, or implemented unevenly. For markets, this creates a fog.

Markets fall on “Good News”

We see markets occasionally decline on positive headlines. A policy announcement that promises reform but lacks details may increase uncertainty rather than reduce it. A growth stimulus without clarity on funding may raise concerns about fiscal sustainability. A technological breakthrough without a clear monetisation path may destabilise incumbents without creating immediate winners.

In such cases, “good news” expands the range of possible outcomes rather than narrowing it. Markets react negatively not because the news is bad, but because it introduces new unknowns.

This explains the persistent premium commanded by companies with stable franchises, even when growth appears modest. It also explains why speculative narratives struggle to sustain valuations when uncertainty dominates.

Reducing uncertainty matters more than stimulus

Stimulus can boost growth temporarily. Rate cuts can support asset prices. But neither is a substitute for clarity. Reducing uncertainty—through consistent rules, credible institutions, and transparent communication—has a more durable impact on investment behaviour than short-term incentives.

Countries that offer predictable frameworks often attract capital even during global slowdowns. Conversely, economies with strong growth potential but unclear rules struggle to convert opportunity into investment.

For investors, this distinction is critical. Growth stories matter less than governance quality during uncertain periods.

A world likely to remain uncertain

Looking ahead, there is little reason to expect uncertainty to disappear quickly. Structural transitions—technological, geopolitical, demographic—take time to resolve. Competing policy objectives will continue to create trade-offs.

Recognizing this helps explain why markets behave as they do—and how investors should respond. The goal is not to eliminate uncertainty, which is impossible, but to distinguish between known risks and unknowable ones.

In a world where rules are evolving and narratives shift quickly, the most valuable asset may not be information, but judgement—the ability to remain invested without forcing certainty where none exists.

Understanding why markets fear uncertainty more than bad news is not just an academic exercise. It is a practical guide to navigating the years ahead. 

A visit to the street

2025 is proving to be an interesting year for traders in the Indian stocks. The traders have faced multiple challenges in the past eight months; and had some good opportunities to make extraordinary profit. More notably—

What made traders’ life tough

·         The external environment has been volatile. Geopolitical conflicts in the Middle East had escalated materially. The war between Russia and Ukraine continued and developed a new trade/tariff angle for the Indian economy. India engaged with Pakistan in a small but intense war that could have serious long-term repercussions for regional geopolitics. These events caused sharp volatility in the market, causing exacerbated margin calls and losses to the traders.

·         The US imposed reciprocal (25%) and penal (25%) tariffs on imports of merchandise from India, making Indian exports to the US significantly uncompetitive in comparison to the traditional competitors like Vietnam, Bangladesh, Sri Lanka, Turkey, Indonesia, Ecuador, etc. This led to a sharp correction in the stocks of companies drawing material export revenues from the US.

·         Economic growth of India has been stable but no acceleration is seen. The demand (both consumption and investment) has remained subdued, impacting consumer companies that were over owned by traders and investors alike.

·         Earning momentum has stalled for the past few quarters, with earnings growing in single or low double digits. The valuations of several popular and fancied sectors and stocks have witnessed some de-rating, but still continue to be in the realm of “questionable” for a large majority of stocks.

·         While the implied volatility (VIX) has remained low, the realized volatility experienced by the traders has been elevated. Also, sector rotation has been swift and painful. Stocks from sectors like IT services, Pharma, FMCG, Realty and smallcap that were doing well couple of years ago and were over owned have noticeably underperformed YTD2025. While sectors like Auto, Metals and financial services that were under owned and performed poorly have outperformed.

What worked for the traders

International equities, precious metals and crypto assets have done exceedingly well YTD2025. Traders who had invested enthusiastically in Asian equities (especially greater China) a few years ago and were suffering losses have managed to recoup most of their losses. Crypto assets have provided phenomenal return, while gold and silver have also fared very well.

·         Internationally, the worst performing markets in the Post Covid period, especially, China, Hongkong, and Japan, have been top performing markets in the past one year. While India has been one of the most notable underperformers. In USD terms, India has yielded a negative return of ~5% in the past twelve months.

·         Precious metal and crypto assets have done exceedingly well for Indian investors and traders in the past twelve months.

South Block’s Doctrine, North Block’s Dilemma

 South Block’s Doctrine, North Block’s Dilemma

Past four weeks have marked a watershed in the geopolitics of South Asia. A terrorist attack in Pahalgam (J&K, India) on 22^nd April 2025, resulted in the brutal killing of 26 tourists (25 Indian and 1 Nepalese). The terrorists were believed to be from groups actively supported by the Government/Army establishment of Pakistan; and operating from the Pakistan Occupied Jammu & Kashmir (PoJK) and Pakistan.

The Government of India responded to the attack by (i) taking several diplomatic and economic measures against Pakistan over the next couple of weeks, and (ii) targeting terror infrastructure in PoJK and Pakistan, on 7^th may 2025, reportedly killing 70-100 terrorists and their allies. A number of terrorist training camps and hideouts were also destroyed in the targeted precision airstrikes by the Indian Airforce (IAF). The operation was code named “Operation Sindoor”.

Pakistan escalated the conflict by launching artillery and air attacks on civilian areas in the states of J&K and Punjab, killing several civilians. Indian forces retaliated by targeting critical Army and Airforce establishments across Pakistan.

On 10^th May afternoon, the Director Generals of Military Operations (DGMOs) of both sides agreed for a temporary cessation of hostilities. The temporary ceasefire has since been extended thrice on 12^th, 14^th and 18^th May, respectively.

There have been claims and counterclaims of the damage inflicted to each country during this operation. The President of the United States (POTUS) has claimed that he facilitated the “immediate and complete” ceasefire. There are claims of Chinese and Turkish defense experts and equipment actively participating in the conflict from the side of Pakistan. During the conflict, the International Monetary Fund (IMF) approved a US$1.3bn loan to Pakistan, with all members, except India, voting in favor; and India abstaining. This explicit support for Pakistan from several countries is being widely seen as a diplomatic setback for India.

Notwithstanding, subsequent to the ceasefire, Prime Minister Modi has enunciated a “new doctrine” for engagement with Pakistan in future. He categorically stated that any act of Pakistan supported terrorism in India will be treated as an Act of War and accordingly responded by Indian forces; ending the extant policy of retrain.

The situation as of this morning is filled with an uneasy calm. Tension is palpable on both sides of the border and Line of Actual Control in J&K (LoC). This heightened tension raises some critical questions for investors in India, especially related to India’s security, fiscal policy, and economic strategy. Some of the key questions, from an investor’s viewpoint could be listed as below:

Does the latest conflict, and subsequent response from both sides, increase the geopolitical uncertainty in the region materially, requiring India to be in a state of high continuously, notwithstanding the ceasefire declaration?

In my view, post the 22^nd April 2025, the region has regressed into much greater geopolitical uncertainty. India will likely need to maintain heightened vigilance despite the ceasefire. The underlying issues, particularly Pakistan’s alleged support for terrorism, remain unresolved. India’s new anti-terror doctrine suggests an aggressive and alert stance. Continued cross-border violations and Pakistan’s advanced foreign-origin missile and drone capabilities further underscore the need for constant readiness. The Indian government has explicitly stated it remains “fully prepared” and “ever-vigilant,” indicating that the ceasefire does not equate to a relaxation of security measures.

Frequent escalations, aggressive posturing, and targeted invasions may be the new normal at the Indo-Pak border and LoC.

Does the new normal mean material rise in security and defense spending for India?

Yes, increased spending on internal security and defense capabilities is highly likely. India’s response to the Pahalgam attack, including Operation Sindoor, and the need to counter Pakistan’s evolving military capabilities (e.g., Chinese-supplied drones and missiles) suggest a necessity for enhanced defense infrastructure and equipment. India already ranks fifth globally in military spending, with $86.1 billion in 2024, compared to Pakistan’s $10.2 billion. The recent crisis, coupled with ongoing tensions with China, may necessitate aggressive investments in advanced weaponry, border infrastructure, and cybersecurity, especially given the likely multidomain nature of the future conflict (airstrikes, drones, cyber operations). The Indian Air Force’s (IAF) planned mega military exercise post-ceasefire further indicates sustained or increased defense expenditure.

Could additional defense spending materially impact the fiscal balance of India?

Additional defense spending would definitely have an adverse impact on India’s fiscal balance. The fiscal deficit target, currently set at 4.4% of GDP for FY26BE, might witness some upward revision.

It would be challenging for the government to balance increased defense spending with austerity measures in social sector spending and general government spending (salaries are set to rise materially after the pay commission report next year). Also, the trade deals with the UK and the US may also impact revenue adversely in the short term.

In my view, the capex on non-defense infra could be hit negatively, further impacting the growth potential. The interest coverage ratio of the government of India (FY25AE ~2.65x) is already moderate. A further rise in borrowing may make it unsustainable, possibly impacting the sovereign rating.

What measures could be taken to maintain fiscal balance?

In my view, managing a potential increased fiscal deficit will likely involve a mix of additional revenue generation, expenditure rationalization, and borrowing; though the government will aim to avoid excessive borrowing to maintain investor confidence and avoid credit rating downgrades.

The government may consider higher dividends from cash rich Public Sector Undertakings (PSUs). The Finance Ministry has a history of pressing PSUs for surplus capital to meet fiscal targets; though it may constrict their growth capex and hence affect future growth outlook.

Temporary rise in the incidence of tax on higher income taxpayers and luxury consumption through additional war/infra cess may be implemented. Past budgets have used targeted levies, such as a 1-4% infrastructure cess on cars, increased excise duties on aviation fuel (from 8% to 14%), or higher taxes on tobacco products, to raise revenue without broad tax hikes.

A compliance window (Amnesty Scheme) for undeclared income or a new dispute resolution scheme, as proposed in 2016, could also be used to generate additional funds.

Selling stakes in state-run enterprises could provide funds for additional defense funding. However, it may not be easy considering the past experience. Administrative austerity measures (travel restrictions, equipment purchases, etc.) and capex reallocation by prioritizing defense infra over other infra, and seeking external emergency support could be some of the measures the government may consider.

The government may avoid measures that directly burden rural or middle-class voters, focusing instead on high-income groups, luxury goods, or corporate tax tweaks (e.g., rationalizing corporate tax for new manufacturing firms).

Obviously, fiscal balancing would be a tightrope walk for the finance minister, especially with global economic uncertainties like U.S. tariffs looming.

Could defense production companies be asked to cut margins in “national interest”?

In my view, asking defense PSUs to cut margins in the name of national interest is plausible, though complex, proposition. These companies have seen sky-high valuation multiples due to strong order books and defense modernization demands. Historically, the government has influenced PSU pricing or margins during crises, as seen in austerity measures or subsidy pressures on OMCs. A patriotic appeal could be made, especially post-Operation Sindoor, to align these firms with national security goals. However, forcing margin cuts risks eroding investor confidence, as these stocks are very popular with investors. It could also impact their ability to invest in R&D or capacity expansion, critical for long-term defense self-reliance. The government would need to balance this with incentives, like guaranteed orders or export support, to mitigate financial strain. While plausible, this move would face resistance from market participants.

Conclusion

The ceasefire, while a temporary de-escalation, does not address the structural instability of India-Pakistan relations, particularly over Kashmir. India’s assertive posture, coupled with domestic political pressures (elections, welfare commitments), suggests a delicate balancing act. Overcommitting to defense spending could strain fiscal discipline, while populist measures risk long-term economic stability. The government’s reliance on PSU dividends and targeted taxes is plausible but not sustainable without structural reforms. The role of U.S. mediation, though downplayed by India, highlights external influences on domestic policy, which could complicate nationalist narratives.

(PS: The South Block of Raisina Hills in New Delhi houses offices of the Prime Minister and Defense Minister, and External Affairs Ministers). The North Block of Raisina Hills Houses office of the Finance Minister)

Russia, China and El Nino

In the past one year, inflation has been one of the primary concerns for most countries across the globe. Rising prices of food and energy in particular have materially impacted the lives of common people on all continents. The central bankers of most major economies have hiked policy rates in the past one year to control inflation. In the current year 2023 so far, 13 major central bankers have taken policy action(s) and all of these actions have been hike in policy rates.

However, in recent weeks inflation has shown some tendency of cooling down. It is difficult to assess how much of this cooling down is due to tighter monetary conditions; and how much could be attributed to other factors like restoration of supply chains that were broken during the pandemic and warmer winters resulting in lower energy demand in the northern hemisphere, etc. Nonetheless, some central bankers have adjusted the pace of tightening to smaller hikes. Most of them, though remain circumspect about the persistence of inflation. While the debate continues over the trajectory of price hikes in the next few quarters; an overwhelming majority of experts believe that prices may remain high for much longer.

The global growth forecasts have witnessed some downgrades in the past six months as tighter monetary conditions and higher prices are seen hurting demand for consumption and investment. As per the latest assessment of the World Bank, in 2023 “the world economy is set to grow at the third weakest pace in nearly three decades, overshadowed only by the recessions caused by the pandemic and the global financial crisis….Major economies are undergoing a period of pronounced weakness, and the resulting spill-overs are exacerbating other headwinds faced by emerging market and developing economies (EMDEs).” 

With this background, three key issues that could influence the future trajectory of global prices and therefore interest rates are geopolitical situation; impact of China ending Covid restrictions and the impact of the emergence of El Nino on global food production.

Geopolitical conflict in Eastern Europe (Russia-Ukraine) has materially influenced the prices of energy and food in the past one year. Any worsening or this conflict or expansion to Western Europe could make things worse. Some events in the recent weeks have indicated that Sino-US relations may not improve anytime soon. NATO countries hardening their stand on Russia; Russia retaliating with a cut in energy output; and some key OPEC members openly expressing disagreements with US oil pricing has materially increased the uncertainty in the energy market.

China has been gradually relaxing the covid restrictions for the past many months. This has eased the logistic logjam across the world. The supply chains that were broken due to congestion at major ports, shortage of containers, short supply of key raw materials, and poor take-off have mostly been repaired. The freight rates that had become prohibitively high have eased to pre Covid (2019) levels. The debatable question however is whether China reopening will be inflationary (higher demand) or deflationary (complete supply chain restoration and consequent destocking; improved mobility of workers etc.).

As per the latest forecast of various weather agencies (see here), the probability of El Nino conditions developing in the coming summer could impact the agriculture production in major countries like India, this year. If these forecasts come true, we may see food prices remaining at elevated levels.

A variety of views prevail on these three issues and their outcome. In my view, China reopening will indubitably be deflationary for the global economy, especially metals and other raw materials).

I am however not sure about the geopolitical conditions. I would therefore continue to expect elevated crude oil prices through 2023. By the way, the RBI in its latest statement has assumed the price of Indian basket of crude oil to be US$90/bbl for FY24, against the current price of US$84.19/bbl (see here).

It is little early to talk about weather conditions in the forthcoming summer and its eventual impact on global food prices. For now, the Rabi crop in India appears to be good; and there is enough food in the Indian granaries. Thus availability of food should not be a problem for sure even if we had a poor monsoon year after three normal/excess monsoons.